-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, BivN2WxuG/ZL4mAymkoY1wLlFMWGPLaIcFJisVx4ytIsXHNcyPfDhOI+7oOXd2WF 3iymzxbLdRZAQOgkc2DKCg== 0000950135-98-005078.txt : 19980915 0000950135-98-005078.hdr.sgml : 19980915 ACCESSION NUMBER: 0000950135-98-005078 CONFORMED SUBMISSION TYPE: 10-K/A PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 19971231 FILED AS OF DATE: 19980914 SROS: BSE SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: DYNAGEN INC CENTRAL INDEX KEY: 0000857171 STANDARD INDUSTRIAL CLASSIFICATION: IN VITRO & IN VIVO DIAGNOSTIC SUBSTANCES [2835] IRS NUMBER: 043029787 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K/A SEC ACT: SEC FILE NUMBER: 001-11352 FILM NUMBER: 98708484 BUSINESS ADDRESS: STREET 1: RIVERSIDE TECHNOLOGY CENTER STREET 2: 840 MEMORIAL DRIVE CITY: CAMBRIDGE STATE: MA ZIP: 02139 BUSINESS PHONE: 6174912527 MAIL ADDRESS: STREET 1: RIVERSIDE TECHNOLOGY CENTER STREET 2: 840 MEMORIAL DRIVE CITY: CAMBRIDGE STATE: MA ZIP: 02139 10-K/A 1 AMENDMENT NO. 3 TO FORM 10-K 1 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ FORM 10-K/A AMENDMENT NO. 3 TO FORM 10-K FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTIONS 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997 OR [ ] 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 1-11352 DYNAGEN, INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 04-3029787 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER) 840 MEMORIAL DRIVE, CAMBRIDGE, MASSACHUSETTS 02139 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
(617) 491-2527 (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
NAME OF EACH EXCHANGE TITLE OF CLASS ON WHICH REGISTERED -------------- --------------------- COMMON STOCK, $.01 PAR VALUE BOSTON STOCK EXCHANGE REDEEMABLE COMMON STOCK PURCHASE WARRANTS BOSTON STOCK EXCHANGE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: TITLE OF CLASS ----------- COMMON STOCK, $.01 PAR VALUE REDEEMABLE COMMON STOCK PURCHASE WARRANTS Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] NO [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.[X] As of June 1, 1998, 19,724,245 shares of the registrant's common stock, $.01 par value ("Common Stock"), were issued and outstanding. The aggregate market value of the registrant's voting stock held by non-affiliates of the registrant as of June 1, 1998, based upon the closing price of such stock on the Nasdaq Stock Market's SmallCap Market ("Nasdaq") on that date (approximately $0.51) was $10,059,365. Pursuant to Rule 12b-15 under the Securities Exchange Act of 1934, the Registrant hereby amends its Annual Report on Form 10-K for the year ended December 31, 1997 by amending and restating Items 6, 7 and 8 in their entirety as follows: - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- 2 ITEM 6. SELECTED FINANCIAL DATA The selected financial data set forth below has been derived from the audited financial statements of the Company. This information should be read in conjunction with the financial statements and notes thereto set forth elsewhere herein. The Company acquired certain assets of Able Laboratories, Inc. on August 19, 1996 and acquired Superior Pharmaceutical Company on June 18, 1997. These acquisitions affect the comparability of the data presented below, in that the results of Able and Superior are included after the respective acquisition dates. The acquisitions were accounted for as purchases. See Note 2 to the Financial Statements, entitled "Business Acquisitions."
TRANSITION PERIOD ENDED YEAR ENDED DECEMBER YEARS ENDED JUNE 30, DECEMBER 31, 31, ----------------------------------------------------- 1997 1996 1996 1995 1994 1993 ------------ ---------- ---- ---- ---- ---- STATEMENT OF OPERATIONS DATA: Revenues................. $ 14,009,730 $ 359,908 $ 555,745 $ 497,553 $ 437,005 $ 883,910 Costs and Expenses....... 24,087,512 4,687,745 5,899,650 3,836,295 4,264,141 4,388,575 Loss From Continuing Operations............. (12,241,278) (4,306,140) (6,082,494) (3,042,383) (3,645,804) (3,405,387) Loss From Discontinued Operations............. -- -- -- -- (14,945) (48,095) Net Loss................. (12,241,278) (4,306,140) (6,082,494) (3,042,383) (3,660,749) (3,453,482) Less returns to preferred stock including benefi- cial conversion features............... 2,108,000 -- 865,000 -- -- -- Net loss applicable to common stock........... (14,349,278) (4,306,140) (6,947,494) (3,042,383) (3,660,749) (3,453,482) Loss Per Share: From Continuing Operations.......... (4.48) (1.50) (2.84) (1.44) (2.21) (2.64) From discontinued Operations.......... -- -- -- -- -- Net Loss............... (4.48) (1.50) (2.84) (1.44) (2.21) (2.64) Weighted Average Number of Shares Outstanding............ 3,204,163 2,879,412 2,443,395 2,117,970 1,651,712 1,307,056
19 3
AT AT AT JUNE 30, DECEMBER 31, DECEMBER 31, ----------------------------------------------------- 1997 1996 1996 1995 1994 1993 ------------ ------------ ---- ---- ---- ---- BALANCE SHEET DATA: Total Assets............ $ 29,348,114 $ 7,463,149 $11,576,666 $ 5,114,021 $ 7,834,706 $ 5,602,289 Convertible Note Paya- ble................... 535,000 1,600,000 2,000,000 -- -- -- Long term debt.......... 328,500 -- -- -- -- -- Warrant put liability... 750,594 -- -- -- -- -- Total Liabilities....... 26,723,486 2,409,133 2,733,032 587,207 420,964 441,171 Working Capital (Defi- cit).................. (11,711,296) 5,502,295 10,203,693 4,102,747 6,967,894 4,584,747 Stockholders' Equity.... 2,624,628 5,054,016 8,843,634 4,526,814 7,413,742 5,161,118
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Note: The information set forth below should be read in connection with the financial statements and notes thereto, as well as other information contained in this Report which could have a material adverse effect on the Company's financial condition and results of operations. The reader's attention is directed, in particular, to the matters described under the headings "Special Considerations" and "Risk Factors" contained elsewhere in this Report. OVERVIEW The Company develops and markets proprietary and generic therapeutic and diagnostic products for the human health care market. The Company has begun expanding its business focus from being a development and licensing company to building a diversified health care company focused on the manufacture and distribution of generic drug products and specialty pharmaceuticals as well as the continued development of therapeutic and diagnostic products. The Company intends to implement this strategy through the acquisition of businesses, technologies and products that the Company believes are undervalued as well as through internal product development. In August 1996, the Company acquired the tablet business of Able Laboratories, Inc. ("Able"), a generic pharmaceutical product subsidiary of Alpharma, Inc. In addition, the Company has purchased all of the outstanding shares of Superior Pharmaceutical Company ("Superior"), a distributor of generic pharmaceuticals. In March 1998, the Company, through its wholly-owned subsidiary Generic Distributors, Incorporated ("GDI"), completed the acquisition of Generic Distributors Limited Partnership. The Company has financed its operations primarily through the proceeds from its public and private stock offerings, a convertible note, back debt and other loans and limited revenues from product sales and technology license fees and royalties. Management anticipates that revenues from product sales will not be sufficient to fund its current operations or produce an operating profit until such time as the Company is able to establish acceptance of its products in their respective markets and expand its distribution channels. The Company has incurred losses since inception and expects to incur additional losses until such time as it is able to successfully develop, manufacture, and sell or license its existing and proposed products and technologies. Results of Operations Year Ended December 31, 1997 as Compared with the Six-Month Period Ended December 31, 1996 Revenues for the year ended December 31, 1997 were $14,009,730 versus $359,908 for the six-month Transition Period ended December 31, 1996. This increase of $13,649,822 is primarily the result of product sales by the Company's wholly-owned generic pharmaceutical subsidiaries, Able (acquired in August 1996) and Superior (acquired in June 1997). During the six-month Transition Period ended December 31, 1996, the Company was primarily a research and development company with limited revenues. The Company's revenues for the Transition Period were derived primarily from the post-acquisition product sales by Able. 20 4 Cost of product sales was approximately 95% of product sales for the year ended December 31, 1997 due to low production and sales levels at Able which did not support the fixed manufacturing costs of the Able facility. Cost of product sales for Superior for the period since acquisition was approximately 81%. During the six-month Transition Period ended December 31, 1996, the cost of sales was 99% of product sales, again reflecting extremely low utilization of Able's manufacturing capacity. Research and development expenses for the year ended December 31, 1997 were $3,220,283 versus $1,092,253 for the six-month Transition Period ended December 1996. 1997 R&D expenses were primarily the result of the NicErase-SL Phase 3 clinical trials, now concluded, and the NicErase-SL development program which has been discontinued. The Company is also developing several generic versions of branded pharmaceuticals to support its generic drug business. Selling, general and administrative expenses for the year ended December 31, 1997 were $7,611,578 versus $3,239,180 for the six-month Transition Period ended December 31, 1996. 1997 expenses were primarily attributable to acquisition and business development costs, compensation expense of $801,034 recognized from the issuance of stock options and warrants, and the inclusion in 1997 of selling, general and administrative expenses of the Company's subsidiary operations at Able and Superior. Investment income was $120,359 for the year ended December 31, 1997 as compared to $157,788 for the six-month Transition Period ended December 31, 1996, as the Company had less funds available for investment. Interest and financing expenses of $2,283,855 for the year ended December 31, 1997, compared to $136,091 for the six-month Transition Period ended December 31, 1996, relate primarily to private placements of equity as well as private debt financing for the Superior acquisition. Six-Month Transition Period Ended December 31, 1996 Compared with the Six-Month Period Ended December 31, 1995 Revenues Revenues for the six month period ended December 31, 1996 (the "Transition Period") were $360,000 versus $333,000 for the six months ended December 31, 1995. This increase of $27,000 is a result of an increase in Able product sales partially offset by a decrease in fee revenue which was due to one-time fees from Bristol-Meyers Products recognized during the six months ended December 31, 1995. The increase in product sales resulted from the Company realizing sales from its Able subsidiary since its acquisition on August 19, 1996. The Company's product sales also increased due to improved diagnostic products sales. Cost of Sales Cost of sales was 99% of product sales for the Transition Period compared with 50% for the six months ended December 31, 1995. Tablet and suppository production at Able during the Transition Period did not support the minimum level of fixed manufacturing costs required at the facility. Management expects that the cost of product sales, as a percentage of sales, will decrease as sales orders and production volumes increase. Research and Development Expenses Research and development expenses for the Transition Period were $1,092,000 versus $1,037,000 for the six months ended December 31, 1995, an increase of $55,000. This increase is primarily attributable to costs associated with the ongoing NicErase-SL Phase 3 clinical trial and the Company's efforts in filing a 510(k) application with the U.S. Food and Drug Administration for its NicCheck(R) product. The Company is also conducting early stage research on a bacterial extract for the treatment of infectious diseases. Selling, General and Administrative Expenses Selling, general and administrative expenses for the Transition Period were $3,239,000 versus $1,189,000 for the six months ended December 31, 1995, an increase of $2,050,000. The increase in selling, general and administrative expenses is primarily due to additional payroll and plant operating costs of approximately $793,000 resulting from the acquisition of Able. In addition, the Company incurred additional costs of approximately $865,000 for the use of business consultants to develop, seek and obtain alliances for certain 21 5 Company products, potential products and financial development. The Company incurred additional costs of approximately $80,000 towards patent applications for several of its products. Legal expenses increased by approximately $106,000 primarily related to assistance with technology licensing, pending acquisitions and corporate regulatory filings. The remainder is due to a net increase in other operating expenses. Other Income (Expense) Investment income increased by $46,000 from $112,000 to $158,000 for the Transition Period as compared to same period ended December 31, 1995. The Company had greater funds available for investment during the Transition Period compared to the six months ended December 31, 1995. The Company incurred interest expense of $74,000 and amortized debt financing costs of $62,000 during the Transition Period, both associated with the $2,000,000 convertible note issued in 1996. Income Taxes There were no provisions for income taxes for the Transition Period and the six months ended December 31, 1995 due to operating losses incurred by the Company and valuation reserves applied against deferred tax assets. As of December 31, 1996 and December 31, 1995, for Federal and state income tax reporting purposes, the Company had net operating loss carry forwards of approximately $23,460,000 and $19,270,000 respectively. In addition, the Company had Federal and state research tax credit carry forwards of approximately $583,000 and $120,000, respectively, available to reduce future tax liabilities. Year Ended June 30, 1996 Compared to Year Ended June 30, 1995 Revenues Revenues for the year ended June 30, 1996 ("Fiscal 1996") were $556,000 versus $498,000 for the year ended June 30, 1995 ("Fiscal 1995"). This increase of $58,000 is a result of an increase in license fees of $85,000 offset by a $27,000 decrease in product sales. The increase in license fee revenue is attributable to one-time license fees received under distribution arrangements for the Company's MycoAKT and MycoDot products. MycoDot and MycoDyn Uritec product sales remained consistent between Fiscal 1996 and Fiscal 1995. The decrease in total product sales resulted from lower shipments of other products in Fiscal 1996. Cost of Sales Cost of product sales was 44% of net product sales in Fiscal 1996 compared to 54% in Fiscal 1995. This decrease in the cost of sales percentage is primarily attributable to a reallocation of certain manufacturing staff to product marketing and support roles. Research and Development Expenses Research and development expenses were $3,118,000 for Fiscal 1996 versus $1,718,000 for Fiscal 1995, an increase of $1,400,000. This increase is primarily due to approximately $1,200,000 in additional therapeutic product development costs and $285,000 in compensation expense resulting from stock grants. The increase in therapeutic development is mainly attributable to the initiation of the first of two planned pivotal Phase 3 clinical trials for the Company's NicErase-SL smoking cessation product. The increase in research and development expenses was partially offset by a decrease in diagnostic product development costs of $74,000. The Company has limited diagnostic product development primarily to NicCheck, a test to detect the presence of nicotine. Selling, General and Administrative Expenses Selling, general and administrative expenses for Fiscal 1996 were $2,685,000 versus $1,984,000 for Fiscal 1995, an increase of $701,000. Selling, general and administrative expenses increased in the following areas: staffing - -- $355,000, investor relations -- $165,000, consulting -- $111,000 and legal -- $62,000. The increase in investor relations expenses is attributable to a new program designed to inform investors on corporate developments and strategy. Legal expenses increased primarily for assistance with certain licensing arrange- 22 6 ments, regulatory issues, stock grants and options. The increase in staffing expenses is primarily due to the award of stock grants and options. Consulting expenses relate to assistance provided towards developing a strategy for business alliances for certain Company products. Other Income (Expense) The increase in investment income is primarily due to greater funds available for investment during Fiscal 1996. The increases in interest expense and debt financing cost amortization are primarily attributable to the $985,000 beneficial conversion discount on the Company's $2,000,000 convertible note issued in 1996. Income Taxes There were no provisions for income taxes for Fiscal 1996 and Fiscal 1995 due to operating losses incurred by the Company and valuation reserves applied against deferred tax assets. LIQUIDITY AND CAPITAL RESOURCES As of December 31, 1997, the Company had a working capital deficit of $11,711,296, compared to working capital of $5,502,295 at December 31, 1996. Cash and investment securities were $697,045 at December 31, 1997 compared to $5,117,000 at December 31, 1996. Working capital decreased primarily as a result of the Company's operating losses including approximately $2,900,000 of operating losses of its Able subsidiary, the accrual of a current liability in the amount of approximately $4,000,000 relating to an acquisition obligation associated with the Superior acquisition and the classification of long-term debt obligations as to which covenant defaults have occurred as current liabilities. The Company expects its cash needs for the next 12 months to be approximately $7,000,000. Of this amount, approximately $3,000,000 is expected to be general and administrative and approximately $4,000,000 is expected to be for working capital. The Company expects to generate the needed cash through additional financing activities. If the Company is not able to raise the needed financing, it may need to seek the protection of the bankruptcy courts. See "Special Considerations -- Financial Condition of the Company" and "Risk Factors -- Financial Condition". In June 1997, the Company completed the acquisition of Superior Pharmaceutical Company, of Cincinnati, Ohio, for an adjusted purchase price of $15.9 million in cash, notes and stock. The Company guaranteed that the selling shareholders would receive at least $5,000,000 in the stock value as of June 1998. The agreement provides that the Company will make up any shortfall in this guaranteed stock value through the issuance of additional stock and cash. The Company is currently trying to renegotiate its obligations to the selling shareholders of Superior. No assurance can be given that the Company will be successful in this effort. If the Company is not able to renegotiate these obligations, it may need to seek the protection of the bankruptcy courts. See "Special Considerations -- Financial Condition." Superior markets and distributes generic prescription and over-the-counter pharmaceuticals to independent, chain and institutional pharmacies throughout the United States. The Company financed this acquisition by issuing Series A and Series B Preferred Shares which yielded $6,100,000 and subordinated debt of $3,000,000 obtained from two institutional lenders. The Company also invested $1,500,000 in Superior towards working capital as required by the secured lender. Superior has a $9,000,000 secured revolving facility through Huntington National Bank, of Cincinnati, Ohio. Furthermore, subsequent to the acquisition of Superior in June 1997, Superior experienced loss of key personnel, declining revenues, erosion of margins and an overall decline in its business. A number of key personnel at Superior were recruited by competitors immediately after the acquisition. The Company believes that these individuals may have felt uncertain about their future under new management and were unwilling to accept assurances that their positions were secure. While the Company made efforts to retain key employees, some expressed doubt as to the Company's commitment and its financial viability and elected to pursue other opportunities. Since several of these employees were responsible for key functions such as purchasing products at most competitive prices, managing the sales force and bidding on corporate and federal contracts, their departure had a direct negative impact on Superior's sales and margins. This caused an overall decline in the results of Superior's operations after the acquisition, and resulted in the Company not meeting certain loan covenants stipulated by the secured and subordinated lenders. As a result, the secured lender has agreed to 23 7 extend the credit line that matured in April 1998 for 60 days and, upon review of the Company's performance, may consider further extension. The Company obtained a waiver and extension of the third quarterly payment of $515,625 to the selling shareholders which was due on March 31, 1998. The agreement provides that the selling shareholders of Superior may draw this payment out of its operating cash flows provided that Superior and DynaGen meet the loan covenants. The Company has also received an extension on the payment of the $535,000 note which matured on February 7, 1998. The Company has begun initial discussions with the selling shareholders of Superior to renegotiate the acquisition obligation related to the guaranteed stock value of $5,000,000 as of June 1998. The Company, pursuant to the terms of the purchase and sale agreement, is required to issue a certain number of shares which at current stock prices will satisfy approximately $917,000 of this obligation. The balance of $4,083,000 has been accrued as a current liability at December 31, 1997. While these discussions have been