CBI ANNUAL REPORT
Published on March 31, 1998
The Company
- --------------------------------------------------------------------------------
Overview of the Company
The Company was founded in 1992 by four experienced research scientists to
provide sophisticated research and development support services on a contract
basis to the biotechnology industry. The Company's customers consist of private
companies, academic institutions, and government agencies, all of which use
biological processes to develop products for health care, agricultural, and
other purposes. The Company has developed a strong reputation as a leading
provider of biotechnology research and development analytical services.
The Company's revenues are derived principally from providing macromolecular
synthetic and analytical services (protein/peptide, and DNA/RNA chemistries) to
researchers in the biotechnology industry or those who are engaged in life
sciences research in government or academic labs. This arrangement
distinguishes the Company from many other biotechnology companies because the
Company's revenues are not directly dependent on successfully commercializing a
new biotechnology product.
In general terms, the Company serves two types of customers: those who require
a discrete set of analyses ("short-term projects"); and, those who contract
with the Company on an extended basis for performance of a variety of
integrated analytical services ("long-term projects"). More often than not,
short-term and long-term project customers send the Company repeat business.
The Company also derives a portion of its revenues from research grants funded
by various Federal agencies. These research grants support the bulk of the
Company's research efforts on its own proprietary technologies.
Analytical Support Services
Providing a wide range of services is an important element of the Company's
competitive strategy. There are few major competitors which offer integrated
DNA/RNA and protein/peptide technologies, and none that offer these
technologies combined with sophisticated biophysical techniques, such as
calorimetry, spectroscopy, and mass spectral analysis. Thus, the Company can
provide "one stop shopping" for biotechnology services.
4
The services offered by the Company are fully detailed in its promotional
brochures and on its Web page. Some of these services include:
Oligonucleotide Synthesis. Nucleotides are the building blocks of DNA and RNA.
The Company provides both routine syntheses and custom synthesis chemistries
for design of special nucleotide derivatives. Very few commercial companies
offer custom RNA synthesis or synthesis of RNA/DNA hybrid molecules, and the
Company has been successful in supplying these specialized products to academic
and commercial customers. In addition, the Company now produces peptide nucleic
acids (PNAs) under a broad license from Perseptive Biosystems, Framingham, MA.
Protein/Peptide Synthesis. Assembly of amino acids into chains creates
synthetic peptides. Recently purchased equipment has added to the Company's
capacity for peptide synthesis.
DNA Sequencing. Sequencing is essentially the reverse process of synthesis. In
a typical experiment, a customer will require 10-20 sequencing reactions.
However, a number of customers require thousands of sequencing reactions, for
which the Company offers aggressive discounts in pricing.
Peptide/Protein Sequencing. Analysis of the order of amino acids in proteins
and enzymes is an important analytical tool. The Company provides N-terminal
sequence analysis, and with new instruments to be installed in 1998, the
Company will offer automated C-terminal sequence analysis.
Peptide/Protein Compositional Analysis. Analysis of the amino acids that
compose a protein or peptide is used to verify purity of synthesized peptides
and to determine the make-up of newly discovered proteins or enzymes. Usually,
two or three analyses are required for a complete compositional determination.
Short-term Research Projects.
On average, in 1997, the Company added 16 new customers per month. At the end
of 1997, the Company's customer base included over 400 researchers at more than
350 different institutions world-wide. Of its domestic customers, 59% work in
private companies, and 41% are located in university or governmental labs. In
1997, the Company added 19 new foreign research institutes in Japan, India,
Greece, Columbia, Korea, Norway, Spain, Sweden, and Canada.
Of the Company's domestic customer base, 59% work in private labs, and 41% work
in university or government labs
In 1997, the Company averaged 66 new orders per month. The nature of these
orders vary widely; some are for relatively straight-forward chemistries which
take a minimum amount of time to complete, while other orders are far more
complicated procedures which take several weeks to complete.
Number of orders for new work received monthly by the Company in 1997.
Customers come to the Company from many sources. The Company advertises in
professional journals, exhibits at trade shows, and has its own Web page from
which potential customers may directly download order forms
5
and place an order, if desired. The Company is also cross listed on several
biotechnology, biochemistry, and molecular biology search services, so that
potential customers may find us using simple key word search terms. Of course,
favorable word-of-mouth advertising is key to the Company's success, and has
brought many new investigators within a single research based institution. All
inquiries to the Company receive immediate and personal attention. Quotations
are usually sent back to a potential customer within the day, and certainly
within 24 hours. Customers continue to comment favorably on their phone, fax,
and e-mail interactions with CBI staff personnel.
Long-term Research Projects
The Company actively pursues long-term research contracts with government,
private, and university research institutes. Some contracts are to perform
research services to a customer's list of specifications, while other contracts
are to perform basic research into a problem of interest to the customer. The
Company is able to attract these customers because of the breadth of
technologies that it offers. In 1997, revenues realized from contract research
customers totaled $561,007 and in the first quarter of 1998, the Company has
already signed research contracts totaling over $300,000.