positive, there is no assurance that the parties will come to an agreement or that such an agreement, if reached, will be on terms favorable to the Company. Failure to reach an agreement will result in further defaults on the Company's loan covenants and may allow the selling shareholders certain rights under the purchase and sale agreement, including but not limited to the pledge of all of Superior's shares. While neither the selling shareholders nor the secured lender nor the subordinated lender have informed the Company of their intentions to exercise their rights under various agreements, there is no assurance that the Company will successfully renegotiate the covenants, come in compliance with the existing or proposed covenants and reclassify its obligations as either long-term debt or equity. In such circumstances, the Company will continue to show substantial working capital deficit and continue to be in default of its agreements. If the Company is not able to renegotiate the selling shareholders of Superior or renegotiate or meet its obligations to Huntington National Bank, the Company may need to seek the protection of the bankruptcy courts. The Company continues to operate its Able Laboratories, Inc. manufacturing facility for manufacture and distribution of generic drugs. In March 1997, the Company entered into an agreement with Kali Laboratories for development and clinical testing of certain prescription pharmaceuticals. Under this agreement, Kali would be reimbursed for its development efforts on a milestone basis and receive royalties from the sale of the products. Able has a working capital deficit and management expects Able will require approximately $4,000,000 in the next 12 months to continue operations. No assurance can be given that such financing will be available upon reasonable terms. If the Company cannot obtain sufficient financing or otherwise meet Able's requirements, the Company may be required to close that operation or seek protection of the bankruptcy courts. The Company's private placement of Series A and Series B Preferred Shares allowed investors to convert into shares of common stock at a floating discount to the market of approximately 25%. This investment, along with the outlicensing of the Company's lead product, NicErase-SL, and continued losses at both DynaGen and Able, resulted in a severe negative impact on the Company's stock price. The stock price was further depressed due to below-market conversions and selling of common shares by the holders of Series A and Series B Preferred Shares. As a result, the Company reached its limit of 75,000,000 authorized shares. On March 4, 1998, the Company held a special meeting of stockholders and approved a one for ten reverse split of its outstanding share. As a result, at the effective date of the reverse split, March 10, 1998, 75,000,000 shares of common stock, $0.01 par value per share, were authorized, and approximately 7,500,000 were issued and outstanding. As of March 31, 1998, there were 14,667,951 shares of Common Stock outstanding. This increase is due to conversions of preferred stock. Management has initiated intensive reviews of its operations and is implementing plans to cure covenant defaults, raise additional equity, and improve the liquidity and cash resources for general working capital purposes. Specifically, at the corporate level, the Company has discontinued all R&D activity either through terminating the programs or outlicensing the products to other companies. The Company's lead product to date, NicErase-SL, has been licensed to Nastech Pharmaceutical, of Hauppauge, NY. The Company has reduced its workforce by approximately 40 employees through termination and attrition. The Company is also negotiating to sublease all or part of its current facilities in Cambridge, MA to further reduce its overhead expenses. In 1998, management expects to maintain a skeleton staff of approximately seven full-time and four part-time employees to manage the corporate functions of the Company. Management is also actively reviewing every cost center for further optimization and cost reductions. 24 8 In November 1997, the Company initiated the same measures at its Able manufacturing facility. The Company has reduced its workforce by 50 percent through terminations and attrition. Management has actively initiated programs to increase sales of its products to existing customers and is seeking to bring back customers it has lost over the past two years. The Company is also renegotiating its development agreement with Kali Laboratories to minimize further cash outlays for product development. The Company has also received offers from two service contractors for clinical testing in return for deferred compensation, warrants and royalty payments on new products. The Company has also initiated a modest internal R&D program at Able to develop prescription drugs which do not require FDA approval. These "grandfathered" products are expected to generate revenues by December 1998. Management expects that given the capital resources, the operations at Able Laboratories could increase sales and result in marginal losses beginning in the year 1999. Management in conjunction with key personnel at Superior has implemented a program to reverse the decline in the general business of the Company. Specific actions taken at Superior include recruitment of key personnel; optimization of the product line reducing the number of different items or stock keeping units ("SKUs") in its inventory, reducing the number of vendors suppling same or similar items and updating the price list to reflect costs of inventory items; reduction in the G&A expenses; and an aggressive program to seek competitive business in both the government as well as corporate sectors. Superior is also negotiating with its primary vendors' supply agreements on favorable terms which will improve the gross margins and make Superior more competitive in the marketplace. To date, the Company has met substantially all of its requirements for capital through the sale of its securities. The negative impact of the events in 1997 has therefore severely limited the Company's ability to raise further capital in a conventional sale of its securities. The Company plans to raise capital in order to finance the working capital requirements. There can be no assurance that the Company will be able to secure additional financing or that such financing will be available on favorable terms. Specifically, the Company has entered into an agreement with an investment banker to locate sources of financing. Management believes that any financing which will create short-term supply or additional common shares in the market would only result in further depression of the price of the Common Stock, making it even more difficult to raise capital. Therefore, the Company intends to seek financing primarily from those sources who will be long-term investors. In view of the Company's current stock price and its financial condition, it is exceedingly difficult to find such investors. However, the Company has had limited and preliminary discussions with investors and to date has issued $350,000 of Series H Preferred Stock pursuant to this arrangement. The Series H Preferred Stock is convertible into Common Stock beginning 12 months from date of issuance. The Company is attempting to obtain additional interim short-term financing over the next several weeks. The Company plans to use the interim financing if any is obtained, for general working capital, partial payment to the creditors and the limited internal research and development program at Able. If the Company cannot raise such financing, it may be forced to seek the protection of the bankruptcy courts. See "Special Considerations" and "Risk Factors -- Financial Condition." The Company is also pursuing additional sources of capital for the long-term needs of the Company. The Company has engaged a merchant banking firm to seek direct investments into its subsidiaries, specifically Able Laboratories, in return for equity and royalties. There is no assurance that such financing will be available, and if available will be on terms favorable to the Company. Furthermore, management has evaluated proposals which may include raising additional capital through the sale of registered securities. The Company has filed a registration statement on Form S-3 for the sale of Series D Convertible Preferred Shares. The registration statement has not been declared effective. The Company expects to raise substantial additional capital through this arrangement. If the Company cannot raise such financing, it may be forced to seek the protection of the bankruptcy courts. See "Special Considerations" and "Risk Factors -- Financial Condition." The Company has also been working with its trade creditors to reduce its obligations. A substantial majority of the creditors have accepted the Company's payments plans, which include periodic payments, discounts of amounts outstanding, and acceptance of Company shares. 25 9 YEAR 2000 COMPLIANCE Certain computer programs and microprocessors use two digits rather than four to define the applicable year. Any computer program that has date-sensitive software and microprocessors may recognize a date using "00" as the year 1900 rather than 2000. This phenomenon could cause a disruption of the Company's operations, including, among other things, a temporary inability to send invoices, or engage in similar normal business activities. Management believes the Company is substantially year 2000 compliant with respect to its sales, administration, and general operations. Prior to purchasing any new equipment or software, it is Company policy to ensure that the specifications include year 2000 compliance. However, there can be no guarantee that the systems of other companies on which the Company's systems will rely will be converted on a timely basis, or that a failure to convert by another company, or a conversion that is incompatible with the Company's systems, would not have a material impact on the Company. Based on its current assessment, management believes that year 2000 compliance will not have a material adverse impact on the future operations of the Company. RISK FACTORS CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS The Company does not provide forecasts of its future financial performance. However, from time to time, information provided by the Company or statements made by its employees may contain "forward looking" information that involves risks and uncertainties. In particular, statements contained in this Form 10-K that are not historical facts (including but not limited to, statements contained in "Item 1. Business" relating to the Company's strategy with respect to the development and marketing of the Company's products and to statements contained in "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" relating to liquidity and capital resources) constitute forward looking statements and are made under the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. The Company's actual results of operations and financial condition have varied and may in the future vary significantly from those stated in any forward looking statements. Factors that may cause such differences include, without limitation, the risks, uncertainties and other information discussed within this Form 10-K, as well as the accuracy of the Company's internal estimates of revenue and operating expense levels. The following discussion of the Company's risk factors should be read in conjunction with the financial statements and related notes thereto. The following factors, among others, could cause actual results to differ materially from those contained in forward looking statements contained or incorporated by reference in this report and presented by management from time to time. Such factors, among others, may have a material adverse effect upon the Company's business, results of operations and financial condition. Financial Condition. For the year ended December 31, 1997, the Company incurred net losses of approximately $12,241,278. For the three months ended March 31, 1998, the Company incurred net losses of approximately $1,679,062. As of March 31, 1998, the Company had approximately $440,643 in cash and cash equivalents and a net worth of $3,172,810. The Company's current liabilities, as of December 31, 1997, aggregated approximately $25,644,392. The Company expects its cash needs for the next twelve months to be approximately $7,000,000. The Company does not presently have adequate cash from operations to meet these needs. In order to meet its needs for cash to fund its operations, the Company must obtain additional financing and renegotiate the terms of its current arrangements with creditors. The Company is presently in default under a number of its arrangements, agreements and instruments with creditors, with the result that the Company's obligations under such agreements and instruments may be accelerated. If the Company is unable to obtain significant additional financing or to renegotiate its arrangements with existing creditors, it may be obliged to seek protection from its creditors under the bankruptcy laws. See "Special Considerations -- Company's Common Stock May Be Delisted From Nasdaq Stock Market; "Management's Discussion and Analysis -- Liquidity and Capital Resources"; and the financial statements and notes thereto included as part of this Report. 26 10 Ability to Continue As A Going Concern. The Company's independent auditors have issued an opinion on the financial statements of the Company, as of December 31, 1997 and for the year then ended which includes an explanatory paragraph expressing substantial doubt about the Company's ability to continue as a going concern. Among the reasons cited by the independent auditors as raising substantial doubt as to the Company's ability to continue as a going concern are the following: the Company has incurred recurring losses from operations resulting in an accumulated deficit and a working capital deficiency at December 31, 1997. In addition, the Company has debt obligations which are in default and a liability in connection with its acquisition of Superior Pharmaceutical Company, and the equity of Superior Pharmaceutical Company is restricted under the terms of Superior's loan agreement. These circumstance raise substantial doubt about the Company's ability to continue as a going concern. If the Company is unable to secure significant additional financing or to renegotiate its agreements with its existing creditors, it may be obliged to seek protection from its creditors under the bankruptcy laws. See "Special Considerations -- Company's Ability to Continue As A Going Concern"; "Management's Discussion and Analysis -- Liquidity and Capital Resources"; and the financial statements and notes thereto included as part of this Report. Common Stock Subject to Delisting From Nasdaq SmallCap Market. The Company has received a notice from the Nasdaq Stock Market, Inc. ("Nasdaq") that it does not meet the applicable listing requirements and that the Company's Common Stock is therefore subject to delisting. The Company has elected to exercise its right to a written hearing to contest the delisting of its securities in accordance with Nasdaq's procedures. The Company does not meet the Nasdaq listing requirements. Although Nasdaq has the discretion to grant exceptions to the listing requirements, there is no assurance that it will do so in the Company's case. The Company anticipates that, if its Common Stock is delisted from the Nasdaq SmallCap Market, it will continue to trade on the Boston Stock Exchange and may also be quoted on the OTC Bulletin Board. However, delisting of the Company's Common Stock from the Nasdaq SmallCap Market could have a material adverse effect on the liquidity of the Common Stock and on the Company's ability to raise capital necessary for the Company's continued operations. See "Special Considerations -- Company's Common Stock May Be Delisted From Nasdaq Stock Market." History of Losses; Anticipation of Future Losses. The Company has incurred operating losses since its inception and has an accumulated deficit of $37,541,544 as of December 31, 1997. The Company incurred a net loss of $1,679,062 for the quarter ended March 31, 1998, a net loss of $12,241,278 for the year ended December 31, 1997, a net loss of $4,306,140 for the six months ended December 31, 1996, and a net loss of $1,809,816 for the six months ended December 31, 1995. The Company incurred a net loss of $6,082,494 for the fiscal year ended June 30, 1996, compared with a net loss of $3,042,383 for the fiscal year ended June 30, 1995. Such losses have resulted principally from expenses incurred in research and development and from general and administrative costs associated with the Company's development efforts. In addition, the Company's Able subsidiary has incurred operating losses resulting primarily from insufficient revenues. The continued development of the Company's products will require the commitment of substantial resources to conduct further development and preclinical and clinical trials, and to establish manufacturing, sales, marketing, regulatory and administrative capabilities. The Company expects to incur substantial operating losses over the next several years as its product programs expand, various clinical trials commence and marketing efforts are launched. The amount of net losses and the time required by the Company to reach sustained profitability are highly uncertain, and to achieve profitability the Company must, among other things, successfully complete development of its products, obtain regulatory approvals, and establish manufacturing and marketing capabilities by itself or with third parties. There is no assurance that the Company will ever generate substantial revenues from its proprietary and generic products or achieve profitability. Future Capital Needs; Uncertainty of Additional Funding. It is anticipated that the Company will continue to expend significant amounts of capital to fund its research and development, clinical trials and generic pharmaceutical business and future acquisitions, if any. The Company's available working capital is inadequate for completion of the Company's development programs, and additional financing will be necessary for the continued support of the Company's proposed products and operations, including the establishment of manufacturing, marketing and distribution capabilities for its proposed products and the continued operations of Able, Superior and GDI. There can be no assurance that the Company will be able to secure additional 27 11 financing or that such financing will be available on favorable terms. If the Company is unable to obtain such additional financing, the Company's ability to maintain its current level of operations would be materially and adversely affected and the Company will be required to reduce or eliminate its expenditures relating to its business. Risks Associated with Subsidiary Operations. The Company's results of operations depend to a large degree upon the performance of its subsidiaries, including its recently acquired subsidiaries Able, Superior and GDI. In its role as a holding company with respect to these subsidiaries, the Company is dependent on dividends or other intercompany transfers for funds from the subsidiaries to meet the Company's obligations. Agreements between the Company and certain of its creditors restrict the Company's ability to cause its subsidiaries to make such dividends or other intercompany transfers. Claims of creditors of the Company's subsidiaries, including trade creditors, will generally have priority as to the assets of such subsidiaries over the claims of the Company and the holders of the Company's indebtedness. Contingent Obligations with Respect to Superior Acquisition. The Company used a combination of cash, a note and 166,667 shares of Common Stock (after giving effect to a one-for-ten reverse split of the common stock outstanding) to acquire Superior in June 1997. The Agreement and Plan of Merger for the Superior acquisition provides that the Company is also obligated to issue to the former stockholders of Superior up to an additional 1,666,667 shares of Common Stock if on June 18, 1998 the Common Stock has not had an average closing bid price of at least $30.00 per share for the 10 previous trading days. The merger agreement provides further that DynaGen shall pay to the former Superior stockholders in immediately available funds the difference between $5,000,000 and the then current aggregate market value of all shares issued to the former Superior stockholders. If the Common Stock continued to trade at its present price of approximately $0.50 per share, the Company would become obligated to pay approximately $4,083,000 in cash to the former stockholders of Superior. There can be no assurance that the market value of the Common Stock issued to the former Superior stockholders will be $5,000,000 or greater as of June 18, 1998 or that the Company will have the ability to meet any future obligation to pay cash to the former Superior stockholders. The Company's inability to meet any such obligation or other fixed or contingent obligations of the Company as they become due could have a material adverse effect on the Company's ability to continue its operations. Uncertainties Related to NicErase. Under applicable law, the Company's current or future licensees will not be permitted to sell NicErase, and thus generate any revenue from their development of NicErase, unless they obtain the necessary regulatory approvals from the FDA for the commercial sale of that product. To obtain such regulatory approvals, the Company's current or future licensees must demonstrate to the satisfaction of the FDA, through preclinical studies and clinical trials, that NicErase is safe and effective. In light of the Company's recently completed pivotal Phase 3 clinical trial of NicErase-SL, which did not show statistically significant efficacy, the Company is unable to predict whether delivery formulations of lobeline other than sublingual will demonstrate acceptable safety and efficacy to obtain FDA approval. There can be no assurance that the Company's current or future licensees will be able to successfully formulate new delivery systems for lobeline, that such licensees will have sufficient technological or financial resources to initiate and complete the required clinical trials, or that such trials will demonstrate sufficient safety and efficacy to obtain the required regulatory approvals or develop marketable products. A number of companies in the pharmaceutical industry have suffered significant setbacks in advanced clinical trials, even after promising results in earlier trials. If any future clinical trials do not show NicErase to be safe and effective in any alternative delivery format, and if the Company's licensees are thus unable to commercialize NicErase, the Company will not realize any revenues from the NicErase product. Integration of Acquisitions. In August 1996, the Company acquired substantially all of assets of Able, in June 1997, the Company purchased all of the outstanding shares of Superior and in March 1998, the Company acquired substantially all of the assets of GDI. There can be no assurance that the anticipated benefits from the acquisitions will be realized. Additionally, there can be no assurance that the Company will be able to effectively market the existing Able products, that it will obtain FDA approval to market additional generic drugs or that it will be successful in managing the combined operations. The integration of operations of the Company's subsidiaries requires substantial attention from management, many of whom have limited experience in integrating acquisitions. The diversion of management's attention, the process of integrating the 28 12 businesses and any difficulties encountered in the transition process could cause an interruption of business, and could have a material adverse effect on the Company's operations and financial performance. Loss of Key Employees. The Company and its subsidiaries have in the past year experienced loss of key personnel due to layoffs and attrition. While the management believes that the remaining employees have adequately performed routine tasks, it will be necessary to fill several of these positions in the near term. There is no assurance that the Company will be able to attract and retain qualified employees and that the remaining employees will continue to perform these functions satisfactorily. The Company's inability to attract and retain qualified employees may result in further decline in the Company's business and its financial condition. Risks Associated with Managing a Changing Business. The Company has begun to expand its business focus from being a development and licensing company to building a diversified healthcare company focused on the manufacture and distribution of generic drug products as well as the continued development of therapeutic and diagnostic products. In order to achieve this expansion, the Company must undergo substantial changes in its operations, which may significantly strain the Company's limited administrative, operational and financial resources. The ability of the Company to achieve its business objectives will depend in large part on its ability to build and expand its manufacturing operations and sales and marketing capabilities, to generally expand its operational capabilities and its financial and management information systems, to develop the management skills of its managers and supervisors and to train, motivate and manage both its existing employees and the additional employees that will be required if the Company is to expand its business. There can be no assurance that the Company will succeed in developing all or any of these capabilities, and any failure to do so would have a material adverse effect on the Company's business, financial condition and results of operations. Limited Manufacturing Capability and Experience. The Company's NicCheck(R), MycoDot(R) and MycoAKT(R) products are currently made by licensed manufacturers. The Company intends to enter into licenses, joint venture and similar collaborative arrangements with third parties for the manufacture of other proprietary products and proposed products. There are no other such agreements and there can be no assurance that the Company will be successful in securing manufacturing agreements for its products or that such agreements will prove to be on terms favorable to the Company. In addition, the Company's dependence upon third parties for the manufacture of its products and proposed products could have an adverse effect on the Company's profitability and its ability to deliver its proposed products on a timely and competitive basis. To the extent that the Company attempts to manufacture any of its products, there can be no assurance that the Company will be able to attract and retain qualified manufacturing personnel, or build or rent manufacturing facilities. The Company's generic therapeutic products are manufactured at its Able Laboratories facility in South Plainfield, New Jersey. In order to maintain compliance with FDA Good Manufacturing Practices ("GMP") standards, the Company will have to make significant investments in its infrastructure and plant facility. The Company will need to raise capital to finance these investments and there can be no assurance that the Company will be able to obtain such financing or that such financing will be available on favorable terms. There can be no assurance that such capital expenditures and overhead costs will not have a material adverse effect upon the Company's ability to achieve profitability. There can be no assurance that the Company will retain the key employees it acquired in the Able acquisition. Limited Commercialization of Proprietary Products. The Company has commercially introduced and is currently marketing through distributors only three of its proprietary products, yielding limited revenues from the sale of these products. Historically, substantially all of the Company's revenues had been generated from research and development contracts and license fees. The Company's ability to achieve profitability will depend on its ability to develop and introduce commercially viable products, obtain regulatory approvals for these products and either successfully manufacture, market and distribute such products on its own or enter into collaborative agreements for product manufacturing, marketing and distribution. Many of the Company's proposed therapeutic and diagnostic products will require substantial further development, preclinical and clinical testing, and investment by the Company or third party licensees in manufacturing, marketing and sales infrastructures prior to their commercialization. No assurance can be given that the Company's development 29 13 efforts will be successfully completed, that regulatory approvals will be obtained, or that these products, once introduced, will be successfully marketed. Potential Product Liability; Limited Insurance Coverage. The testing, marketing and sale of pharmaceutical products for human use entail inherent risks. Liability might result from claims made directly by consumers or by pharmaceutical companies or others selling the Company's products. The Company's Superior and Able subsidiaries presently carry product liability insurance in amounts that the Company believes to be adequate, but there can be no assurance that such insurance will remain available at a reasonable cost or that any insurance policy would offer coverage sufficient to meet any liability arising as a result of a claim. The Company intends to seek to obtain insurance coverage if and when its proposed products are commercialized but can give no assurance that it will be able to obtain such insurance on reasonable terms or that, if obtained, such insurance will be sufficient to protect the Company against such potential liability or at a reasonable cost. The obligation to pay any product liability claim or a recall of a product could have a material adverse affect on the business, financial condition and future prospects of the Company. Lack of Marketing Experience. The Company currently does not plan to market its proprietary products directly and does not have adequate resources or expertise to develop a substantial marketing organization and internal sales force for these products. Since the Company does not have the financial or other resources to undertake extensive direct marketing activities, the Company intends to enter into marketing arrangements with third parties, including possible joint venture, license or distribution arrangements. While the Company intends to license its products for manufacture and sale to established health care or pharmaceutical companies, it has had very limited success in its efforts to enter into such agreements to date. There can be no assurance that the Company will be able to locate collaborative partners or that these strategic alliances, if consummated, will prove successful. With respect to the Company's generic therapeutic products, there can be no assurance that present and potential customers of Able and Superior will continue their recent buying patterns, and any significant delay or reduction in orders could have a material adverse effect on the Company's near-term business and results of operations. Regulation by Government Agencies. The Company's research, preclinical development, clinical trials, manufacturing and marketing of its proposed products are subject to extensive regulation by numerous governmental authorities in the United States (including the FDA), and other equivalent foreign regulatory authorities. The process of obtaining FDA and other required regulatory approvals is lengthy and expensive. There can be no assurance that the Company will be able to obtain the necessary approvals for clinical testing or for the manufacturing or marketing of its proposed products. Further, additional governmental regulation may be established which could prevent or delay regulatory approval of the Company's products. The regulatory process may delay for long periods, and ultimately prevent, marketing of new products or impose costly procedures that would have a materially adverse effect on the Company's business. Failure to comply with the applicable regulatory requirements can, among other things, result in fines, suspensions of regulatory approvals, product recalls, operating restrictions and criminal prosecution. The Company's success in the generic drug market depends, in part, on its ability to obtain FDA approval of ANDAs for its new products, as well as its ability to procure a continuous supply of raw materials and to validate the manufacturing processes used to produce consistent test batches for FDA approval. Sources for certain materials for the Company's products must be approved by the FDA, and in many instances only one source has been approved. If raw materials from a specified supplier were to become unavailable, the Company would be required to file a supplement to its ANDA and revalidate the manufacturing process using a new supplier's materials. This could cause a delay of several months in the manufacture of the drug involved and the consequent loss of potential revenue and market share. Additionally, there is often a time lag, sometimes significant, between the receipt of ANDA approval and the actual marketing of the approved product due to this validation process. The Able Laboratories facility is subject to plant inspections by the FDA to determine compliance with GMP standards. The Company could be subject to fines and sanctions such as the suspension of manufacturing or the seizure of drug products if it were found to be in non-compliance with GMP standards. 30 14 Rapid Technological Advances and Competition. The therapeutic and diagnostic markets in which the Company competes have undergone and can be expected to continue to undergo rapid and significant technological advances. There can be no assurance that the technological developments of others will not render the Company's technology or products incorporating such technology either uneconomical or obsolete. The Company competes with a number of specialized biotechnology companies and major pharmaceutical companies. Most of these companies have substantially greater financial, technical and human resources and research and development staffs and facilities, as well as substantially greater experience in conducting clinical trials, obtaining regulatory approvals, and manufacturing and marketing products than does the Company. There can be no assurance that the Company's products or proposed products will be able to compete successfully. In addition, with its newly acquired generic product line, the Company is now competing in a new market with off-patent drug manufacturers, brand-name pharmaceutical companies that manufacture off-patent drugs, the original manufacturers of brand-name drugs and manufacturers of new drugs that may be used for the same indications as the Company's products. There is no assurance that the Company will compete successfully in this market. Revenues and gross profit derived from generic pharmaceutical products tend to follow a pattern based on regulatory and competitive factors unique to the generic pharmaceutical industry. As patents for brand name products and related exclusivity periods mandated by regulatory authorities expire, the first generic manufacturer to receive regulatory approval for generic equivalents of such products is usually able to achieve relatively high revenues and gross profit. As other generic manufacturers receive regulatory approvals on competing products, prices and revenues typically decline. Accordingly, the level of revenues and gross profit attributable to generic products developed and manufactured by the Company is dependent, in part, on its ability to develop and introduce new generic products, the timing of regulatory approval of such products, and the number and timing of regulatory approvals of competing products. In addition, competition in the United States generic pharmaceutical market continues to intensify as the pharmaceutical industry adjusts to increased pressures to contain health care costs. Brand name companies are increasingly selling their products into the generic market directly by acquiring or forming strategic alliances with generic pharmaceutical companies. No regulatory approvals are required for a brand name manufacturer to sell directly or through a third party to the generic market, nor do such manufacturers face any other significant barriers to entry into such market. These competitive factors may have a material adverse effect on the Company's ability to sell its generic products. Dependence on Patents and Proprietary Technology. The Company owns certain patents and has applied for other patents relating to its technology and proposed products. No assurance can be given, however, whether pending patent applications will be granted or whether any patents granted will be enforceable or provide the Company with meaningful protection from competitors. Even if a competitor were to infringe the Company's patents, the costs of enforcing its patent rights may be substantial or even prohibitive. In addition, there can be no assurance that the Company's proposed products will not infringe the patent rights of others. The Company may be forced to expend substantial resources if the Company is required to defend against any such infringement claims. The Company also may desire or be required to obtain licenses from others in order to further develop, produce and market commercially viable products effectively. There can be no assurance that such licenses will be obtainable on commercially reasonable terms, if at all, that the patents underlying such licenses will be valid and enforceable or that the proprietary nature of the unpatented technology underlying such licenses will remain proprietary. The Company also relies on unpatented proprietary know-how and trade secrets, and employs various methods including confidentiality agreements with employees, consultants, manufacturing and marketing partners to protect its trade secrets and know-how. However, such methods may not afford complete protection and there can be no assurance that others will not independently develop such trade secrets and know-how or obtain access thereto. The manufacture and sale of certain products developed by the Company will involve the use of processes, products or information, the rights to certain of which are owned by others. Although the Company has obtained licenses with regard to the use of certain such processes, products and information, there can be no assurance that such licenses will not be terminated or expire during critical periods, that the Company will be able to obtain licenses for other rights which may be important to it, or, if obtained, that such licenses will 31 15 be obtained on commercially reasonable terms. If the Company is unable to obtain such licenses, the Company may have to develop alternatives to avoid infringing patents of others, potentially causing increased costs and delays in product development and introduction, or precluding the Company from developing, manufacturing or selling its proposed products. Additionally, there can be no assurance that the patents underlying any licenses will be valid and enforceable. To the extent any products developed by the Company are based on licensed technology, royalty payments on the licenses will reduce the Company's gross profit from such product sales and may render the sales of such products uneconomical. Early Stage of Product Development. Several of the Company's proposed products, including its specialty pharmaceuticals, are at an early stage of development. The Company does not expect that its early stage products will be available for a significant number of years, if at all. The early stage products will require significant research and development, and potential products that appear to be promising at early stages of development may not reach the market for a number of reasons. Potential products may be found ineffective or cause harmful side effects during preclinical testing or clinical trials, fail to receive necessary regulatory approvals, be difficult to manufacture on a large scale, be uneconomical to produce, fail to achieve market acceptance or be precluded from commercialization by proprietary rights of third parties. There can be no assurance that the Company's or its collaborative partners' product development efforts will be successfully completed, that required regulatory approvals will be obtained or that any products, if introduced, will be successfully marketed or achieve customer acceptance. Uncertainty of Availability of Health Care Reimbursements. The ability of the Company to maintain profitability in Superior's generic distribution business or to commercialize its product candidates depends in part on the extent to which reimbursement for the cost of such products will be available from government health administration authorities, private health insurers and other organizations. Third party payors are attempting to control costs by limiting the level of reimbursement for medical products, including pharmaceuticals, which may adversely effect the pricing of the Company's product candidates. Moreover, health care reform has been, and may continue to be, an area of national and state focus, which could result in the adoption of measures which could adversely affect the pricing of pharmaceuticals or the amount of reimbursement available from third party payors. There can be no assurance that health care reimbursement laws or policies will not materially adversely affect the Company's ability to sell its products profitably or prevent the Company from realizing an appropriate return on its investment in product development. Uncertainties Related to Product Suppliers. Superior purchases its products from several pharmaceutical manufacturers. If a manufacturer is unable to supply a product or is unable to supply a product at a competitive price, Superior may lose revenues or experience significantly reduced gross profit margins. One or more of Superior's products could be subject to a manufacturer's product recall due to manufacturing defects or other reasons. Such recalls would result in lost revenues and additional costs to Superior. There can be no assurance that Superior can maintain a continuous and uninterrupted supply of products. Customer Concentration; Consolidation of Distribution Network. The distribution network for pharmaceutical products has in recent years been subject to increasing consolidation. As a result, a few large wholesale distributors control a significant share of the market. In addition, the number of independent drug stores and small chains has decreased as retail pharmacy consolidation has occurred. Products sold by the Company's Superior and GDI subsidiaries are subject to return in the case of improperly filled orders, overstocking and expiration of items. The rate of product returns at Superior and GDI has been minimal. Further consolidation among, or any financial difficulties of, distributors or retailers could result in the combination or elimination of warehouses, thereby stimulating product returns to Superior. Consolidation or financial difficulties could cause customers to reduce their inventory levels, or otherwise reduce purchases of Superior's products, which could have a materially adverse effect on the Company's business, results of operations and financial condition. Volatility of Stock Price. The market for securities of technology companies, including those of the Company, has been highly volatile. The market price of the Company's Common Stock has fluctuated between $70.00 and $1.25 from January 1, 1993 to December 31, 1997 and was approximately $0.63 on June 1, 1998, and it is likely that the price of the Common Stock will continue to fluctuate widely in the 32 16 future. Announcements of technical innovations, new commercial products, results of clinical trials, regulatory approvals, patent or proprietary rights or other developments by the Company or its competitors could have a significant impact on the Company's business and the market price of the Common Stock. Adverse Consequences Associated with the Obligation to Issue Substantial Shares of Common Stock Upon Conversion of Convertible Securities. As of June 1, 1998 the Company was obligated to issue approximately 24,101,957 shares of Common Stock for issuance upon the conversion or exercise of its outstanding warrants, rights, convertible preferred stock and a convertible note and 1,763,446 shares of Common Stock have been reserved for issuance to employees, officers, directors and consultants. The price which the Company may receive for the Common Stock issuable upon exercise of such options and warrants will, in all likelihood, be less than the market price of the Common Stock at the time of such exercise. Consequently, for the life of such options and warrants the holders thereof may have been given, at nominal cost, the opportunity to profit from a rise in the market price of the Common Stock. The exercise of all of the aforementioned securities may also adversely affect the terms under which the Company could obtain additional equity capital. In all likelihood, the Company would be able to obtain additional equity capital on terms more favorable to the Company at the time the holders of such securities choose to exercise them. In addition, should a significant number of these securities be exercised, the resulting increase in the amount of the Common Stock in the public market could have a substantial dilutive effect on the Company's outstanding Common Stock. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The Company's Consolidated Financial Statements and related Independent Auditors' Report are presented in the following pages. The financial statements filed in this Item 8 are as follows: Independent Auditors' Report Financial Statements: Consolidated Balance Sheets -- December 31, 1997 and 1996 Consolidated Statements of Loss -- Year Ended December 31, 1997, Six Months Ended December 31, 1996 and 1995 and Years Ended June 30, 1996 and 1995 Consolidated Statements of Changes in Stockholders' Equity -- Year Ended December 31, 1997, Six Months Ended December 31, 1996 and Years Ended June 30, 1996 and 1995 Consolidated Statements of Cash Flows -- Year Ended December 31, 1997, Six Months Ended December 31, 1996 and 1995 and Years Ended June 30, 1996 and 1995 Notes to Consolidated Financial Statements Consolidated Financial Statements and Financial Statement Schedules as of December 31, 1997 and 1996 and for the year ended December 31, 1997, the six months ended December 31, 1996 and 1995 and the years ended June 30, 1996 and 1995 are filed as exhibits hereto and listed in Items 14(a)(1) and (2), and are incorporated herein by reference. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE Not applicable. 33 17 INDEPENDENT AUDITORS' REPORT The Board of Directors and Stockholders DYNAGEN, INC. Cambridge, Massachusetts We have audited the accompanying consolidated balance sheets of DynaGen, Inc. and subsidiaries as of December 31, 1997 and 1996, and the related consolidated statements of loss, changes in stockholders' equity and cash flows for the year ended December 31, 1997, the six months ended December 31, 1996 and the years ended June 30, 1996 and 1995. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of DynaGen, Inc. and subsidiaries as of December 31, 1997 and 1996, and the consolidated results of their operations and their cash flows for the year ended December 31, 1997, the six months ended December 31, 1996 and the years ended June 30, 1996 and 1995 in conformity with generally accepted accounting principles. The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 1 to the consolidated financial statements, the Company has incurred recurring losses from operations resulting in an accumulated deficit and a working capital deficiency at December 31, 1997. In addition, the Company has debt obligations which are in default, a significant acquisition obligation in connection with its acquisition of a subsidiary, Superior Pharmaceutical Company ("Superior"), and restricted access to the cash and equity of Superior under the terms of Superior's loan agreement. These circumstances raise substantial doubt about the Company's ability to continue as a going concern. Management's plans in regard to these matters are also described in Note 1. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty. As described in note 1, the Company restated its financial statements to present the effect of a beneficial conversion discount on the convertible notes issued in 1996. WOLF & COMPANY, P.C. Boston, Massachusetts April 14, 1998 34 18 DYNAGEN, INC. CONSOLIDATED BALANCE SHEETS
DECEMBER 31, --------------------------- 1997 1996 ------------ ------------ ASSETS (Note 6) Current assets: Cash and cash equivalents (including interest-bearing deposits of $1,835,000 at December 31, 1996)........... $ 697,045 $ 2,112,300 Investment securities available for sale at fair value (Note 3)............................................... -- 3,004,700 Accounts receivable, net of allowance for doubtful accounts of $43,118 at December 31, 1997............... 3,152,779 261,932 Rebates................................................... 713,976 -- Inventory (Note 4)........................................ 9,111,324 451,883 Notes receivable (Note 8)................................. 110,000 185,000 Prepaid expenses and other current assets................. 147,972 295,613 ----------- ----------- Total current assets................................... 13,933,096 6,311,428 ----------- ----------- Property and equipment, net (Note 5)...................... 1,772,878 673,969 ----------- ----------- Other assets: Customer lists, net of accumulated amortization of $1,361,200 (Note 2).................................... 12,250,800 -- Goodwill, net of accumulated amortization of $22,751 (Note 2)..................................................... 363,468 -- Patents and trademarks, net of accumulated amortization of $89,164 and $65,639.................................... 345,381 265,840 Deferred debt financing costs, net of accumulated amortization (Note 6).................................. 359,621 119,039 Deposits and other assets................................. 322,870 92,873 ----------- ----------- Total other assets..................................... 13,642,140 477,752 ----------- ----------- $29,348,114 $ 7,463,149 =========== ===========
35 19 DYNAGEN, INC. CONSOLIDATED BALANCE SHEETS -- (CONTINUED)
DECEMBER 31, --------------------------- 1997 1996 ------------ ------------ LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Bank overdraft............................................ $ 142,616 $ -- Notes payable (Note 6).................................... 8,348,333 -- Loan payable -- bank (Note 6)............................. 6,584,710 -- Accounts payable.......................................... 6,390,421 712,239 Accrued payroll and payroll taxes......................... 95,312 96,894 Acquisition obligation (Note 2)........................... 4,083,000 -- ------------ ------------ Total current liabilities.............................. 25,644,392 809,133 Warrant put liability (Note 6)............................ 750,594 -- Long term debt (Notes 6 and 10)........................... 328,500 1,600,000 ------------ ------------ Total liabilities...................................... 26,723,486 2,409,133 ------------ ------------ Commitments and contingencies (Note 9).................... Stockholders' equity (Notes 1, 2, 6, 9, 10 and 13): Preferred stock, $.01 par value, 10,000,000 shares authorized, 63,522 shares of Series A, B, C and G outstanding, (liquidation value $6,348,417):........... 635 -- Common stock, $.01 par value, 75,000,000 shares authorized, 4,315,137, and 2,910,623 shares issued and outstanding............................................ 43,151 29,106 Additional paid-in capital................................ 40,122,386 30,323,869 Accumulated deficit....................................... (37,541,544) (25,300,266) ------------ ------------ 2,624,628 5,052,709 Unrealized gain on investment securities available for sale (Note 3).......................................... -- 1,307 ------------ ------------ Total stockholders' equity............................. 2,624,628 5,054,016 ------------ ------------ $29,348,114 $ 7,463,149 ============ ============
See accompanying notes to consolidated financial statements. 36 20 DYNAGEN, INC. CONSOLIDATED STATEMENTS OF LOSS
YEAR ENDED SIX MONTHS ENDED DECEMBER 31, DECEMBER 31, YEARS ENDED JUNE 30, ------------ ------------------------- ------------------------- 1997 1996 1995 1996 1995 ------------ ----------- ----------- ----------- ----------- (UNAUDITED) REVENUES (NOTE 11): Product sales......................... $ 13,920,904 $ 358,467 $ 57,855 $ 220,745 $ 247,553 Fees and royalties.................... 88,826 1,441 275,000 335,000 250,000 ------------ ----------- ----------- ----------- ----------- Total revenues........................ 14,009,730 359,908 332,855 555,745 497,553 ------------ ----------- ----------- ----------- ----------- Costs and expenses: Cost of sales......................... 13,255,651 356,312 28,837 96,680 134,392 Research and development.............. 3,220,283 1,092,253 1,036,622 3,118,145 1,718,006 Selling, general and administrative... 7,611,578 3,239,180 1,188,733 2,684,825 1,983,897 ------------ ----------- ----------- ----------- ----------- Total costs and expenses.............. 24,087,512 4,687,745 2,254,192 5,899,650 3,836,295 ------------ ----------- ----------- ----------- ----------- Operating loss........................ (10,077,782) (4,327,837) (1,921,337) (5,343,905) (3,338,742) ------------ ----------- ----------- ----------- ----------- Other income (expense): Investment income, net................ 120,359 157,788 111,521 367,715 296,555 Interest and financing expense (Note 6)................................. (2,283,855) (136,091) -- (1,106,304) (196) ------------ ----------- ----------- ----------- ----------- Other income (expense), net........... (2,163,496) 21,697 111,521 (738,589) 296,359 ------------ ----------- ----------- ----------- ----------- Net loss.............................. (12,241,278) (4,306,140) (1,809,816) (6,082,494) (3,042,383) Less returns to preferred stockholders: Beneficial conversion feature (Note 10)................................ 1,918,000 -- -- 865,000 -- Dividends paid and accrued............ 190,000 -- -- -- -- ------------ ----------- ----------- ----------- ----------- Net loss applicable to common stock..... $(14,349,278) $(4,306,140) $(1,809,816) $(6,947,494) $(3,042,383) ============ =========== =========== =========== =========== Net loss per share-basic (Note 1)....... $ (4.48) $ (1.50) $ (0.81) $ (2.84) $ (1.44) ============ =========== =========== =========== =========== Weighted average shares outstanding..... 3,204,163 2,879,412 2,221,765 2,443,395 2,117,970 ============ =========== =========== =========== ===========
See accompanying notes to consolidated financial statements. 37 21 DYNAGEN, INC. CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (NOTES 1, 2, 6, 9, 10 AND 13)
PREFERRED STOCK COMMON STOCK ADDITIONAL ----------------------- -------------------- PAID-IN ACCUMULATED SHARES AMOUNT SHARES AMOUNT CAPITAL DEFICIT ---------- ---------- ---------- ------- ----------- ------------ Balance at June 30, 1994............... -- $ -- 2,117,454 $21,174 $19,300,479 $(11,869,249) Exercise of stock options.............. -- -- 50 1 374 -- Exercise of underwriters' warrants..... -- -- 27,345 274 128,483 -- Decrease in unrealized loss on investment securities................ -- -- -- -- -- -- Net loss for the year ended June 30, 1995................................. -- -- -- -- -- (3,042,383) ---------- ---------- ---------- ------- ----------- ------------ Balance at June 30, 1995............... -- -- 2,144,849 21,449 19,429,336 (14,911,632) ---------- ---------- ---------- ------- ----------- ------------ Exercise of underwriters' warrants..... -- -- 50,398 504 36,621 -- Exercise of public warrants............ -- -- 324,449 3,244 3,851,963 -- Shares issued in private placements.... 1,178,264 3,461,150 152,069 1,521 1,389,890 -- Conversion of preferred stock.......... (1,178,264) (3,461,150) 161,283 1,613 3,459,537 -- Beneficial conversion feature of convertible note..................... -- -- -- -- 985,075 -- Exercise of stock options.............. -- -- 9,586 96 5,479 -- Employee stock and stock option grants............................... -- -- 11,725 117 558,740 -- Stock options issued for future services............................. -- -- -- -- 55,225 -- Stock issued for interest obligation... -- -- 1,641 16 37,317 -- Change in unrealized gain (loss) on investment securities................ -- -- -- -- -- -- Net loss for the year ended June 30, 1996................................. -- -- -- -- -- (6,082,494) ---------- ---------- ---------- ------- ----------- ------------ Balance at June 30, 1996............... -- -- 2,856,000 28,560 29,809,183 (20,994,126) ---------- ---------- ---------- ------- ----------- ------------ Exercise of stock options.............. -- -- 8,177 82 16,418 -- Stock issued for interest obligation... -- -- 5,005 50 79,567 -- Stock options issued for services...... -- -- -- -- 55,742 -- Conversion of note payable............. -- -- 41,441 414 362,959 -- Increase in unrealized gain on investment securities................ -- -- -- -- -- -- Net loss for the six months ended December 31, 1996.................... -- -- -- -- -- (4,306,140) ---------- ---------- ---------- ------- ----------- ------------ Balance at December 31, 1996 -- -- 2,910,623 29,106 30,323,869 (25,300,266) ---------- ---------- ---------- ------- ----------- ------------ Shares issued in private placements.... 69,950 699 147,500 1,475 6,672,473 -- Stock issued for Superior acquisition.......................... -- -- 166,667 1,667 915,333 -- Exercise of stock options.............. -- -- 150 2 1,123 -- Issuance of common stock purchase warrants............................. -- -- -- -- 450 -- Delayed registration penalty........... -- -- -- -- (328,500) -- Stock options and warrants issued for service.............................. -- -- -- -- 801,034 -- Stock issued for interest obligation... -- -- 6,418 64 59,774 -- Conversions of notes payable........... 5,015 50 113,959 1,140 1,495,163 -- Conversion of preferred stock.......... (11,443) (114) 757,320 7,573 (7,459) -- Stock issued for services.............. -- -- 212,500 2,124 189,126 -- Decrease in unrealized gain on investment securities................ -- -- -- -- -- -- Net loss for the year ended December 31, 1997............................. -- -- -- -- -- (12,241,278) ---------- ---------- ---------- ------- ----------- ------------ Balance at December 31, 1997........... 63,522 $ 635 4,315,137 $43,151 $40,122,386 $(37,541,544) ========== ========== ========== ======= =========== ============ UNREALIZED GAIN (LOSS) ON INVESTMENT SECURITIES AVAILABLE FOR SALE TOTAL -------------------- ------------ Balance at June 30, 1994............... $(38,662) $ 7,413,742 Exercise of stock options.............. -- 375 Exercise of underwriters' warrants..... -- 128,757 Decrease in unrealized loss on investment securities................ 26,323 26,323 Net loss for the year ended June 30, 1995................................. -- (3,042,383) -------- ------------ Balance at June 30, 1995............... (12,339) 4,526,814 -------- ------------ Exercise of underwriters' warrants..... -- 37,125 Exercise of public warrants............ -- 3,855,207 Shares issued in private placements.... -- 4,852,561 Conversion of preferred stock.......... -- -- Beneficial conversion feature of convertible note..................... -- 985,075 Exercise of stock options.............. -- 5,575 Employee stock and stock option grants............................... -- 558,857 Stock options issued for future services............................. -- 55,225 Stock issued for interest obligation... -- 37,333 Change in unrealized gain (loss) on investment securities................ 12,356 12,356 Net loss for the year ended June 30, 1996................................. -- (6,082,494) -------- ------------ Balance at June 30, 1996............... 17 8,843,634 -------- ------------ Exercise of stock options.............. -- 16,500 Stock issued for interest obligation... -- 79,617 Stock options issued for services...... -- 55,742 Conversion of note payable............. -- 363,373 Increase in unrealized gain on investment securities................ 1,290 1,290 Net loss for the six months ended December 31, 1996.................... -- (4,306,140) -------- ------------ Balance at December 31, 1996 1,307 5,054,016 -------- ------------ Shares issued in private placements.... -- 6,674,647 Stock issued for Superior acquisition.......................... -- 917,000 Exercise of stock options.............. -- 1,125 Issuance of common stock purchase warrants............................. -- 450 Delayed registration penalty........... -- (328,500) Stock options and warrants issued for service.............................. -- 801,034 Stock issued for interest obligation... -- 59,838 Conversions of notes payable........... -- 1,496,353 Conversion of preferred stock.......... -- -- Stock issued for services.............. -- 191,250 Decrease in unrealized gain on investment securities................ (1,307) (1,307) Net loss for the year ended December 31, 1997............................. -- (12,241,278) -------- ------------ Balance at December 31, 1997........... $ -- $ 2,624,628 ======== ============
See accompanying notes to consolidated financial statements. 38 22 DYNAGEN, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED SIX MONTHS ENDED DECEMBER 31, DECEMBER 31, YEARS ENDED JUNE 30, ------------ ------------------------- ------------------------- 1997 1996 1995 1996 1995 ------------ ----------- ----------- ----------- ----------- (UNAUDITED) Cash flows from operating activities: Net loss...................................... $(12,241,278) $(4,306,140) $(1,809,816) $(6,082,494) $(3,042,383) Adjustments to reconcile net loss to net cash used for operating activities: Beneficial conversion feature of convertible note...................................... -- -- -- 985,075 -- Stock and stock options issued for services.................................. 992,284 55,742 -- 558,857 -- Depreciation and amortization............... 1,714,250 129,558 32,440 125,610 64,195 Amortization and accretion of (discounts) premiums on investment securities......... (10,152) (31,497) (19,539) (134,474) 101,553 Stock issued for interest obligation........ 59,838 79,617 -- 37,333 -- Write-off of patent costs................... -- -- -- 41,852 40,893 (Increase) decrease in operating assets: Accounts receivable....................... (428,612) (172,229) (23,621) (60,732) 30,518 Rebates................................... (215,672) -- -- -- -- Inventory................................. (1,268,351) (138,583) -- -- -- Prepaid expenses and other current assets.................................. 170,149 12,543 (47,227) (57,780) 24,121 Deposits and other assets................. (211,250) (90,895) -- -- -- Increase (decrease) in operating liabilities: Accounts payable and accrued expenses..... 4,521,843 142,068 (3,770) 329,858 (77,933) Deferred revenue.......................... -- (65,967) (150,000) (184,033) 250,000 ------------ ----------- ----------- ----------- ----------- Net cash used for operating activities............................ (6,916,951) (4,385,783) (2,021,533) (4,440,928) (2,609,036) ------------ ----------- ----------- ----------- ----------- Cash flows from investing activities: Purchase of investment securities........... (1,186,455) (2,567,445) (5,937,166) (29,913,212) (3,187,379) Proceeds from sales and maturities of investment securities..................... 4,200,000 9,683,450 5,600,000 24,174,000 5,500,000 Purchase of wholly-owned subsidiary......... (6,878,463) (700,000) -- -- -- Purchase of property and equipment.......... (959,224) (200,370) (2,874) (36,020) (23,339) Patent and trademark costs.................. (103,067) -- (32,867) (72,611) (69,293) Decrease in deposits........................ -- -- -- -- 9,325 (Increase) decrease in notes receivable..... 75,000 (110,000) -- (75,000) -- ------------ ----------- ----------- ----------- ----------- Net cash provided by (used for) investing activities.................. (4,852,209) 6,105,635 (372,907) (5,922,843) 2,229,314 ------------ ----------- ----------- ----------- ----------- Cash flows from financing activities: Net proceeds from stock warrants and options..................................... 1,125 16,500 3,896,088 3,897,907 129,132 Net proceeds from private stock placements.... 6,775,920 -- -- 4,852,561 -- Net proceeds from debt placements............. 3,326,898 -- -- 1,725,295 -- Net repayments of loan payable -- bank........ 524,013 -- -- -- -- Increase in bank overdraft.................... 142,616 -- -- -- -- Repayment of Superior notes payable........... (416,667) -- -- -- -- Principal payments on capital lease........... -- -- -- -- (5,824) ------------ ----------- ----------- ----------- ----------- Net cash provided by financing activities............................ 10,353,905 16,500 3,896,088 10,475,763 123,308 ------------ ----------- ----------- ----------- ----------- Net change in cash and cash equivalents......... (1,415,255) 1,736,352 1,501,648 111,992 (256,414) Cash and cash equivalents at beginning of period........................................ 2,112,300 375,948 263,956 263,956 520,370 ------------ ----------- ----------- ----------- ----------- Cash and cash equivalents at end of period...... $ 697,045 $ 2,112,300 $ 1,765,604 $ 375,948 $ 263,956 ============ =========== =========== =========== =========== Supplemental cash flow information: Interest paid................................. $ 574,300 $ -- $ -- $ -- $ 196 Schedule of non cash investing and financing activities: On June 18, 1997, the Company purchased all of the common stock of Superior Pharmaceutical Company, Inc. for $15,850,000. In connection with the acquisition, non cash financing activities, liabilities assumed and goodwill and customer lists were as follows: Fair value of assets acquired............... $10,810,660 Cash paid for common stock.................. (6,250,000) Common stock issued and acquisition obligation................................ (5,000,000) Note payable issued, net of adjustment...... (4,600,000) Liabilities assumed......................... (8,263,478) ------------ Goodwill and customer lists (exclusive of other acquisition costs of $694,890)...... $13,302,818 ============ Additional cash flow information is included in Notes 2 and 6.