Proprietary Research And Development
As a rule, the Company does not retain intellectual property rights on work
done for short-term projects, and only rarely retains intellectual property
rights for work done on long-term projects. In contrast, the Company is
developing its own technologies in its proprietary research and development
programs. CBI does not foresee itself as a manufacturer of any products that
might result from these research efforts; rather, the goal of these projects is
to bring a particular technology to a patentable stage, and then license the
technology to another company. If the technology is commercialized, the Company
may realize licensing and/or royalty fees.
Presently, the Company's Research and Development activities fall into five
general areas.
Development of heparin antagonists for clinical use. Heparin is a
complex, negatively charged, polysaccharide molecule which is used
worldwide as an anti-coagulant ("blood thinner"). Virtually every patient
who undergoes invasive cardiovascular surgery (bypass, angioplasty, etc.)
receives heparin as an anti-coagulant. Unfortunately, humans do not
metabolize heparin very well, and in many acute surgical situations, the
patient is administered another drug, "protamine," to rid the body of
heparin.
Protamine therapy, however, is fraught with potential complications,
including hypotension, platelet lysis, and in some cases, death.
CBI has developed a protamine replacement (the "Compound"). Initially
funded by a $ 100,000 grant from the National Institutes of Health (NIH),
CBI is now in the second year of a $500,000 award for this project. The
Company has filed patent applications for the Compound, and CBI
management is hopeful that these patents will issue in 1998.
Research work is continuing in 1998 to assess the efficacy and toxicity
of the Compound in animal models of cardiovascular surgery. Further, in
1998, the Company hopes to enter licensing discussions with potential
corporate partners.
Stabilization of peptide drugs; a novel application of the Company's lead
heparin antagonist Compound. An unexpected finding from the Company's
heparin antagonist research program was that the Compound is an effective
stabilizing agent for particular human peptide pharmaceuticals. In this
respect, the Compound has the potential to effectively replace protamine
in these formulations. This would be desirable because patients who
receive protamine-stabilized drug formulations are at increased risk of
severe allergic response ("anaphylaxis") if they ever receive protamine
in conjunction with heparin therapy.
In 1998, CBI expects to seek patent protection for this use of the
Compound as a stabilizing agent.
Creation of heparin structures with defined biological activities.
Heparin is a mixture of molecules which are "pluripotent"; that is,
heparin possesses diverse biological activities, including
anti-coagulant, anti-platelet, and anti-smooth muscle cell proliferative
activities.
The Company, and its collaborators at the Upstate VA Medical Center,
Syracuse, NY, have developed methods to refine heparin into sub-fractions
which
6
possess defined bio-activities. If successful, the clinician will have an
array of heparins at his disposal for use in particular surgical
situations; a purely anti-thrombotic heparin for use in surgeries
involving the venous system (for example, phlebitis), an anti-platelet
heparin for use in surgeries involving the arterial system (for example,
angioplasty or bypass), and a heparin which will be useful to prevent re-
occlusion of arteries by smooth muscle cells following surgical
intervention ("restenosis").
Initially funded by a research grant from the NIH, work is continuing on
this project under the auspices of a 4-year, $220,000 renewable contract
from the Central New York Research Institute. In 1998, CBI will continue
its work to identify and characterize defined chemical structures of
heparin based on this initial research.
Development of an immunoassay for equine infectious anemia. All horses
are at risk for Equine Infectious Anemia (EIA) and must be tested for the
virus. Any animal found positive must be destroyed. Current tests for the
presence of the virus are subject to false positive (and false negative)
results. False positive results are unacceptable because valuable animals
(for instance, race horses), may be euthanized. False negative results
are potentially devastating because infected animals could then move
freely amongst equine populations.
Initially funded by a $55,000 grant from the United States Department of
Agriculture (the only award of its kind from the USDA for equid related
health problems), the Company has developed a novel test which should
effectively eliminate false positive and false negative reactions, and at
the same time, afford a greater level of testing sensitivity.
The Company has made application to the USDA for a $250,000 grant to
continue this research project. Further, in 1998, CBI will assess its
patent position for its test, and hopes to enter into negotiations with a
corporate partner interested in commercializing this diagnostic assay.
Novel approaches to genomic sequence analysis; detection of MDR
(Multi-drug resistant) M. tuberculosis. The goal of this project is to
develop a test for the rapid detection of multi-drug resistant
Myobacterium tuberculosis from clinical samples. Studies have shown that
mutations in particular genes of the bacterium result in drug resistance,
and therefore, to accurately determine the precise nature of the
infectious organism, it is necessary to know the sequence of the genes.
Under the auspices of a $ 100,000 grant from the NIH, the Company is
developing a direct genomic DNA sequencing technology for application to
such diagnostic and prognostic infectious disease problems.
In addition to these research programs, the Company is a named co-inventor on
US Patent #5,700,444, "Chemotactic Peptide Pharmaceutical Applications," issued
to RhoMed Inc., Albuquerque, NM. This patent describes the synthesis and use of
peptides which bind and carry medically useful metal ions to sites of infection
and inflammation. The compounds are intended for radiological detection and
imaging of deep seated abscesses which will allow the physician to administer
the appropriate antibiotic.
The peptide structures protected under this patent were designed with
intellectual input from the Company's scientists, and the compounds themselves
were prepared at the Company. The Company assigned its ownership rights to the
invention to RhoMed Inc., in return for a continuing royalty against future
worldwide sales of a diagnostic kit which incorporates these peptides, should
such a kit ever be commercialized.