See accompanying notes to consolidated financial statements. 39 23 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Business and Basis of Presentation The consolidated financial statements include the accounts of DynaGen, Inc. (the "Company") and its wholly-owned subsidiaries, Able Laboratories, Inc. ("Able"), which is engaged in the manufacture of generic pharmaceuticals, Superior Pharmaceutical Company ("Superior"), which is engaged in the distribution of generic pharmaceuticals BioTrack, Inc. and Apex Pharmaceuticals, Inc. which are developing diagnostic and therapeutic products. All significant intercompany balances and transactions have been eliminated in consolidation. In March 1998, the Company acquired Generic Distributors Limited Partnership which is engaged in the distribution of generic pharmaceuticals. (See Note 13) Financial Statement Restatement The accompanying financial statements have been restated from those originally issued to reflect a change in accounting for the February 1996 issuance of a convertible note, as described in note 6 to the financial statements. The convertible note could be converted at a discount to the traded market price of the common stock into which the securities are convertible. At the date of issuance, the company did not allocate any portion of the proceeds received to the beneficial discount. Subsequently,, the Securities and Exchange Commission announced its position that a beneficial conversion discount on convertible notes should be computed based the quoted market value of the Company's Common Stock and this amount should be recognized as additional interest expense and an addition to paid-in capital. The company estimated the amount of the beneficial conversion discount at the date of issuance to be $985,000 and the financial statements have been restated to comply with the accounting treatment described above. A summary of the impact of the restatement on the company's financial statements follows:
PERIOD AS REPORTED AS RESTATED - ------ ------------ ------------ June 30, 1996: Net Loss.................................................. $ (5,097,419) $ (6,082,494) ============ ============ December 31, 1996: Additional paid-in capital................................ $ 29,338,794 $ 30,323,869 ============ ============ Accumulated deficit....................................... $(24,315,191) $(25,300,266) ============ ============ December 31, 1997: Additional paid-in capital................................ $ 39,137,311 $ 40,122,386 ============ ============ Accumulated deficit....................................... $(36,556,469) $(37,541,544) ============ ============
Going Concern The Company has incurred recurring losses from operations resulting in an accumulated deficit of $37,541,544 and a working capital deficiency of $11,711,296 at December 31, 1997. In addition, the Company is in default with respect to certain covenants in its debt agreements and obligated to make payments as follows: GFL Performance Fund Limited -- The Company issued a 8% Convertible Note to GFL Performance Fund in the amount of $2,000,000 in February, 1996. The balance of this note, $535,000 was due on February 7, 1998, however ,the lender granted an extension on the payment of this note. In connection with this extension the Company agreed to increase the principal amount due to $798,755. The note and 40 24 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) the increased principal amount are reflected as current liabilities in the balance sheet at December 31, 1997. (See Note 6). Sirrom Capital Corporation ("Sirrom") and Odyssey Investment Partners, L.P. ("Odyssey") -- The Company issued secured promissory notes in the aggregate principal amount of $3,000,000 on June 18, 1997 and were due June 17, 2002. In addition, the Company issued stock warrants to purchase in the aggregate 40,000 shares of the Company's common stock and granted Sirrom and Odyssey the right to sell to the Company the warrants (put warrants) under a put and substitution agreement. At the time of issuance, $702,000 of the proceeds was allocated to the put warrants, resulting in a discount on the promissory notes. The discount on the notes was being amortized to expense over the term of the promissory notes. The Company is in default of certain covenants in the loan agreement and has not obtained a waiver of the defaults from the lender. Accordingly, the total principal amount of the loan, $3,000,000, has been classified as a current liability and the unamortized discount on the loan has been charged to expense at December 31, 1997. (See Note 6). Superior Pharmaceutical Company -- The Company acquired Superior on June 18, 1997 for an adjusted purchase price of $15,850,000. The purchase price was paid as follows: $6,250,000 in cash, $5,000,000 ($4,600,000 as adjusted) of 9.5% secured promissory notes to the former Superior stockholders due in quarterly installments through June 30, 2000 and common stock of the Company with a guaranteed value of $5,000,000. A quarterly payment on the secured promissory notes was due on March 31, 1998 and the Company received a waiver and extension from the former stockholders of Superior. The quarterly payment of principal and interest was extended to May 16, 1998. The total unpaid amount of the secured promissory notes $4,183,333 has been classified as a current liability. The Company issued 166,667 shares of common stock to the former Superior stockholders on the closing date. The Agreement and plan of merger with the Superior stockholders provided that at the first anniversary of the closing, June 18, 1998, the Superior stockholders would receive up to an additional 1,666,667 shares of common stock, if the Company's stock price was less than $30.00. Any difference between the value of the stock received and the $5,000,000 guaranteed value is to be paid in cash. The Company does not anticipate that the value of the common stock issued and issuable will reach the specified level of $5,000,000 by June 18, 1998. Accordingly, the Company has accrued a current liability to the former Superior stockholders in the amount of $4,083,000 at December 31, 1997 and reduced the amount originally added to additional paid-in capital at the time of acquisition. The Huntington National Bank -- The Company's subsidiary, Superior has a line of credit with the Huntington National Bank in the amount of $9,000,000. At December 31, 1997, Superior is in default of certain loan covenants in the loan and security agreement with the bank. Superior is in negotiations with the bank with respect to the defaults, but has not received a waiver of the defaults at the present time. The Company has guaranteed the loan to the bank. The loan and security agreement with the bank requires the Company to achieve a tangible net worth, exclusive of the tangible net worth of Superior, of $4,000,000, which the Company has not achieved at December 31, 1997. The loan and security agreement with the bank allowed Superior to make distributions to the Company in amounts sufficient to enable the Company to pay the debt service due to the former stockholders of Superior, provided, however, that such permitted payments cannot be made by Superior in the event of a default. 41 25 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) Management Plans The following represents management's plans to improve the financial condition of the Company including curing defaults and obtaining waivers wherever applicable. These plans are targeted to the specific areas listed below. GFL Performance Fund Limited -- The Company has received an extension of the Company's payment obligation on February 7, 1998 (the maturity date). The Company is negotiating with GFL to retire this debt through conversion into common stock over the next several months. This would reduce or eliminate the cash payment obligation and reduce the total liabilities of the Company. Sirrom and Odyssey -- The Company continues to make monthly interest payments on its obligations to Sirrom and Odyssey. The defaults under the loan agreements include the late filing of the Form 10-K and certain other financial covenants. Management plans to improve upon its filing requirements by dedicating additional personnel to meet the reporting requirements. In addition, the Company is negotiating with the former stockholders of Superior to extend the guaranteed stock payment due on June 17, 1998 which would require approximately $4,000,000 in cash. The Company has had preliminary discussions with Sirrom and Odyssey regarding the overall decline in Company's stock price and the effect on their warrants. Management intends to discuss and negotiate with its lenders opportunities for participation in the Company's overall plan which could restore the economic benefits and obtain continued cooperation of Sirrom and Odyssey. Superior Pharmaceutical Company -- The Company has obtained a waiver from the former stockholders of Superior, waiving and extending the payment obligation on the note due on March 31, 1998. The Company is negotiating with the former stockholders, alternate ways in which it can meet its obligation of a guaranteed stock payment on June 17, 1998. These proposed alternatives include extension of the obligation, reduction or elimination of the cash payment in exchange for additional stock payments and converting the common stock payment to convertible Preferred Stock. The former stockholders have indicated their willingness to entertain the alternative offers and work with the management to come up with a comprehensive solution to the payment obligations which secures their benefits while allowing the Company to expand. The Huntington National Bank The Company is in discussions with investment bankers to raise additional equity for its ongoing operations. The net worth of the Company is less than $4,000,000 as required in the loan agreement with the bank. However, in the past the bank has considered subordinated debt, selling stockholder debt and the equity line available to the Company under its Series D preferred shares as equity capital and therefore applicable towards the net worth calculations. Assuming that the bank continues to allow for this calculation and that the Company is successful in obtaining additional financing, the net worth deficiency will be corrected. In addition, the waiver of the former Superior stockholders will, in managements view, eliminate the defaults of the covenants. Other Management also plans to implement programs to reverse the decline in business at Superior, increase sales at Able and review every cost center for further optimization and cost reductions. 42 26 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) Change in Year End On January 30, 1997, the Company adopted December 31 as its fiscal year end. The accompanying consolidated financial statements include audited financial statements for the year ended December 31, 1997, the six month transition period ended December 31, 1996 the years ended June 30, 1996 and 1995. Unaudited financial statements and the related notes thereto are presented for the six months ended December 31, 1995 for comparative purposes only. All adjustments, consisting of only normal recurring adjustments, which in the opinion of management are necessary for a fair presentation of the unaudited financial information, have been made. Reverse Stock Split On March 4, 1998 the Company's Stockholders approved a 1 for 10 a reverse stock split of the common shares. All common stock information presented herein has been retroactively adjusted to reflect the reverse stock split. Use of Estimates In preparing consolidated financial statements in conformity with generally accepted accounting principles, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the balance sheet date and reported amounts of revenues and expenses during the reporting period. Material estimates that are particularly susceptible to significant change in the near term relate to the carrying values of rebates receivable and intangible assets, the valuation of equity instruments issued by the Company and the amount of obligations due as a result of defaults on certain debt obligations. Actual results could differ from those estimates. Cash Equivalents Cash equivalents include interest-bearing deposits with original maturities of three months or less. Investment Securities Investments in debt securities that management has the positive intent and ability to hold to maturity are classified as "held to maturity" and carried at amortized cost. Investments that are purchased and held principally for the purpose of selling them in the near term are classified as "trading securities" and carried at fair value, with unrealized gains and losses included in earnings. Investments not classified as either of the above are classified as "available for sale" and carried at fair value, with unrealized gains and losses reported as a separate component of stockholders' equity. Gains and losses on disposition of investment securities are computed by the specific identification method. Rebates Rebates represent incentives provided by pharmaceutical suppliers based on purchases. Management has estimated its rebates based upon agreements and purchases during the year. Actual rebates could be different due to market volatility and whether the Company continues to use these suppliers. Inventory Inventory is valued at the lower of average cost or market on a first-in first-out (FIFO) method. 43 27 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) Property and Equipment Property and equipment are stated at cost. Depreciation expense is provided over the estimated useful lives of the assets using the straight-line method. Leasehold improvements are amortized on the straight-line method over the shorter of the estimated useful life of the asset or the life of the related lease term. Customer Lists and Goodwill Customer lists and goodwill are being amortized over estimated lives of five and fifteen years, respectively. (See Note 2.) Patents, Trademarks and Deferred Debt Financing Costs Patent and trademark costs are amortized over a five-year period on a straight-line basis commencing on the earlier of the date placed in service or the date the patent or trademark is granted. Deferred debt financing costs are being amortized on a straight-line basis over the two-year term of the convertible note payable. The related amortization expense for the year ended December 31, 1997 was $99,888. The related amortization expense for the six months ended December 31, 1996 and 1995 was $73,107 and $10,792, respectively, and for the years ended June 30, 1996 and 1995 was $79,660 and $11,385, respectively. Revenue Recognition Revenues from product sales are recognized when products are shipped. Revenues from license fees and royalties are recognized as the terms of the agreements are met. Advertising Costs Advertising costs are charged to expense when incurred. Income Taxes Deferred tax assets and liabilities are recorded for temporary differences between the financial statement and tax bases of assets and liabilities using the currently enacted income tax rates expected to be in effect when the taxes are actually paid or recovered. A deferred tax asset is also recorded for net operating loss, capital loss and tax credit carry forwards to the extent their realization is more likely than not. The deferred tax expense for the period represents the change in the deferred tax asset or liability from the beginning to the end of the period. Stock-Based Compensation In October 1995, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 123, "Accounting for Stock-Based Compensation." This Statement encourages all entities to adopt a fair value based method of accounting for employee stock compensation plans, whereby compensation cost is measured at the grant date based on the value of the award and is recognized over the service period, which is usually the vesting period. However, it also allows an entity to continue to measure compensation cost for those plans using the intrinsic value based method of accounting prescribed by APB Opinion No. 25, "Accounting for Stock Issued to Employees," whereby compensation cost is the excess, if any, of the quoted market price of the stock at the grant date (or other measurement date) over the amount an employee must pay to acquire the stock. Stock options issued under the Company's stock option plans generally have no intrinsic value at the grant date, and under Opinion No. 25 no compensation cost is recognized for them. The Company has elected to remain with the accounting in Opinion No. 25 and, as a result, must make pro forma disclosures of net income and earnings per share and other disclosures, as if the fair value based method of accounting had been applied. The disclosure requirements of this Statement are effective for the Company's consolidated financial statements for the six months ended December 31, 44 28 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) 1996. The pro forma disclosures include the effects of all awards granted on or after July 1, 1995. (See Note 10.) Earnings Per Share In February 1997, FASB issued SFAS No. 128, "Earnings per Share" which requires that earnings per share be calculated on a basic and a dilutive basis. Basic earnings per share represents income available to common stock divided by the weighted-average number of common shares outstanding during the period. Diluted earnings per share reflects additional common shares that would have been outstanding if dilutive potential common shares had been issued, as well as any adjustment to income that would result from the assumed conversion. The Statement is effective for interim and annual periods ending after December 15, 1997, and requires the restatement of all prior-period earnings per share data presented. Accordingly, the Company has restated all earnings per share data presented herein. For the year ended December 31, 1997, the six months ended December 31, 1996 and 1995, and the years ended June 30, 1996 and 1995, options, warrants and put warrants, were anti-dilutive and excluded from the diluted earnings per share computations. The loss applicable to common stockholders has been increased by the stated dividends on the convertible preferred stock and the amortization of discounts on the convertible preferred stock due to the beneficial conversion feature. Shares of common stock contingently issuable to the former stockholders of Superior have not been included in diluted EPS because to do so would have been anti-dilutive. Recent Accounting Pronouncements In June 1997, FASB issued SFAS No. 130, "Reporting Comprehensive Income," effective for fiscal years beginning after December 15, 1997. Accounting principles generally require that recognized revenue, expenses, gains and losses be included in net income. Certain FASB statements, however, require entities to report specific changes in assets and liabilities, such as unrealized gains and losses on available-for-sale securities, as a separate component of the equity section of the balance sheet. Such items, along with net income, are components of comprehensive income. SFAS No. 130 requires that all items of comprehensive income be reported in a financial statement that is displayed with the same prominence as other financial statements. Additionally, SFAS No. 130 requires that the accumulated balance of other comprehensive income be displayed separately from retained earnings and additional paid-in capital in the equity section of the balance sheet. The Company will adopt these disclosure requirements beginning in the first quarter of 1998. In June 1997, FASB issued SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information," effective for fiscal years beginning after December 15, 1997. SFAS No. 131 establishes standards for the way that public business enterprises report information about operating segments in annual and interim financial statements. It also establishes standards for related disclosures about products and services, geographic areas and major customers. Generally, financial information is required to be reported on the basis that it is used internally for evaluating segment performance and deciding how to allocate resources to segments. The Statement also requires descriptive information about the way that the operating segments were determined, the products and services provided by the operating segments, differences between the measurements used in reporting segment information and those used by the enterprise in its general-purpose financial statements, and changes in the measurement of segment amounts from period to period. Management has not yet determined how the adoption of SFAS No. 131 will impact the Company's financial reporting. 45 29 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) 2. BUSINESS ACQUISITIONS On August 19, 1996, the Company acquired certain assets of Able Laboratories, Inc. ("Able"). The purchase price consisted of $550,000 in cash and acquisition costs of $150,000. The acquisition has been accounted for as a purchase. The Company allocated $313,300 of the purchase price to inventory and $386,700 to property and equipment. The results of operations related to Able have been included with those of the Company since August 19, 1996. On June 18, 1997, the Company acquired all of the outstanding stock of Superior Pharmaceutical Company ("Superior"), a distributor of generic pharmaceutical products. The Company paid the shareholders of Superior $6,250,000 in cash, $5,000,000 in three year secured promissory notes and 166,667 shares of DynaGen's common stock with a guaranteed value of $5,000,000. The secured promissory notes were subsequently reduced by $400,000 due to a deficiency in the required net worth of Superior as of the acquisition date. DynaGen is obligated to issue to the shareholders up to an additional 1,666,667 shares of its common stock after twelve months if its common stock is not trading at an average of at least $30.00 per share for 10 consecutive trading days. The merger agreement provides further that DynaGen shall pay to the former Superior stockholders the difference between $5,000,000 and the current aggregate market value of the shares issued to the former Superior stockholders. DynaGen is obligated to register the shares within eleven months after the closing of the acquisition. The Company recorded a $4,083,000 acquisition obligation at December 31, 1997 based on the difference between the current estimated fair value of the 1,833,334 shares of common stock issued and issuable and the guaranteed value of $5,000,000. The former shareholders of Superior, who remain as senior management at Superior, may also receive certain incentive payments based on Superior's performance during the three years following the closing of the acquisition. Any such payments will be charged to expense when incurred. DynaGen contributed $1,750,000 in additional capital to Superior immediately following the closing. The Superior acquisition has been accounted for as a purchase. The results of operations of Superior have been included in the Company's consolidated financial statements since the date of acquisition. The purchase price allocation was based on the estimated fair values at the date of acquisition. The Company allocated $13,612,000 of the purchase price to customer lists, which is being amortized on a straight-line basis over five years. Amortization of customer lists amounted to $1,361,200 for the year ended December 31, 1997. In addition, the Company recorded goodwill of $386,219, which is being amortized on a straight-line basis over 15 years. Amortization expense for the year ended December 31, 1997 was $22,751. Unaudited proforma consolidated operating results for the Company, assuming the acquisitions of Able and Superior had been made as of the beginning of the most recent fiscal year for each of the periods presented, are as follows:
YEAR ENDED SIX MONTHS ENDED DECEMBER 31, 1997 DECEMBER 31, 1996 ----------------- ----------------- Revenues........................................... $ 26,019,467 $ 17,412,594 ================= ================= Net loss........................................... $ (12,085,635) $ (4,349,129) ================= ================= Net loss per share................................. $ (4.43) $ (1.43) ================= =================
The unaudited proforma information is not necessarily indicative either of the actual results of operations that would have occurred had the purchases been made as of the beginning of each of the fiscal periods presented or of future results of operations of the combined companies. 46 30 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) 3. INVESTMENT SECURITIES The amortized cost and fair value of investment securities available for sale is as follows:
DECEMBER 31, 1996 --------------------------------------------------- GROSS GROSS AMORTIZED UNREALIZED UNREALIZED FAIR COST GAINS LOSSES VALUE ----------- ---------- ---------- ----------- U.S. Government agency obligations.... $1,499,696 $1,000 $ (71) $ 1,500,625 Corporate obligations................. 1,503,697 378 -- 1,504,075 ----------- ------ -------- ----------- $3,003,393 $1,378 $ (71) $ 3,004,700 =========== ====== ======== ===========
All debt securities matured during the year ended December 31, 1997 and there were no sales of securities available for sale during the year ended December 31, 1997, the six months ended December 31, 1996 and the years ended June 30, 1996 and 1995. 4. INVENTORY Inventory consists of the following:
DECEMBER 31, ---------------------- 1997 1996 ---------- -------- Raw materials............................................... $ 311,166 $259,330 Work-in-progress............................................ 136,240 163,847 Finished goods.............................................. 8,663,918 28,706 ---------- -------- $9,111,324 $451,883 ========== ========
5. PROPERTY AND EQUIPMENT Property and equipment consist of:
DECEMBER 31, ------------------------ ESTIMATED 1997 1996 USEFUL LIVES ---------- ---------- ------------ Machinery and equipment........................... $1,347,683 $ 702,141 7 years Furniture, fixtures and computers................. 1,027,228 270,353 3-7 years Leasehold improvements............................ 235,904 39,288 1-2 years ---------- ---------- 2,610,815 1,011,782 Less accumulated depreciation and amortization.... (837,937) (337,813) ---------- ---------- $1,772,878 $ 673,969 ========== ==========
Depreciation and amortization expense for the year ended December 31, 1997 was $230,411. Depreciation and amortization expense for the six months ended December 1996 and 1995 was $56,451 and $21,648, respectively and for the years ended June 30, 1996 and 1995 was $45,950 and $52,810 respectively. 47 31 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) 6. DEBT Notes payable consist of the following: Convertible note payable.................................... $ 535,000 Bridge loans................................................ 630,000 Notes payable -- Superior Acquisition....................... 4,183,333 Senior subordinated debt.................................... 3,000,000 ---------- $8,348,333 ==========
Convertible Note Payable On February 7, 1996, the Company issued a $2,000,000 convertible note payable in connection with a private placement. The note matured on February 7, 1998 and bears interest at 8% per annum, with interest payable quarterly in cash or the Company's common stock. The note is convertible into shares of common stock at any time at the option of the investor at a rate of 67% of the five-day average of the closing bid price per share of the Company's common stock one trading day prior to the date the notice of conversion is received by the Company. The value of the beneficial conversion feature at the date of issuance, based on the market value of the Company's common stock was approximately, $985,000. This discount has been charged as additional interest expense and added to paid-in capital in the year ended June 30, 1998. The Company may require conversion of the note provided that no event of default shall have occurred and the Registration Statement required to be filed shall be effective. During the six months ended December 31, 1996, $400,000 of the note payable was converted for 41,441 shares of the Company's common stock and $36,627 of related deferred debt financing costs were charged to additional paid-in capital. During the year ended December 31, 1997, $1,065,000 of the note payable was converted for 98,959 shares of the Company's common stock and $79,235 of related deferred debt financing costs were charged to additional paid-in capital. Interest expense on the convertible note payable for the year ended December 31, 1997 was $45,640, for the six months ended December 31, 1996 was $74,282 and for the year ended June 30, 1996 was $1,049,074. Amortization expense on deferred debt financing costs for the year ended December 31, 1997 was $36,744, for the six months ended December 31, 1996 was $61,809, and for the year ended June 30, 1996 was $57,230. Bridge Loans On December 19,1997 DynaGen sold a subordinated note in the principal amount of $155,000 to a lender with an interest rate of 7% per annum. This unsecured note was payable in full with interest on January 18, 1998. In connection with this bridge loan, DynaGen agreed to issue 15,000 shares of common stock to the investor as additional consideration for the loan. This note was converted into common stock on March 25, 1998. On October 3, 1997, BioTrack, Inc. received $250,000 in a subordinated note from an employee of Superior at an interest rate of 18% per annum due on November 30, 1997. The due date on this note was extended to June 30, 1998. The proceeds were used as bridge-financing for BioTrack, Inc. and the investor has the option of extending the note or to be paid in full from subsequent financings. This investor also received 10,000 shares of BioTrack common stock valued at $500 as additional consideration for the loan. In addition, four investors invested $175,000 in BioTrack in December 1997 at 10% interest due on February 12, 1998. In February 1998, $75,000 of these short-term loans were repaid in full with interest. These investors purchased 35,000 shares of BioTrack common stock for $1,750. 48 32 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) In October 1997, Apex Pharmaceuticals Inc., received a $50,000 bridge loan at an interest rate of 12% per annum from a consultant, this loan is to be repaid by December 31, 1998, with interest. DynaGen obtained debt financing in the form of a bridge loan of $500,000, from a private investor at an interest rate of 7% per annum and due September 30, 1997 related to its Superior acquisition. In connection with this bridge loan, the Company has issued 15,000 shares of its unregistered common stock to the investor as additional consideration for the loan. Proceeds of $150,000 from the debt financing were allocated to the common stock based on the fair value of the common stock at June 18, 1997. The balance of the proceeds was allocated to the bridge loan. The debt discount of $150,000 on the bridge loan was fully amortized through December 31, 1997. On October 10, 1997, the bridge loan and all accrued interest was converted into 5,015 shares of Series B Preferred Stock and 15,000 shares of common stock in full satisfaction of the debt. Notes Payable -- Superior Acquisition In connection with the acquisition of Superior, the Company issued $5,000,000 in secured promissory notes payable to the former Superior stockholders. The notes are payable in quarterly installments of principal and interest over three years at an interest rate of 9.5% and are secured by a pledge of the Superior common stock. During the year ended December 31, 1997, the Company made principal payments of $416,667 on the notes. In addition, the notes were reduced by $400,000, due to a shortfall in the required net worth of Superior as of the acquisition date. The Company has classified the notes payable as a current liability on December 31, 1997 as it is currently in default under certain loan covenants. As of December 31, 1997, amounts payable on the notes over the next three fiscal years are as follows:
YEAR ENDED DECEMBER 31, AMOUNT ----------------------- ---------- 1997........................................................ $ 433,333 1998........................................................ 1,666,667 1999........................................................ 1,666,667 2000........................................................ 416,666 ---------- $4,183,333 ==========
Senior Subordinated Debt In June 1997, DynaGen obtained senior subordinated debt financing of $3,000,000 from two private investors bearing interest at 13.5% payable in monthly installments. The principal is payable upon maturity at the end of five years. The loan is secured by a first-lien security interest on the assets of DynaGen, a second-lien security interest on the assets of Superior and a second-lien interest in the pledge of the Superior common stock and a guarantee of payment by Superior. DynaGen also issued to the investors warrants to purchase 40,000 shares of common stock of DynaGen at an exercise price of $.10 per share exercisable for five years. In addition, these warrants are subject to put features under certain circumstances. Proceeds of $702,000 from this financing were allocated to the DynaGen stock warrants, based on their estimated fair value. This amount is reflected in the accompanying financial statements as a warrant put liability because the warrants give the holders the choice of a cash settlement under certain conditions. The put allows the holders to sell two-thirds of the warrants to the Company after three years for $667,000, and all of the warrants after five years for $1,500,000 unless the market value of the shares issuable pursuant to the warrant is equal to or greater than the put value. The Company is accruing the put value of the warrants to their redemption amounts over their respective terms. The stock purchase warrants contain a provision which allows the warrant holder to substitute their warrants for stock purchase 49 33 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) warrant, issued by Superior, unless the market value of the shares issuable pursuant to the warrant is equal to or greater than the put value. The substitute warrants allow the warrant holders to purchase 15% of Superior's common stock at an exercise price of $.01 per share. The remaining proceeds from this offering of $2,298,000 were allocated to the subordinated debt. The debt discount of $702,000 was being amortized, using the interest method, over the term of the debt. At December 31, 1997, the Company amortized the entire debt discount as the Company is in default under the terms of the debt agreement and the debt has been classified as a current liability. Loan Payable -- Bank Superior obtained a secured revolving line of credit of up to $9,000,000 from a bank to provide working capital for its general operations. Advances under the line of credit are subject to a borrowing base consisting of the sum of (i) 80% of Superior's eligible accounts receivable, plus (ii) 60% of Superior's eligible inventory. The advances under the line are secured by a first-lien security interest in all of the assets of Superior and are guaranteed by DynaGen. Superior may not make distributions to the Company, other than distributions to pay principal and interest on the notes payable to the former Superior stockholders, without the prior written consent of the bank. In the event of a default Superior may not make any distributions to the Company. Superior may draw on the line of credit until April 5, 1998. Interest on the line of credit is based on the lower of the prime lending rate or LIBOR plus 2% (7.625% at December 31, 1997). 7. INCOME TAXES There was no provision for income taxes for the year ended December 31, 1997, for the six months ended December 31, 1996 and 1995 and for the years ended June 30, 1996 and 1995 due to the Company's net operating losses. The difference between the statutory Federal income tax rate of 34% and the Company's effective tax rate is primarily due to net operating losses incurred by the Company and the valuation reserve against the Company's deferred tax asset. The components of the net deferred tax asset are as follows:
DECEMBER 31, --------------------------- 1997 1996 ------------ ----------- Deferred tax asset: Federal.................................................... 11,477,000 $ 8,008,000 State...................................................... 2,634,000 1,986,000 ------------ ----------- 14,111,000 9,994,000 Valuation reserve.......................................... (14,111,000) (9,994,000) ------------ ----------- Net deferred tax asset..................................... $ -- $ -- ============ ===========
The following differences give rise to deferred income taxes:
DECEMBER 31, --------------------------- 1997 1996 ------------ ----------- Net operating loss carry forward........................... $ 12,714,000 $ 9,185,000 Research tax credit carryforward........................... 620,000 662,000 Other...................................................... 777,000 147,000 ------------ ----------- 14,111,000 9,994,000 Valuation reserve.......................................... (14,111,000) (9,994,000) ------------ ----------- Net deferred tax asset..................................... $ -- $ -- ============ ===========
50 34 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) The increases in the valuation reserve are due to the Company's net operating losses. As of December 31, 1997, the Company has Federal and state net operating loss carryforwards of approximately $32,750,000 and $25,200,000, respectively. The Federal and state net operating loss carryforwards expire in varying amounts beginning in 2003 and 1998, respectively. In addition, the Company has Federal and state research tax credit carryforwards of approximately $583,000 and $56,000, respectively, available to reduce future tax liabilities. The Federal and state research tax credit carryforwards expire in varying amounts beginning in 2003 and 2006, respectively. Use of net operating loss and tax credit carryforwards is subject to annual limitations based on ownership changes in the Company's common stock as defined by the Internal Revenue Code. 8. RELATED PARTY TRANSACTIONS Notes Receivable During the year ended June 30, 1996, the Company loaned $75,000 in the aggregate to an officer/director and an officer under notes which bear interest at 5.05% per annum. These notes were secured by common stock of the Company issuable on exercise of stock options held by the officers. In December 1997, the entire amount, including accrued interest of $6,676, was forgiven and the stock options were returned to the Company. In October 1996, the Company granted a $250,000 line-of-credit to each of two officer/directors which bear interest at 6.07% per annum and mature on October 4, 1998. These lines-of-credit are secured by common stock of the Company held by the officer/directors. At December 31, 1997 and 1996, borrowings of $110,000 were outstanding under the lines-of-credit. The Company recognized interest income on notes receivable of $10,464 during the year ended December 31, 1997 and $4,562 during the six months ended December 31, 1996. At December 31, 1997 and 1996, accrued interest receivable of $8,346 and $4,562, respectively, is included in the consolidated balance sheet. Accounts Payable In 1997, these officers/directors advanced an aggregate of $62,000 to the Company, towards working capital requirements. These advances do not bear any interest. Consulting Fees During 1996, the Company retained a consulting company for strategic marketing and business development. The chief executive officer of the consulting firm was also a director of the Company. During the six months ended December 31, 1996 the Company paid the consulting firm $56,800 in fees. The consulting fees for the year ended December 31, 1997 were $15,678. The Company paid $495,000 towards finder's fees to a consulting firm relating to the acquisition of Superior. A former director of the Company was also a minority shareholder of this consulting firm at the time of the acquisition. The Company also entered into a marketing and business development agreement for some of its technologies with another consulting firm. A principal of this consulting firm is a director of the Company. During the year ended December 31, 1997, fees of $20,833 were paid to this consulting firm and during the six months ended December 31, 1996 the fees paid were $12,500. 51 35 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) The Company retained a director as a consultant to assist with certain public and investor relations matters. During the years ended June 30, 1996 and 1995, the director was paid fees of $31,000 and $49,000, respectively. In the year ended December 31, 1997, the Company paid fees of $20,050 and for the years ended June 30, 1996 and 1995, $11,550 and $18,188, respectively to the spouse of an officer/director for research and development services. 9. COMMITMENTS AND CONTINGENCIES Lease Agreements The Company leases offices and warehouse facilities under operating leases expiring in various years through 2014 that require the Company to pay certain costs such as maintenance and insurance. The main facility at Superior is rented from a related party. The related party rent was $162,000 for 1997. The following is a schedule of future minimum lease payments for all operating leases (with initial or remaining terms in excess of one year) as of December 31, 1997:
YEAR AMOUNT ---- ----------- 1998........................................................ $ 996,000 1999........................................................ 1,003,000 2000........................................................ 1,052,000 2001........................................................ 1,054,000 2002........................................................ 986,000 Thereafter.................................................. 5,608,000 ----------- Total minimum future lease payments............... $10,699,000 ===========
Rent expense, net of subleases for the year ended December 31, 1997 was $643,564 and for the six months ended December 31, 1996 and 1995 was $130,463 and $31,000 respectively. Rent expense for the years ended June 30, 1996 and 1995 was $61,366 and $71,031, respectively. Employment Agreements As of December 31, 1997, the Company has employment agreements with six officers that provide for minimum annual salaries, reimbursement of business related expenses and participation in other employee benefit programs. The agreements also include confidentiality, non-disclosure, severance, automatic renewal and non-competition provisions. Salary levels are subject to periodic review by the Board of Directors. Consulting Agreements In February 1996, the Company entered into a six-month public and investor relations services agreement with a public relations firm. As compensation for these services, the firm was granted an option under the 1991 Stock Plan (see Note 10) to purchase 2,000 shares of the Company's common stock at $.10 per share exercisable through February 1, 2003 as long as the firm maintains a business relationship with the Company. The Company valued the option at $55,225 and amortized the expense over the six month term of the agreement. 52 36 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) Demand Registration Rights The Company has agreed that, under certain circumstances, it will register under federal and state securities laws certain shares of common stock issued in connection with private placements and certain shares of common stock issuable in connection with warrants issued to the Company's investment banker and agents for the private placements. The Company will bear the cost of registering these securities. (See Note 10). Contingencies Legal claims arise from time to time in the normal course of business which, in the opinion of management, will have no material effect on the Company's financial position. 10. PREFERRED STOCK, COMMON STOCK, OPTIONS AND WARRANTS Preferred Stock A summary of preferred stock outstanding at December 31, 1997 is as follows:
PAR LIQUIDATION VALUE VALUE ----- ----------- Preferred stock, $.01 par value, 10,000,000 shares authorized: Series A convertible, 50,000 shares authorized, 37,007 shares issued and outstanding.......................... $370 $3,700,672 Series B convertible, 12,515 shares authorized, 12,515 shares issued and outstanding.......................... 125 1,247,745 Series C convertible, 7,500 shares authorized, 7,500 shares issued and outstanding.......................... 75 750,000 Series D convertible, 60,000 shares authorized, no shares issued and outstanding................................. -- -- Series E convertible, 10,500 shares authorized, no shares issued and outstanding................................. -- -- Series F convertible 5,000 shares authorized, no shares issued and outstanding................................. -- -- Series G convertible, 10,000 shares authorized, 6,500 shares issued and outstanding.......................... 65 650,000 ---- ---------- $635 $6,348,417 ==== ==========