Each of these technologies is at an early stage of development and
commercialization will require additional research. Therefore, the Company
cannot determine at this time whether any of these technologies will prove
commercially viable.
Growth Strategy
The Company intends to focus its expansion efforts on the maintenance and
expansion of long term relationships with customers in the biotechnology
industry as well as establishing new customer relationships. The Company will
seek to identify trends that impact its customers and develop new products and
services to meet the changing needs of its customers. In 1998, the Company will
embark on:
o Expansion of its Instrumentation Capacity. The Company believes there is
significant demand for additional services of the type the Company
currently offers, but is unable to meet this demand because of
7
limitations in its instrumentation inventory and constraints of its
current facilities. In securing a significantly larger laboratory
facility and additional research equipment, the Company will have the
capacity to generate substantially greater revenues from its core
services and to improve profit margins through more efficient operations.
o Expansion of its Marketing Capabilities. The Company has expanded its
customer base primarily through placement of print ads in several
periodicals and industry sourcebooks, by attendance at a limited number
of trade shows, seminars, and meetings, through its own World Wide Web
Home Page, and by word-of-mouth recommendations. While the Company will
continue to utilize these strategies to attract customers, in 1998, the
Company will also be expanding its sales and marketing capabilities in
three areas.
First, the Company is currently recruiting sales representatives to cover
the three major biotechnology areas of the United States: the Boston/New
York/New Jersey area, the San Diego area, and the San Francisco Bay area.
It is anticipated that two full-time sales representatives will be
trained and in the field by the second quarter of 1998. These individuals
will be primarily targeting pharmaceutical and biotechnology companies
and government agencies.
Second, the Company has engaged Advantage Consulting, Inc., of Annandale,
VA, to facilitate its ability to successfully compete for contracts with
the U.S. Department of Defense and the Department of Justice, both of
which have an interest in DNA technologies.
Finally, the Company plans to engage an advertising and marketing firm to
advise the Company on new strategies and tools to enhance both the
Company's visibility, and its ability to identify and reach new
customers. The Company is currently interviewing several firms and
expects to make a decision early in 1998.
o Regulatory Compliance. By enhancing its facilities and expertise, the
Company believes it will be able to satisfy regulatory requirements for
performance of its analytical services. For example, the Company performs
only limited laboratory work under Good Laboratory Practices (GLP)
conditions; in 1998, the Company expects to come into compliance with GLP
and Clinical Laboratory Improvement Act (CLIA) guidelines for all its
technologies.
o Expansion into New Service Technologies. The Company continues to
critically examine new technologies with a view towards expanding its
customer base and sources of revenue. Hence, in 1998, the Company will
increase its capacity or improve its service offerings in the following
areas:
DNA sequence analysis. The Company has positioned itself to be at the
forefront in the development and application of new genome based
technologies. We have expanded our contract DNA sequencing services and
offer sophisticated sequence data analysis. We will continue to expand
these services in 1998 through the acquisition of additional sequencing
instrumentation and through the development of a Bioinformatics Group.
Genome Sequencing. We are developing comprehensive genome sequencing
capabilities in parallel with the development of the Company's
Bioinformatics Group. We are already sequencing human microbial
pathogens.
Genetic Analysis. CBI has established a Genetic Testing Group and is
evaluating several likely applications, including screening for mutations
in several genes associated with human hereditary diseases, and for genes
in which mutations confer an increased probability for the development of
specific cancers during the lifetime of the individual.
Identity Testing by Genetic Analysis. Many states have mandated that
people passing through the criminal justice system be sampled and that
their genetic fingerprints be determined. However, most state
laboratories lack the facilities and people necessary to perform these
assays. The Company is positioned to provide these services and is
establishing a DNA Reference Laboratory containing all the necessary work
areas required to provide these services. The Company expects to become
accredited for performance of this service in early 1998.
Centralized Computer Facilities. The Company will acquire and maintain a
more centralized server for databasing and analysis and to develop a more
sophisticated company-wide intranet. We are also
8
evaluating powerful software packages to permit more efficient data
handling, storage, backup, and analysis.
DNA/RNA/PNA Synthesis. CBI now offers PNA synthesis and has developed a
steady customer base for RNA synthesis. Currently, CBI is one of the few
companies successfully offering RNA synthesis.
Bioorganic Mimetic Chemistry. Incorporation of organic "mimetic"
structures into drugs often leads to enhanced stability and oral
availability of the drug. CBI now offers synthesis of these mimetic
structures, and expects demand to increase for this service.
Expanded mass spectroscopy services and Carbohydrate Analytical Services.
The Company is studying whether to establish a full-service mass spectral
facility in its new laboratories and whether sufficient demand exists for
initiating detailed carbohydrate analytical services.
Stockholder Matters
- --------------------------------------------------------------------------------
Market for Common Equity
The Company completed its initial public offering on October 28, 1997 at a
price per share of $ 6.00. Since that time, the Common Stock has traded on the
Nasdaq Smallcap Market ("Nasdaq"). The following table sets forth the range of
high and low sales price per share of Common Stock for the period following the
completion of the Company's initial public offering.