1992 Public Offering Warrants In October 1992, the Company completed a public offering which included redeemable common stock purchase warrants. Each warrant originally allowed the holder to purchase one share of common stock at a price of $65, subject to adjustment in certain instances, through September 24, 1995. The terms of the warrants provide that in the event that the Company, at any time or from time to time after their issuance, sells any shares of Common Stock for consideration of less than $65.00 per share, the exercise price will be decreased, and the number of shares for which the warrants is exercisable increased, such that the warrants will remain exercisable for the same percentage of the outstanding Common Stock for the same aggregate exercise price. The terms of the warrants further provide, however, that no such adjustment is to be made on account of any exercise of options to purchase Common Stock under any employee stock option plan, exercise of the warrants issued in the Company's 1992 public offering or the issuance of shares of Common Stock in an amount of up to 10% of the shares issued and outstanding as of the closing of the 1992 public offering. The warrant exercise price is also subject to adjustment in the event that the Company issues any Common Stock 53 37 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) as a stock dividend to stockholders, or subdivides or combines the outstanding shares of Common Stock into a greater or lesser number. As a result of subsequent debt and equity financings, the 91,780 warrants that remain outstanding have been adjusted to allow the holder to purchase 1.7 shares with each warrant at an exercise price of $39 per warrant. The Company has extended the expiration date of the warrants to September 24, 1998. During the year ended June 30, 1996, 220 warrants were exercised to purchase 330 shares of common stock. Net proceeds were $9,438. 1994 Public Offering On March 23, 1994, the Company completed a public offering of 160,000 units at $45 per unit. Each unit consisted of four shares of common stock and two Class A redeemable common stock purchase warrants. Each warrant allowed the holder to purchase one share of common stock at a price of $12, subject to adjustment in the event of a stock dividend, stock split, reclassification, reorganization, consolidation or merger, through March 16, 1999. Net proceeds of the offering after deduction of all expenses were $5,617,729. The underwriting agreement granted the underwriters warrants to purchase 16,000 units at $74.25 per unit, subject to adjustment in the event of a stock dividend, stock split, reclassification, reorganization, consolidation or merger, during the period March 16, 1995 to March 16, 1999. The warrants contain, among other things, a net exercise feature. The net exercise feature of the underwriter's warrant allows the holder of the warrant to exercise the warrant in full or in part by surrendering the certificate for a number of shares of Common Stock equal in value to the difference between (i) the market price of the aggregate number of shares of Common Stock for which the warrant, or the part thereof, is being exercised, and (ii) the exercise price. Public Offering Warrants In May 1995, the Company filed a registration statement to register the shares issuable upon the exercise of the warrants issued in the 1992 and 1994 public offerings and the shares issuable upon the exercise of the warrants issued to the underwriters of the 1994 public offering. Registration costs of $34,593 were deducted from net proceeds of warrant exercises during the year ended June 30, 1995. 1994 Public Offering Warrants In June 1995, 2,200 warrants issued to the underwriters of the 1994 public offerings were exercised at $74.25 per warrant. The Company received proceeds of $163,350 and issued the warrant holder 8,800 shares of common stock and 4,400 Class A redeemable common stock purchase warrants. In addition, in June 1995, 3,500 warrants issued to the underwriters of the 1994 public offering were exercised, using their net exercise feature, in exchange for 18,545 shares of common stock. During the period from July 1995 to November 1995, 10,300 warrants issued to the underwriters of the 1994 public offering were exercised to acquire 50,398 shares of common stock and 1,000 Class A redeemable common stock purchase warrants using their net exercise feature and payment to the Company of $37,125. In December 1995, the Company completed the redemption of the Class A redeemable common stock purchase warrants resulting in the purchase of 324,119 shares of common stock yielding net proceeds of $3,845,769 after deducting expenses. The remaining 1,280 unexercised warrants were redeemed by the Company for $.10 per warrant. 54 38 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) Private Placements During the year ended June 30, 1993, the Company entered into two common stock private placement agreements and issued warrants to the placement agents to purchase 6,833 shares of common stock. The agents' warrants are exercisable over a four-year period commencing one year from the closing date and carry certain demand registration rights. The exercise price is subject to adjustment in certain instances. As a result of subsequent debt and equity financings, the warrant exercise price has been adjusted to $43.70 per share. On February 7, 1996, the Company raised $3 million in a private placement, from the sale to a single investor of 57,963 shares of common stock for $1,000,000 (approximately $17.30 per share) and the issuance of a $2 million convertible note. (See Note 6). Placement costs for this transaction were $421,157 of which $146,452 was charged to additional paid-in capital and $274,705 was capitalized as deferred debt financing costs. During the year ended December 31, 1997, $1,065,000 of this note was converted for 98,959 shares of common stock and $79,235 of related debt financing costs charged to additional paid-in-capital. During the six months ended December 31, 1996, $400,000 of the note was converted for 41,441 shares of common stock and $36,627 of related deferred debt financing costs were charged to additional paid-in capital. On February 21, 1996 and March 4, 1996, the Company issued, in private placements, an aggregate of 38,850 shares of common stock for $38,850 and 1,178,264 shares of Series A preferred stock for $3,461,150 for aggregate consideration of $3,500,000. The common stock was sold at a discount of approximately $1,194,000 from market. This discount has not been recorded because it would result in an increase and an offsetting decrease in the Company's additional paid-in capital. Placement costs of $487,461 were charged to additional paid-in capital. The Series A preferred stock was convertible into common stock 100 days after initial issuance into that number of shares obtained by dividing the consideration paid for the preferred stock by 80% of the five-day average of the closing bid price per share of the common stock at the date of the conversion. The discount on the Series A convertible preferred was approximately $865,000. This discount was not recorded at the time of issuance of the Series A preferred Stock. Had the discount been recorded, an equal amount would have been added to the Company's additional paid-in capital at the date of issuance. The discount would have been amortized by a charge to additional paid-in capital from the issuance date to the first conversion date. This discount would have been fully amortized by June 30, 1996. The net loss per share for the year ended June 30, 1996 has been restated to reflect the discount as a return to the preferred shareholders in the calculation of basic earnings per share. Each share of preferred stock had a liquidation value equal to $2.9375, the consideration paid per share. In June 1996, the 1,178,264 shares of Series A preferred stock were converted into 161,283 shares of common stock based on the above formula. In February 1996, the Company issued, in a private placement, 55,256 shares of common stock for aggregate consideration of $1,000,000. Placement costs of $13,526 were charged to additional paid-in capital. During 1997, the Company sold 48,450 shares of Series A Preferred Stock for $4,845,000 and issued warrants to purchase 38,760 shares of Common Stock. No value was assigned to the warrants. The Series A Preferred Stock has a stated dividend of $5.00 per share per annum. DynaGen is obligated to register the shares of common stock issuable upon conversion of the Series A Preferred Stock and exercise of the warrants within 90 days after the issuance of the Preferred Stock. The exercise price of the warrants will be $3.87 per share based on the five trading days immediately preceding December 4, 1997 on which date the registration statement was declared effective. The holders of Series A Preferred Stock have certain rights of first refusal on future equity financings. 55 39 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) The Series A preferred stock may be converted into common stock at a conversion price equal to the lesser of 120% of the average closing bid price, as defined (the Series A Effective Price) or discounted percentages of the Series A Effective Price decreasing from 80% to 74% over time. During 1997, 11,443 shares of Series A Preferred Stock with accumulated dividends was converted into 757,320 shares of common stock. Any outstanding shares of the Series A Preferred Stock will be automatically converted to common stock two years from the issue date. The Company issued 100,000 shares to a placement agent in connection with placement fees for Series A Preferred Stock. In June 1997, the Company sold 7,500 shares of Series B Preferred Stock for $747,750 and 22,500 shares of common stock for $2,250 for aggregate proceeds of $750,000 to a private investor. The common stock was sold at a discount of approximately $230,000 from the market price. The discount has not been recorded because it would result in an increase and offsetting decrease in additional paid-in capital. The Series B Preferred Stock has a stated dividend of $7.00 per share per annum. Additionally, a $500,000 bridge loan provided in June 1997 and accrued interest was converted to 5,015 shares of Series B Preferred Stock and 15,000 shares of common stock in October 1997 per the terms of the bridge loan. Upon liquidation, the Series B Preferred Stock ranks junior to the Series A Preferred Stock. DynaGen is obligated to register the 22,500 shares of common stock issued and the shares of common stock issuable upon conversion of the series B Preferred Stock within 150 days after the closing of the acquisition. The Series B preferred stock may be converted into Common Stock at a conversion price equal to the lesser of 125% of the average closing bid price, as defined (the "Series B Effective Price") or discounted percentages of the Series B Effective Price decreasing from 80% to 75% over time. Any outstanding shares of the Series B Preferred Stock will be automatically converted to common stock two years from the issue date. On August 21, 1997, the Company sold 7,500 shares of Series C Preferred Stock for $750,000 and issued a Common Stock Purchase Warrant to purchase 25,000 shares of common stock to a private investor. No value was assigned to the warrants. The exercise price of the warrants is $7.4609 per share based on 125% of the ten day average of the closing bid price of the common stock. The Series C Preferred Stock may be converted into common stock at a conversion price equal to the lesser of 125% of the five day average of the closing bid price of the common stock or discounted percentages, ranging from 80% to 74% over time, of the current five day average closing bid price of the common stock. The Series C Preferred Stock has a stated dividend of $7.00 per share per annum. Effective December 31, 1997, the Company issued an 8% Debenture due April 19, 2009 for $328,500 to settle certain penalties related to delayed registration of the Series C Preferred Stock. The Debenture is repayable solely in common stock and may be converted at the trading value of company's stock, for five trading days preceding the Conversion date. The Company issued 6,500 shares, $.01 par value, of Series C Preferred Stock in settlement of $650,000 of accrued expenses. These shares may be converted into common stock at market prices beginning in 90 days from issue date. The Series A, B and C Convertible Preferred Stock have conversion features that were "in the money" at the date of issue ("beneficial conversion feature"). These securities may be convertible into common stock at the discount percentages specified above. The beneficial conversion features were recognized and measured in the 1997 financial statements by allocating a portion of the proceeds equal to the intrinsic value of the conversion feature to additional paid-in capital. The intrinsic value was calculated at the date of issue of the Convertible Preferred Stock as the difference between the conversion price and the face value of the Common 56 40 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) Stock into which the securities are convertible, multiplied by the number of shares into which the security is convertible. A summary of the amounts allocated to the beneficial conversion feature is as follows:
YEAR ENDED DECEMBER 31, CONVERTIBLE PREFERRED STOCK 1997 --------------------------- ------------ Series A.................................................... $1,366,000 Series B.................................................... 374,000 Series C.................................................... 178,000 ---------- $1,918,000 ==========
The discount resulting from the allocation of proceeds to the beneficial conversion feature is analogous to a dividend and has been recognized as a return to the preferred shareholders from the date of issuance through the date the security is first convertible. The discount of $1,918,000 was fully amortized at December 31, 1997 by a charge against additional paid-in capital because the company had no accumulated earnings at those dates. The amortization of the discount has been reflected as a return to the preferred shareholders in the calculation of basic earnings per share. Bonus Compensation In February 1996, the Company granted to certain employees and a consultant, bonus compensation paid in the form of (1) 11,725 shares of common stock outside of the 1991 Stock Plan and the 1989 Stock Option Plan and (2) stock options under the 1991 Stock Plan for 6,500 shares of common stock at an exercise price of $.10 per share. The Company recognized $558,857 in compensation expense associated with the grants. Stock Option Plans The Company adopted the 1989 Stock Option Plan (the "1989 Plan") and reserved 60,000 shares of common stock for issuance to employees, officers, directors and consultants. Under the 1989 Plan, the Board of Directors will grant options and establish the terms of the options in accordance with plan provisions. The 1989 Plan options are exercisable for a period of ten years from the date of issuance. The following table summarizes the activity of options granted under the 1989 plan:
YEARS ENDED JUNE 30, YEAR ENDED SIX MONTHS ENDED ------------------------------------- DECEMBER 31, 1997 DECEMBER 31, 1996 1996 1995 ----------------- ----------------- ----------------- ----------------- WEIGHTED WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE AVERAGE EXERCISE EXERCISE EXERCISE EXERCISE SHARES PRICE SHARES PRICE SHARES PRICE SHARES PRICE ------ -------- ------ -------- ------ -------- ------ -------- Outstanding at beginning of period.................... 20,800 $8.80 22,000 $8.70 27,000 $7.10 27,000 $7.10 Granted..................... -- -- -- -- -- -- -- -- Canceled.................... -- -- -- -- -- -- -- -- Exercised................... -- -- (1,200) 7.50 (5,000) .50 -- -- ------ ------ ------ ------ Outstanding at end of period.................... 20,800 8.80 20,800 8.80 22,000 8.70 27,000 7.10 ====== ====== ====== ====== Exercisable at end of period.................... 20,800 8.80 20,050 8.90 19,750 8.90 22,850 7.20 ====== ====== ====== ====== Reserved for future grants at end of period.......... -- -- -- -- ====== ====== ====== ======
57 41 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) Information pertaining to options outstanding under the 1989 Plan at December 31, 1997 is as follows:
OPTIONS EXERCISABLE OPTIONS OUTSTANDING ---------------------- ------------------------------ WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE NUMBER REMAINING EXERCISE NUMBER EXERCISE EXERCISE PRICES OUTSTANDING CONTRACTUAL LIFE PRICE EXERCISABLE PRICE --------------- ----------- ---------------- -------- ----------- -------- $7.50-$8.80............ 20,600 4.0 Years $ 8.30 20,600 $ 8.30 $58.70................. 200 3.6 Years 58.70 200 58.70 ------ ------ 20,800 4.0 Years 8.80 20,800 8.80 ====== ======
The Company adopted the 1991 Stock Plan (the "1991 Plan") and reserved 260,000 shares of common stock for issuance to employees, officers, directors and consultants. Under the 1991 Plan, the Board of Directors may grant options, stock awards and purchase rights, and establish the terms of the grant in accordance with the provisions of the plan. The 1991 Plan options are exercisable for a period of seven years from the date of issuance and certain options contain a net exercise provision. As of December 31, 1997, no stock awards or purchase rights have been granted under the 1991 Plan. The following table summarizes the activity of options granted under the 1991 Plan:
YEARS ENDED JUNE 30, YEAR ENDED SIX MONTHS ENDED ------------------------------------- DECEMBER 31, 1997 DECEMBER 31, 1996 1996 1995 ------------------ ------------------ ----------------- ----------------- WEIGHTED WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE AVERAGE EXERCISE EXERCISE EXERCISE EXERCISE SHARES PRICE SHARES PRICE SHARES PRICE SHARES PRICE ------- -------- ------- -------- ------ -------- ------ -------- Outstanding at beginning of period...... 79,790 $10.20 64,090 $10.40 60,910 $12.60 58,660 $11.80 Granted................................. 21,000 2.31 32,600 10.10 10,500 2.90 5,000 19.40 Canceled................................ (22,394) 10.00 (5,600) 18.10 (2,150) 52.90 (2,700) 8.50 ------ ------ Exercised............................... (150) 7.50 (11,300) 7.50 (5,170) 3.20 (50) 7.50 ------- ------- ------ ------ Outstanding at end of period............ 78,246 5.80 79,790 10.20 64,090 10.40 60,910 12.60 ======= ======= ====== ====== Exercisable at end of period............ 52,800 8.70 34,399 11.80 41,830 10.90 20,183 18.70 ======= ======= ====== ====== Reserved for future grants at end of period................................ 165,084 23,690 50,690 59,040 ======= ======= ====== ====== Weighted average fair value of options granted during the period............. $ 2.30 $12.30 $29.40 N/A
58 42 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) Information pertaining to options outstanding under the 1991 Plan at December 31, 1997 is as follows:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE ------------------------- ---------------------- WEIGHTED AVERAGE WEIGHTED WEIGHTED REMAINING AVERAGE AVERAGE EXERCISE NUMBER CONTRACTUAL EXERCISE NUMBER EXERCISE PRICES OUTSTANDING LIFE PRICE EXERCISABLE PRICE -------- ----------- ----------- -------- ----------- -------- $.01-$.75.............. 40,000 4.0 Years $ 3.25 27,200 $ 2.80 $1.31-$1.94............ 18,246 5.3 Years 6.20 5,600 6.95 $5.25-$6.25............ 20,000 1 Years 25.60 20,000 25.60 ------ ------ 78,246 3.8 Years 5.80 52,800 8.70 ====== ======
Other Stock Options and Warrants On September 6, 1990, the Company's Board of Directors granted non-qualified stock options to purchase 45,000 shares of common stock at a price of $8.75 per share through September 2000, all of which are currently exercisable by a former director of the Company. In January 1993, the Company granted an option to purchase 2,000 shares of common stock at a price of $52.50 per share exercisable through January 15, 1999. On November 20, 1995, the Company entered into a one-year investment banking agreement with the underwriter of the Company's prior public offerings. As compensation for services, the Company granted a warrant to purchase 40,000 shares of common stock at an exercise price of $25 per share. The warrant is exercisable through November 20, 2000. The shares underlying the warrant were registered on a Form S-3 registration statement declared effective on March 29, 1996. In September 1996, the Company and the underwriter amended the agreement, and the Company paid the underwriter $500,000 in consulting fees for services rendered. On July 24, 1996, the Company's Board of Directors granted non-qualified stock options to two directors of the Company to purchase an aggregate of 66,000 shares of common stock at an exercise price of $19.40 per share. These options are exercisable by the directors until July 24, 2003. On October 28, 1996, the Company's Board of Directors granted a non-qualified stock option to a director of the Company to purchase 33,000 shares of common stock at an exercise price of $13.10 per share. This option is exercisable by the director until October 28, 2003. The weighted average fair value of these options, estimated using the Black-Scholes option-pricing model, on the date of grant was $12 per share. On December 10, 1996, the Company granted warrants to purchase an aggregate of 10,000 shares of common stock at an exercise price of $14.40 per share. These warrants are exercisable through December 31, 2003. The Company valued the warrants at $99,000 and is expensing the warrants over their vesting period. Expense for the year ended December 31, 1997 and the six months ended December 31, 1996 was $39,598 and $19,800, respectively. On August 28, 1997, the Company issued a warrant to purchase 100,000 shares of Common Stock at an exercise price of $1.50 per share as consideration of investment banking services rendered to the Company by an investment banker. The Company recognized compensation expense of $452,000 in the third quarter of Fiscal 1997 based on the fair value of the warrant. 59 43 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) Stock-Based Compensation At December 31, 1997, the Company has two stock-based compensation plans and stock options issued outside of the plans, which are described above. The Company applies APB Opinion No. 25 and related Interpretations in accounting for stock options issued to employees and directors. Had compensation cost for the Company's stock options issued to employees and directors been determined based on the fair value at the grant dates consistent with SFAS No. 123, the Company's net loss and net loss per share would have been adjusted to the pro forma amounts indicated below:
SIX MONTHS ENDED YEAR ENDED DECEMBER 31, YEAR ENDED DECEMBER 31, 1997 1996 JUNE 30, 1996 ----------------- ---------------- ------------- Net loss: As reported................................. $(12,241,278) $(4,306,140) $(6,082,494) Pro forma................................... (12,555,111) $(4,489,433) $(6,131,944) Net loss per share: As reported................................. $ (4.48) $ (1.50) $ (2.84) Pro forma................................... $ (4.58) $ (1.66) $ (2.86)