High Low
Stock Stock
Period Price Price
- -------------------------- ---------- ----------
Fourth Quarter (beginning
October 28, 1997) $ 9.00 $ 6.00
On March 6, 1998, the last reported sales price for a share of the Company's
Common Stock on Nasdaq was $7 5/8. As of March 6, 1998, there were 81 holders
of record of the Company's Common stock and approximately 892 beneficial
holders.
The Company has not paid any cash dividends on its Common Stock. The Company
intends to retain its earnings to finance the growth and development of its
business and does not expect to declare or pay dividends in the foreseeable
future. The declaration of dividends is within the discretion of the Company.
However, the Company's ability to pay dividends may be constrained by certain
provisions of its industrial revenue bond financing.
Prior to its initial public offering, the Company made distributions as an S
corporation from undistributed earnings to its stockholders, including amounts
to fund the payments of their individual tax liabilities attributable to their
allocation of the Company's income. Such distributions totaled $79,533 and
$96,851 in 1996 and 1997, respectively.
9
Selected Financial Data
Set forth below is selected financial data with respect to the Company for the
years ended December 31, 1996 (as an S Corporation) and December 31, 1997,
which has been derived from the audited financial statements of the Company.
The selected financial data set forth below should be read in conjunction with
"Management's Discussion and Analysis of Financial Conditions and Results of
Operation."
(1) The above financial data gives retroactive effect to conversion from S
Corporation to C Corporation status for federal income tax purposes.
(2) The above financial data gives retroactive effect to the 93.78-for-one
stock split effective June 24, 1997, to shares relating to the issuance of
the Conversion Shares, and to the anti-diluitive effect of the Management
Warrants converted using the Treasury Stock method.
Changes in and Disagreements with Accountants
Goodman and Company, LLP ("Goodman") served as the Company's independent pubic
accountants for the fiscal years ended December 31, 1995, December 31, 1996 and
December 31, 1997. For various business reasons, the Audit Committee of the
Company's Board of Directors (the "Audit Committee") recommended the dismissal
of Goodman to the Company's Board of Directors, and on February 23, 1998, the
Company officially terminated its business relationship with Goodman. Goodman's
reports on the Company's financial statements for each of the last two fiscal
years did not contain an adverse opinion or disclaimer of opinion. Similarly,
Goodman did not modify either such report as to uncertainty, audit scope, or
accounting principles. There were no disagreements between the Company and
Goodman regarding any matter of accounting principles or practices, financial
statement disclosure, or auditing scope or procedure.
Upon the recommendation of the Audit Committee of the Company's Board of
Directors, the Board of Directors of the Company appointed on February 23,
1998, subject to approval of the Company's shareholders, the firm of McGladrey
and Pullen, LLP, as independent public accountants to audit the Company's
consolidated financial statements for the fiscal year ended December 31, 1998.
Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following should be read in conjunction with "Selected Financial Data" and
the Company's Audited Financial Statements and Notes thereto included herein.
Overview
The Company's revenues are derived principally from providing protein/peptide
and DNA/RNA chemistries and related analytical services to researchers in the
10
biotechnology industry. The biotechnology industry has experienced rapid growth
in recent years based on the development of innovative technologies. The
development process requires sophisticated laboratory techniques. Many
participants in the industry do not have the facilities or personnel necessary
to perform these techniques, and contract it out to the Company and other
organizations. Since commencing operations in 1992, the Company has experienced
significant growth in revenues as the Company's reputation in the industry has
grown.
In general terms, the Company serves two types of customers: those who require
a discrete set of services ("short-term projects"), and those who contract with
the Company on an extended basis for performance of a variety of integrated
services ("long-term projects"). More often than not, short-term and long-term
project customers send the Company repeat business.
For the purpose of consistency between the financial reports of the Company's
operations as reported in the Prospectus for the Company's IPO, the 10-QSB
filing for the third quarter 1997, for the 10-KSB filing for 1997, and for this
Annual Report to Shareholders, the term "Laboratory Services" is used to
describe revenue and expenses associated with short-term projects, and the term
"Contract Services" is used to describe revenue and expenses associated with
long-term projects. As the Company goes forward, the terms Laboratory Services
and Contract Services will be replaced with short-term and long-term project
revenues and expenses, respectively.
The Company also derives a portion of its revenues from research grants funded
by various Federal agencies. These research grants support the bulk of the
Company's research efforts on its own proprietary technologies.
Year Ended December 31, 1997
versus December 31,1996
Revenues
Gross revenues increased by $771,382 or 77.9%, from $989,925 during the fiscal
year ended December 31, 1996 ("1996" to $1,761,308 during the fiscal year ended
December 31, 1997 ("1997").
Revenues realized from laboratory services increased $371,224 or 76.9% from
$482,586 in 1996 to $853,810 in 1997, with the DNA sequence analysis service
showing the largest percentage revenue increase, in the amount of $220,599 or
144.9% from $152,256 in 1996 to $372,855 in 1997. Revenues attributable to
peptide synthesis increased by $74,572 or 119.1%, from $62,638 in 1996 to
$137,210 in 1997.
Revenue realized from various contract research projects increased by $234,232
or 71.7%, from $326,776 in 1996 to $561,007 in 1997. This increase was due
primarily to funds received in early 1997 from one major private industry
customer.
In addition, the Company experienced an increase in revenue realized from
government grants in the amount of $165,928 or 91.9% from $180,563 in 1996 to
$346,491 in 1997. These grants were provided by the National Institutes of
Health and the United States Department of Agriculture, under the auspices of
two different Small Business Technology Transfer Research Grants and a Small
Business Innovative Research award. The government grants are expense
reimbursement grants which provide for reimbursement of the Company's direct
costs incurred, plus indirect costs as a percentage of direct costs. The
Company generally receives grant payments semi-monthly, with the amount of each
payment being determined by the amount of the costs incurred in the immediately
preceding two week period.
Management believes that this increase in revenue is primarily attributable to
an expanded customer base and to larger orders from individual customers, both
of which result from the Company's enhanced reputation in the industry, and to
more effective advertising activities.
The Company experiences quarterly fluctuations in revenues which arise
primarily from variations in research contracts. Revenue fluctuations also
result from the dynamic nature of the Company's laboratory services. Engagement
for subsequent projects is highly dependent upon the customer's satisfaction
with the services previously provided, and upon factors beyond the Company's
control, such as the timing of product development and commercialization
programs of the Company's customers. The Company is unable to predict for more
than a few months in advance the volume and dollar amount of future projects in
any given period. The combined impact of commencement and termination of
research contracts from several large customers and unpredictable fluctuations
in revenue for laboratory
11
services can result in very large fluctuations in financial performance from
quarter to quarter.
The biotechnology industry is currently progressing through a consolidation
stage wherein some potential customers are cutting back on research and
development, while others are trying to perform their own research services
in-house. In either situation, there is a reduced dependence on the Company to
perform its services for customers. If this trend continues, the Company
expects that it may derive a larger portion of its revenues from laboratory
services. Thus, the Company may experience a pronounced shift from contract
research to laboratory services, which may result in a less predictable revenue
stream.
Performance of contract research for five customers was completed in 1997. Two
of these customers have initiated a new contract research projects with the
Company, and in addition, the Company has signed three additional research
contracts which began in January, 1998. The Company has bids for several
contracts pending, an award of any of which would have a significant impact on
revenues.
Expenses
Cost of services consists primarily of labor and laboratory supplies. Cost of
services increased by $556,510 or 234.1% from $237,726 in 1996 to $794,236 in
1997. The cost of services as a percentage of revenue was 24.0% and 45.1% in
1996 and 1997, respectively. These increased costs are directly attributable to
hiring new personnel, to acquisition of reagents, chemicals, materials and so
forth necessary to implement the Company's growth strategy. Labor costs
increased by $234,291 or 223.8% from $104,703 in 1996 to $338,994 in 1997. The
cost of reagents increased by $131,338 or 307.6% from $42,700 in 1996 to
$174,038 in 1997. The cost of miscellaneous materials increased by $142,236 or
500.8% from $28,404 in 1996 to $170,641 in 1997. The cost of services is
subject to fluctuation and can cause results of operations to fluctuate from
quarter to quarter, particularly if the Company purchases supplies but does not
record the revenue from the performance of services until a subsequent quarter.
Sales, general and administrative expenses consist primarily of compensation
and related costs for administrative personnel, depreciation and amortization,
professional fees and advertising. Sales, general and administrative expenses
increased by $973,186 or 300.5% from $323,820 in 1996 to $1,297,005 in 1997.
Sales, general and administrative expenses as a percentage of revenue were
32.7% in 1996 and 73.6% in 1997. Compensation and benefit expenses increased by
$507,739 or 449.4% from $112,983 in 1996 to $620,722 in 1997. This was due in
large part to the full-time employment of the four founders of the Company and
to payment of bonuses to the executive officers totaling $150,000. Also
included in compensation and benefit expenses is a $60,000 bonus paid to a
former officer of the Company. Rent payments increased by $60,850 or 733.9%
from $8,291 in 1996 to $69,641 in 1997. Professional fees increased by $62,025
or 145.8% from $42,544 in 1996 to $104,569 in 1997. This increase was primarily
due to the Company's need for additional outside business and scientific
consulting expertise. Depreciation increased by $104,262 or 200.8% from $51,936
in 1996 to $156,198 in 1997. Increased depreciation was attributable to the
purchase of additional equipment in the latter part of 1997.
Expenditures for government grant related research and development activities
increased by $138,911 or 118.2% from $117,544 in 1996 to $256,455 in 1997.
Expenditures to perform research and development for establishing fundamental
technologies in the Company, or expended in performance of grant related
research activities supplemented by the Company increased by $149,683 or 550.2%
from $27,203 in 1996 to $176,886 in 1997. Expenditures for research and
development performed on behalf of contract research customers decreased by
13.6% or $22,219 from $163,737 in 1996 to $141,518 in 1997. Research and
development activities performed by third parties at the behest of the Company
amounted to $56,750 in 1997, and were zero in 1996. Total research and
development costs as a percentage of revenue were 31.2% in 1996 and 32.6% in
1997.
Other Income and Expenses
The Company realized interest income in 1997 of $91,997; there was essentially
no interest income in 1996. The increase in interest income was primarily due
from investing the funds from the Private Placement (as described below) and
the Company's initial public offering.