Common stock equivalents and contingently issuable shares have been excluded from all calculations of net loss per share because the effect of including them would be anti-dilutive. The fair value of each option grant under the 1991 Plan is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted average assumptions used for grants during the year ended December 31, 1997, the six months ended December 31, 1996 and the year ended June 30, 1996, respectively; dividend yield of 0%; risk-free interest rates of 6.5%, 6.5% and 6.4%; expected volatility of 80%, 80% and 80% and expected lives of 1.0, 3.8 and 3.9 years. Weighted average assumptions used in valuing stock options issued outside of the plans during the six months ended December 31, 1996 were dividend yield of 0%; risk free interest rate of 6.8%; expected volatility of 81% and an expected life of 5 years. Common Stock Reserved The Company has reserved common stock at December 31, 1997 as follows:
NUMBER OF SHARES ---------------- Convertible note payable.................................... 555,677 1992 public offering warrants............................... 256,984 Private placement agents' warrants.......................... 6,833 Stock option plans.......................................... 258,446 Superior acquisition........................................ 1,666,667 Preferred stock conversion.................................. 4,848,913 Other stock options and warrants............................ 1,684,999 ---------- Total..................................................... 9,278,519 ==========
The number of shares of common stock reserved in connection with the convertible note payable and convertible preferred stock is subject to adjustment (see Notes 6 and 14.) 60 44 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) 11. REVENUES AND SEGMENT INFORMATION Product Sales During the six months ended December 31, 1996 and 1995, the Company's sales to foreign customers amounted to 21% and 16% of total revenues, respectively. During the years ended June 30, 1996 and 1995, the Company's sales to foreign customers amounted to 36% and 42% of total revenues, respectively. Sales to two domestic customers amounted to 53% and 14% of total revenues, and sales to one foreign customer amounted to 18% of total revenues during the six months ended December 31, 1996. Sales to one foreign customer amounted to 23% of total revenues during the year ended June 30, 1996 and sales to a different foreign customer amounted to 27% of total revenues during the year ended June 30, 1995. A summary of sales by geographic area is as follows:
YEAR ENDED SIX MONTHS ENDED DECEMBER 31, DECEMBER 31, YEARS ENDED JUNE 30, ------------ ------------------------- ------------------------- 1997 1996 1995 1996 1995 ------------ ----------- ----------- ----------- ----------- Far East and Asia............... $ 31,970 $ 68,815 $ 39,812 $ 183,706 $ 185,997 United States................... 13,747,429 281,934 4,693 18,877 39,860 Europe.......................... 11,542 7,403 5,622 8,466 16,462 Other........................... 129,963 315 7,728 9,696 5,234 ----------- ----------- ----------- ----------- ----------- $13,920,904 $ 358,467 $ 57,855 $ 220,745 $ 247,553 =========== =========== =========== =========== ===========
A summary of sales by product is as follows:
YEAR ENDED SIX MONTHS ENDED DECEMBER 31, DECEMBER 31, YEARS ENDED JUNE 30, ------------ ------------------------- ------------------------- 1997 1996 1995 1996 1995 ------------ ----------- ----------- ----------- ----------- Diagnostic tests................ $ 110,395 $ 86,781 $ 57,855 $ 220,745 $ 247,553 Generic pharmaceuticals......... 13,810,509 271,686 -- -- -- ----------- ----------- ----------- ----------- ----------- $13,920,904 $ 358,467 $ 57,855 $ 220,745 $ 247,553 =========== =========== =========== =========== ===========
License Fees and Royalties During the year ended June 30, 1995, the Company entered into an agreement where it granted a third party the right to evaluate licensing the Company's smoking cessation technology for a $500,000 fee, $250,000 of which was refundable should the Company license its smoking cessation technology to a different party prior to October 15, 1995. On July 13, 1995, the third party informed the Company that it would not exercise its right to license the technology at this time. Revenues earned under this agreement were approximately 45% and 50% of total revenues for the years ended June 30, 1996 and 1995, respectively. License fee revenue for the year ended June 30, 1996 includes $250,000 related to the smoking cessation technology mentioned above, $60,000 for certain rights to manufacture and sell the Company's MycoAKT latex agglutination products, and $25,000 for exclusive MycoDot distribution rights in Japan. 61 45 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) Segment Information The Company has two principal operating segments: the development and marketing of therapeutic and diagnostic products for the human health care market and the manufacture and distribution of generic pharmaceuticals through its recently acquired subsidiaries, Able Laboratories, Inc. and Superior Pharmaceutical Company. During the years ended June 30, 1996 and 1995, the Company's continuing operations consisted of the development and marketing of therapeutic and diagnostic products for the human health care market. Segment information is as follows:
THERAPEUTICS AND DIAGNOSTIC GENERIC GENERAL PRODUCTS PHARMACEUTICALS CORPORATE CONSOLIDATED -------------- --------------- ----------- ------------ YEAR ENDED DECEMBER 31, 1997 Operating revenues............... $ 199,221 $13,810,509 $ -- $ 14,009,730 Operating loss................... (5,964,823) (2,658,370) (1,454,589) (10,077,782) Interest and other expense....... -- -- -- (2,163,496) Net loss......................... -- -- -- (12,241,278) Identifiable assets.............. 435,570 28,207,542 705,002 29,348,114 Depreciation and amortization.... 99,957 1,576,823 37,740 1,714,520 Capital expenditures............. 41,765 917,459 -- 959,224 SIX MONTHS ENDED DECEMBER 31, 1996 Operating revenues............... $ 88,222 $ 271,686 $ -- $ 359,908 Operating loss................... (1,867,120) (842,877) (1,617,840) (4,327,837) Interest and other expense....... -- -- -- 21,697 Net loss......................... -- -- -- (4,306,140) Identifiable assets.............. 509,885 1,410,679 5,542,585 7,463,149 Depreciation and amortization.... 94,626 34,932 -- 129,558 Capital expenditures............. 10,449 576,621 -- 587,070
Operating loss represents net sales less operating expenses for each segment, and excludes general corporate expenses and other income and expenses of a general corporate nature. Identifiable assets by segment are those assets that are used in the Company's operations within that segment. General corporate assets consist principally of cash, investment securities, notes receivables, accrued interest receivable, certain office furniture and equipment, certain intangible assets and deferred debt financing costs. 12. EMPLOYEE BENEFIT PLAN The Company has a Section 401(k) Profit Sharing Plan (the "401(k) Plan") for the DynaGen and Able employees. Employees who have attained the age of 21 may elect to reduce their current compensation, subject to certain limitations, and have that amount contributed to the 401(k) Plan. The Company may make discretionary contributions to the 401(k) Plan up to 25% of employee compensation, subject to certain limitations. Employee contributions to the 401(k) Plan are fully vested at all times and all Company contributions become vested over a period of six years. The Company has made no contributions to the 401(k) Plan as of December 31, 1997. 62 46 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) Superior provides its employees with a Section 401(k) profit sharing plan. Eligible participants must be twenty-one years old and have worked for one year. Employer matching and profit sharing contributions are discretionary. At December 30, 1997, Superior matched $5,919 and contributed $18,208 in profit sharing. 13. SUBSEQUENT EVENTS On August 20, 1997, the Company completed a placement of Series C and Series D Convertible Preferred Shares with an investor. At the time of the closing, the investor purchased 7,500 shares of Series C Preferred for $750,000. The purchase agreement provided that the Company may require the investor to purchase on a monthly basis tranches of Series D Preferred Shares in the amount of no less than $200,000 per month and on an optional basis no more than an additional $200,000 per month with certain exceptions. The Company is obligated to register for resale the shares of common stock issuable upon conversion of the Series C and D Preferred Stock. The Company also issued a stock purchase warrant to purchase 25,000 shares of its common stock in connection with this offering. Under the registration rights agreement, the Company was required to file registration of both Series C and D Preferred Shares within 45 days of the completion of the placement. The Company filed the registration statement in March 1998, but it has not been declared effective. In March 1998 the Company issued a warrant to the investor to purchase at any time in the next three (3) years 1% of the fully diluted issued and outstanding shares at the time of the exercise for $150,000. On March 19, 1998, the investor purchased an additional $500,000 of Series D Preferred Shares from the Company and waived certain restrictions which limited the drawdown to $400,000 per month. On February 26, 1998, the Company received $500,000 from the placement of a 7% convertible debenture from another investor. On March 30, 1998, the investor exchanged this debenture for a $500,000 tranche of Series D Preferred Shares and also received an 8% convertible debentures in the amount of $87,500. This debenture is convertible into common stock at the market price of the common stock on the date of the conversion. On March 31, 1998, the Company sold another tranche of $500,000 of Series D Preferred Stock, along with an 8% convertible debenture in the amount of $87,500 convertible into common stock at the market price, to another investor. During the months of February and March of 1998, the Chairman and Executive Vice President and the President and Chief Executive Officer of the Company and their family members advanced the Company $265,000 towards general working capital purposes. The loans carry no interest, are unsecured, and subordinated and can only be repaid through conversion into equity. On March 2, 1998, the Company through its subsidiary, Generic Distributions, Incorporated ("GDI"), completed the acquisition of Generic Distributors Limited Partnership ("GDLP"), of Monroe, LA. In connection with the acquisition, the Company paid the limited partnership $1,200,000 in cash, 10,500 shares of Series E Convertible Preferred Stock valued at $1,050,000 and 1,500 shares of Series F Convertible Preferred Stock valued at $100,000, for a total purchase price of $2,350,000. The Series E Preferred Stock is convertible beginning 12 months from the closing into shares of the Company's Common Stock at the then-prevailing market prices. The Series F Preferred Stock is convertible into $100,000 in value of the Company's Common Stock commencing 120 days after the closing at then-prevailing market prices. In connection with this transaction, GDI received $1,200,000 in a five-year term loan from Fleet Bank. The loan carries an interest of LIBOR plus 3%, is payable in quarterly installments of principal and interest and matures on April 26, 2003. Fleet Bank also established a revolving line of credit for general working capital in the amount of $300,000. The line bears interest at LIBOR plus 2 1/2%. The loans are secured by all of the assets of GDI and 63 47 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) Able and a pledge of all of the common stock of GDI, and are guaranteed by the Company. In addition, the Company entered into employment and consulting agreements with the sellers which provide, among other things, for annual compensation and a signing bonus of 1400 shares of Series F Preferred Stock, convertible into $100,000 of the Company's Common Stock commencing 120 days after the closing. On March 24, 1998, the Company suspended conversions of its Series A and B Preferred Shares into the Company's common stock. The purpose of this suspension is to give the Company time to coordinate its efforts to negotiate orderly settlements of these outstanding convertible preferred shares. This action was not specifically provided for in the terms of the Series A Preferred Stock or Series B Preferred Stock. There has been no adverse effect on the Company. On March 30, 1998, the Board of Directors unanimously voted to issue options, warrants and the Company's common stock to several individuals and entities for services rendered to date and for future considerations. The Board also authorized the issuance of 800,000 shares for product development and FDA related consulting services to various entities. The Company granted warrants to purchase 650,000 shares to two consulting firms in connection with the Company's investor relations program. All of the above grants of shares, options and warrants are subject to vesting and may be canceled by the Board at its option. In March 1998, the Company received a letter from NASDAQ advising that the Company did not meet the minimum listing criteria and will be subject to delisting. The Company has responded to NASDAQ. To date, the Company has not been informed of a decision from NASDAQ concerning its continued listing. In January 1998, Biotrack, Inc. received $277,750 in bridge financing and in March, 1998, the Company sold a portion of its shares of Biotrack, Inc. to three investors for $125,000. 14. FAIR VALUE OF FINANCIAL INSTRUMENTS At December 31, 1997 and 1996, the Company's financial instruments include investment securities which are carried at fair value (see Note 3), notes receivable (see Note 8) and debt obligations (see Note 6). The carrying value of the notes receivable approximate their fair value as these instruments bear interest and mature in less than one year. The fair value of the outstanding balance of the convertible note payable is approximately $799,000 and $2,786,000 at December 31, 1997 and 1996, respectively, based on the fair value of the common stock issuable on conversion of the note. The carrying value of other debt obligations approximate fair values based on their maturities and interest rates. 64 48 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) 15. QUARTERLY DATA (UNAUDITED) Summaries of operating results on a quarterly basis are as follows:
SIX MONTHS ENDED DECEMBER 31, YEAR ENDED JUNE 30, YEAR ENDED ----------------- ------------------------------------- DECEMBER 31, 1997 1996 1996 ------------------------------------- ----------------- ------------------------------------- FOURTH THIRD SECOND FIRST SECOND FIRST FOURTH THIRD SECOND FIRST QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER QUARTER ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- (IN THOUSANDS, EXCEPT PER SHARE DATA) Net product sales............ $6,662 5,572 $1,230 $ 457 $ 299 $ 59 $ 70 $ 93 $ 39 $ 19 License fees and royalties... -- 38 50 1 1 -- 25 35 25 250 ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- Total revenues........... 6,662 5,610 1,280 458 300 59 95 128 64 269 ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- Cost of sales................ 6,402 4,645 1,255 454 331 25 22 46 21 8 Research and development..... 851 723 1,159 487 332 760 1,230 852 566 470 Selling, general and administrative............. 2,525 2,546 1,066 1,475 2,166 1,073 616 880 618 571 ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- Total costs and expenses............... 9,778 7,914 3,980 2,416 2,829 1,858 1,868 1,778 1,205 1,049 ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- Operating loss............... (3,116) (2,304) (2,700) (1,958) (2,529) (1,799) (1,773) (1,650) (1,141) (780) Other income, net............ (1,623) (514) (95) 69 1 21 74 (923) 57 54 ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- Net loss................. (4,739) (2,818) (2,795) (1,889) (2,528) (1,778) (1,699) (2,573) (1,084) (726) Less returns to preferred stockholders: Beneficial conversion feature.................. (486) (1,229) (203) -- -- -- (552) (313) -- -- Dividends paid and accrued.................. (96) (73) (21) -- -- -- -- -- -- -- ------- ------- ------- ------- ------- ------- ------- ------- ------- ------- Net loss applicable to common stock...................... $(5,321) $(4,120) $(3,019) $(1,889) $(2,528) $(1,778) $(2,251) $(2,886) $(1,084) $ (726) ======= ======= ======= ======= ======= ======= ======= ======= ======= ======= Net loss per share --Basic... $(1.51) $(1.27) $ (.99) $ (.63) $ (.88) $ (.62) $ (.82) $(1.11) $ (.48) $ (.34) ======= ======= ======= ======= ======= ======= ======= ======= ======= ======= Weighted average shares outstanding................ 3,525 3,246 3,041 2,998 2,897 2,862 2,729 2,606 2,263 2,180 ======= ======= ======= ======= ======= ======= ======= ======= ======= =======
65 49 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) 16. PARENT COMPANY ONLY Financial information pertaining only to Dynagen, Inc. has been included as of and for the year ended December 31, 1997 due to the restrictions placed on distribution of the net assets of Superior Pharmaceutical Company under the "loan payable-bank". (See Note 6.) The restricted net assets of Superior were approximately $3,600,000 at December 31, 1997. CONDENSED BALANCE SHEET DECEMBER 31, 1997 Current assets: Accounts receivable....................................... $ 14,981 Notes receivable.......................................... 110,000 Prepaid expenses and other current assets................. 127,270 ----------- Total current assets.............................. 252,251 ----------- Property and equipment, net................................. 124,001 ----------- Other assets: Investment in and advances to subsidiaries................ 16,869,157 Patents and trademarks, net of accumulated amortization... 242,315 Deferred debt financing costs, net of accumulated amortization........................................... 359,621 Deposits and other assets................................. 245,725 ----------- Total other assets................................ 17,716,818 ----------- $18,093,070 ===========
LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Bank overdraft............................................ $ 142,616 Notes payable............................................. 7,873,333 Accounts payable.......................................... 2,248,184 Accrued payroll and payroll taxes......................... 42,215 Acquisition obligation.................................... 4,083,000 ------------ Total current liabilities......................... 14,389,348 Warrant put liability..................................... 750,594 Long term debt............................................ 328,500 ------------ Total liabilities................................. 15,468,442 ------------ Stockholders' equity: Preferred stock, $.01 par value, 10,000,000 shares authorized, 63,522 shares of Series A, B, C and G outstanding, (liquidation value $6,348,417): .......... 635 Common stock, $.01 par value, 75,000,000 shares authorized, 4,315,137 shares issued and outstanding.... 43,151 Additional paid-in capital................................ 40,122,386 Accumulated deficit....................................... (37,541,544) ------------ Total stockholders' equity........................ 2,624,628 ------------ $ 18,093,070 ============
66 50 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) CONDENSED STATEMENT OF LOSS YEAR ENDED DECEMBER 31, 1997 Revenues: Product sales............................................. $ 110,395 Fees and royalties........................................ 88,826 ------------ Total revenues.................................... 199,221 ------------ Costs and expenses: Cost of sales............................................. 41,338 Research and development.................................. 1,813,390 Selling, general and administrative....................... 4,541,054 ------------ Total costs and expenses.......................... 6,395,782 ------------ Operating loss.................................... (6,196,561) ------------ Other income (expense): Investment income, net.................................... 120,359 Interest and financing expense............................ (1,910,006) ------------ Other income (expense), net....................... (1,789,647) ------------ Loss before losses of unconsolidated subsidiaries........... (7,986,208) Losses of unconsolidated subsidiaries....................... (4,255,070) ------------ Net loss.......................................... $(12,241,278) ============
67 51 DYNAGEN, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION FOR THE SIX MONTHS ENDED DECEMBER 31, 1995 IS UNAUDITED.) CONDENSED STATEMENT OF CASH FLOWS YEAR ENDED DECEMBER 31, 1997 Cash flows from operating activities: Net loss.................................................. $(12,241,278) Adjustments to reconcile net loss to net cash used for operating activities: Stock and stock options issued for services............ 992,284 Depreciation and amortization.......................... 1,582,475 Accretion of discounts on investment securities........ (10,152) Stock issued for interest obligation................... 59,838 Losses of unconsolidated subsidiaries.................. 4,255,070 (Increase) decrease in operating assets: Accounts receivable.................................... (88) Prepaid expenses and other current assets.............. 146,783 Deposits and other assets.............................. (218,747) Increase in accounts payable and accrued expenses......... 2,612,725 ------------ Net cash used for operating activities............ (2,821,090) ------------ Cash flows from investing activities: Purchase of investment securities...................... (1,186,455) Proceeds from maturities of investment securities...... 4,200,000 Investment in and advances to subsidiaries............. (11,610,269) Purchase of property and equipment..................... (41,765) Decrease in notes receivable........................... 75,000 ------------ Net cash used for investing activities............ (8,563,489) ------------ Cash flows from financing activities Net proceeds from stock warrants and options........... 1,125 Net proceeds from private stock placements............. 6,775,920 Net proceeds from debt placements...................... 2,851,898 Increase in bank overdraft............................. 142,616 Repayment of superior notes payable.................... (416,667) ------------ Net cash provided by financing activities......... 9,354,892 ------------ Net decrease in cash and cash equivalents................... (2,029,687) Cash and cash equivalents at beginning of year.............. 2,029,687 ------------ Cash and cash equivalents at end of year.................... $ -- ============
68 52 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Amendment No. 3 to Report on Form 10-K to be signed on its behalf by the undersigned, thereunto duly authorized in the City of Cambridge, Commonwealth of Massachusetts on September 11, 1998. DYNAGEN, INC. By: /s/ DHANANJAY G. WADEKAR ------------------------------------ Dhananjay G. Wadekar Executive Vice President 83 -----END PRIVACY-ENHANCED MESSAGE-----