Interest paid by the Company in 1997 included (1) interest paid to financial
institutions on loans made to the Company; (2) interest expenses associated
incurred as a
12
consequence of completion of the Private Placement in June, 1997; and (3)
interest expenses for amortization of loan costs also incurred as a consequence
of the completion of the Private Placement.
Interest paid to financial institutions on loans made to the Company increased
by $16,968 or 167.9% from $10,101 in 1996 to $27,069 in 1997. The Company
experienced an increase in interest expenses associated with the Private
Placement of $204,039 in 1997, and an increase in amortization of loan costs
associated with the Private Placement of $124,918.
Liquidity and Capital Resources
On June 24,1997, the Company declared a 93.78-for-1 stock split. On June 25,
1997, the Company sold in a private placement of securities ("Private
Placement"), 60 convertible subordinated notes with a principal amount of
$50,000 per note. Each note had an interest rate of 20% and was payable upon
the conversion of the note into shares of the Company's common stock. Interest,
in the form of additional shares of common stock, was paid through the date of
the conversion. Each note automatically converted into 8,333.33 shares
(exclusive of interest) of the Company's common stock at the closing of the
Company's initial public offering ("IPO") on October 28, 1997. The net proceeds
of the Private Placement were $2,629,269.
On October 28, 1997, the Company completed its IPO of 1,015,000 shares of common
stock at a price of $6.00 per share. The Company's net proceeds from the IPO
were $5,417,578.
Operating cash flow for 1996 and 1997 was $409,136 and <$711,615>,
respectively. Net working capital as of December 31, 1996 and 1997 was $91,637
and $5,865,715, respectively. Increases in cash and net working capital in 1997
were due to the private placement and initial public offerings. During the
first quarter of 1997, the Company received the proceeds of a term loan from a
financial institution in the amount of $102,800. The Company also financed the
purchase of a vehicle under a term loan in the amount of $23,682. In addition,
the Company received the proceeds of a demand loan from a financial institution
in the amount of $42,000. During October 1997, the Company consolidated its
demand and term notes into a single term loan, payable on demand.
For 1997, the Company made capital expenditures on new scientific
instrumentation, including computers, amounting to $1,348,399, compared to
expenditures of $194,798 in 1996. As part of it's growth strategy, the Company
expects to incur approximately $3,100,000 of capital expenditures, consisting
of approximately $2,100,000 for laboratory equipment and approximately
$1,000,000 for fitting up of it's new facility. The Company expects to incur
these expenditures during the next eighteen months. In the meantime, available
funds are invested in interest bearing accounts at a commercial bank.
In 1997, the Company, as an S Corporation, made distributions to its
shareholders which totaled an aggregate of $96,851 in 1997 and $79,533 in 1996.
In June 1997, the Company altered its taxable status to that of a corporation
governed by Subchapter C of the Internal revenue Code of 1986, as amended.
Year Ended December 31, 1996
versus December 31, 1995
Revenues
Gross revenue increased $620,624, or 168.0%, from $369,301 for the fiscal year
ended December 31, 1995 ("1995") to $989,925 for the fiscal year ended December
31, 1996. This increase in revenue was attributable to an increase in new
customer accounts, which contributed $453,502, or 73%, of the increase, and to
larger orders with existing customers, which contributed $167,122, or 27%, of
the increase, for all types of services provided by the Company in 1996, except
for peptide synthesis which experienced a nominal decrease of $6,380, or 1.7%
of total 1995 revenue. This decrease was more than offset by an increase in
revenues from DNA sequencing services in the amount of $109,298, or 254.4%,
from $42,958 in 1995 to $152,256 in 1996. The beneficial increase in revenue
for 1996 was achieved with minimal advertising and marketing effort.
Revenue earned from government grants also increased approximately threefold
from $109,820 in 1995 to $185,564 in 1996. All of the aforementioned grant
revenue was used to fund research on the Company's proprietary technologies.
Management asserts that increases in revenues were attributable to the
Company's enhanced reputation in the industry and to more effective advertising
activities. These activities included the introduction of a tiered pricing
structure with services billed at lower rates and initial price
13
concessions made as a component of the Company's aggressive entry into the
government and academic sectors.
Expenses
Cost of services consists primarily of labor and laboratory supplies. Cost of
services increased 197.3% from $79,948 to $237,726 for the years ended December
31, 1995 and 1996, respectively. This increase was consistent with the
increased growth experienced in revenue. Cost of services as a percentage of
revenue was 21.6% and 24.0% in 1995 and 1996, respectively.
Sales, general and administrative expenses consist primarily of compensation
and related costs, depreciation and amortization, professional fees and
advertising. Sales, general and administrative expenses increased from $220,891
to $323,820, or 46.6%, in 1995 and 1996, respectively. Sales, general and
administrative expenses as a percentage of revenue were 59.8% and 32.7% in 1995
and 1996, respectively. The decrease in the percentage relationship of sales,
general and administrative expenses to revenue was primarily attributable to
cost containment measures and economies of scale realized with the growth in
revenues.
Research and development costs in 1995 were primarily related to developing and
improving protocols for the automated sequencing group. Research and
development costs in 1996 were related to the development of new and expanded
services. Research and development costs were $69,861 and $308,484, or 18.9%
and 31.2% of revenue, in 1995 and 1996, respectively. The increase of $238,623
in 1996 research and development costs represented an increase of 341.6% over
the amount reported for 1995. Most of these costs, however, were funded by
grant awards from government sources.
Year 2000 Project
The year 2000 presents problems for businesses that are dependent on computer
hardware and software to perform date dependent calculations and logic
comparisons. A great deal of software and microchip technology was developed
utilizing two digit years rather than four digit years (example: 97 instead of
1997). Technology utilizing two digit years will most likely not be able to
distinguish the year 2000 from 1900, and therefore may shut down or perform
miscalculations and comparisons as much as 100 years off.
Management is fully aware this presents a potential business disruption, and
has begun a program of due diligence in addressing the impact of the Year 2000
on the Company and its operations. Once identified, areas of exposure will be
prioritized as to severity and time to cure, with a plan developed to make the
Company Year 2000 compliant. Management anticipates the Company will be year
2000 compliant.
Forward-Looking Statements
Management has included herein certain forward looking statements within the
meaning of Section 27A of the Securities Act of 1933, as amended, and Section
21E of the Securities Exchange Act of 1934, as amended. When used, statements
which are not historical in nature, including the words "anticipate,"
"estimate," "should," "expect," "believe," "intend," and similar expressions
are intended to identify forward-looking statements. Such statements are, by
their nature, subject to certain risks and uncertainties. Among the factors
that could cause actual results to differ materially from those projected are
the following: business conditions and the general economy; the federal, state,
and local regulatory environment; availability of tax exempt bond financing
with favorable terms and conditions; lack of demand for the Company's services;
the ability of the Company's customers to perform services similar to those
offered by the Company "in-house"; and potential cost containment by the
Company's customers resulting in fewer research and development projects. Other
risks, uncertainties, and factors that could cause actual results to differ
materially from those projected are detailed form time to time in reports filed
by the Company with the securities and exchange commission, including Forms
8-K, 10-QSB, and 10-KSB.
14
INDEX
- --------------------------------------------------------------------------------
15
REPORT OF INDEPENDENT AUDITORS
- --------------------------------------------------------------------------------
Board of Directors and Stockholders
Commonwealth Biotechnologies, Inc.
We have audited the accompanying balance sheets of Commonwealth
Biotechnologies, Inc. (the Company) as of December 31, 1997 and 1996, and the
related statements of operations, changes in stockholders' equity, and cash
flows for the years then ended. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these 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 financial statements referred to above present fairly, in
all material respects, the financial position of Commonwealth Biotechnologies,
Inc. at December 31, 1997 and 1996, and the results of its operations and cash
flows for the years then ended in conformity with generally accepted accounting
principles.
GOODMAN AND COMPANY, LLP
7301 Forest Avenue
Richmond, Virginia
February 9, 1998
16
COMMONWEALTH BIOTECHNOLOGIES, INC.
BALANCE SHEETS
- --------------------------------------------------------------------------------
The accompanying notes are an integral part of these financial statements.
17
COMMONWEALTH BIOTECHNOLOGIES, INC.
STATEMENTS OF OPERATIONS
- --------------------------------------------------------------------------------
The accompanying notes are an integral part of these financial statements.
18
COMMONWEALTH BIOTECHNOLOGIES, INC.
STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
- --------------------------------------------------------------------------------
The accompanying notes are an integral part of these financial statements.
19
COMMONWEALTH BIOTECHNOLOGIES, INC.
STATEMENTS OF CASH FLOWS
- --------------------------------------------------------------------------------
The accompanying notes are an integral part of these financial statements.
20
COMMONWEALTH BIOTECHNOLOGIES, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997
- --------------------------------------------------------------------------------
NOTE 1 -- ORGANIZATION
Commonwealth Biotechnologies, Inc., (the "Company"), was formed on September
30, 1992 as a Virginia Subchapter S Corporation, for the purpose of providing
specialized analytical laboratory services for the life scientist. The Company
provides basic research services in the general areas of protein/peptide and
DNA/RNA chemistries. Such services include synthesis, sequence analysis,
composition analysis, protein purification and biophysical characterization of
biologically relevant materials. The Company also pursues its own research and
development leading to intellectual properties. In June 1997, the company
altered its taxable status to a corporation governed by Subchapter C of the
Internal Revenue Code.
NOTE 2 -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Revenue Recognition
The Company recognizes revenue and related profit upon the completion of
laboratory service projects, or upon the delivery and acceptance of
biologically relevant materials that have been synthesized in accordance with
project terms. Laboratory service projects are generally administered under
fee-for-service contracts or purchase orders. Any revenues from research and
development arrangements, including corporate contracts and research grants,
are recognized pursuant to the terms of the related agreements as work is
performed, or as scientific milestones, if any, are achieved. Amounts received
in advance of services to be performed, or acceptance of milestones, are
recorded as deferred revenue.
Cash and Cash Equivalents
The Company considers all highly liquid debt instruments purchased with an
original maturity of three months or less to be cash equivalents.
Property and Equipment
Property and equipment are recorded at cost. Depreciation and amortization
expense is recorded over the estimated useful lives of the assets. The
straight-line method is used by the Company in providing depreciation and
amortization for financial reporting purposes. The cost of repairs and
maintenance is expensed as incurred. The estimated useful lives of assets are
as follows:
Laboratory and computer 30 months to 5 years
equipment
Furniture and fixtures and office 7 years
equipment
Automobile 5 years
Other Assets
Other assets consist of the organizational costs associated with the formation
of the Company and are amortized over five years.
Inventory
Inventory is stated at the lower of cost (first-in, first-out method), or
market.
Income Taxes
The Company elected Subchapter S Corporation status effective January 1, 1993.
Accordingly, the taxable income of the Company has been "passed-through" to its
shareholders, and they have been subject to the tax on any income earned by the
Company.
As more fully described in Note 13, the Company organized a private placement
offering of convertible subordinated notes, which caused the income tax status
of the Company to change. Management believes that the Company is no longer
eligible for S Corporation status effective June 25, 1997. Therefore, at June
25, 1997, the undistributed earnings were treated as a constructive
distribution to the original shareholders and as a contribution to additional
paid-in capital. As a C Corporation, the Company will be responsible for income
taxes payable resulting from earnings subsequent to June 25, 1997.
Additionally, under the provisions of Financial Accounting Standards Board
("FASB") Statement No. 109, Accounting for Income Taxes, deferred tax assets
and liabilities are computed based on the
21
difference between the financial statement and tax bases of assets and
liabilities using currently enacted tax rates.
At December 31, 1997, the Company's deferred taxes consist of differences
attributable to the cash basis of accounting and accelerated methods of
depreciation used for income tax purposes. The Company also has loss
carryforwards for tax return purposes.
Research & Development
Costs incurred in connection with research and development activities are
expensed as incurred. These consist of direct and indirect costs associated
with specific research and development projects.
Advertising Costs
The Company expenses all advertising costs as incurred. Total advertising
expense for the years ended December 31, 1997 and 1996 was $61,248 and $25,008,
respectively.
Earnings (Loss) Per Common Share
The Company adopted FASB Statement No. 128, Earnings Per Share, on December 31,
1997. This statement establishes standards for computing and presenting
earnings per share (EPS). This statement supersedes standards previously set in
APB Opinion No. 15, Earnings Per Share. The statement requires dual
presentation of basic and diluted EPS on the face of the income statement, and
it requires a reconciliation of the numerator and denominator of the basic EPS
with the numerator and denominator of the basic EPS with the numerator and
denominator of the diluted EPS computation.
Basic EPS excludes dilution and is computed by dividing income available to
common shareholders by the weighted-average number of common shares outstanding
for the period. Diluted EPS reflects the potential dilution that could occur if
securities or other contracts to issue common stock were exercised or converted
into common stock or resulted in the issuance of common stock that then shared
in the earnings of the entity.
In computing diluted EPS, only potential common shares
that are dilutive -- those that reduce earnings per share -- are included. The
exercise of options and warrants or conversion of convertible securities is not
assumed if the result would be antidilutive, such as when a loss from
continuing operations is reported. Consequently, the effect of options,
warrants and convertible notes is not considered in computing diluted EPS and,
therefore, basic and diluted EPS are the same.
Credit Risk
The Company provides laboratory services primarily to researchers in North
America (United States, Canada). Other major clients are located in South
America (Brazil, Colombia), in the far east (Japan, Korea), and in Europe
(Norway, Sweden, Germany, Italy, France, Greece). For projects exceeding
$5,000, the Company mitigates its credit risk by requiring a deposit of 50% of
total anticipated billings. The Company performs ongoing credit evaluations of
its customers and generally does not require additional collateral on its
laboratory services. However, the Company provides a charge to bad debts when,
in the opinion of management, such balances are not deemed to be collectible.
The Company invests its excess cash in high quality commercial paper, U.S.
Government Agency discount notes and certificates of deposits which are
administered by an institutional investment firm. Their balances are insured up
to $500,000 (with a limit of $100,000 for cash) by the Securities Investor
Protection Corporation (SIPC). The institutional firm has private insurance in
addition to the SIPC, which provides additional protection to the Company. In
addition, excess bank account balances are invested in overnight deposits
managed by a financial institution. At times these deposits may exceed the
federally insured limits of the financial institution.
Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect the amounts reported in the financial statements and accompanying
notes. Actual results could differ from those estimates.
22
NOTE 3 -- PROPERTY AND EQUIPMENT
Property and equipment consisted of the following at December 31:
1997 1996
-------------- ------------
Laboratory and computer
equipment $ 1,662,346 $ 359,476
Furniture and fixtures 3,754 1,925
Office equipment 30,971 11,908
Automobile 24,637 --
Leasehold improvements 5,075 5,075
- ------------------------------ ----------- ---------
1,726,783 378,384
Less accumulated depreciation
and amortization (290,971) (134,773)
- ------------------------------ ----------- ---------
Property and equipment, net $ 1,435,812 $ 243,611
Depreciation expense for the years ended December 31, 1997 and 1996, amounted
to $156,198 and $51,936, respectively.
NOTE 4 -- DEMAND NOTE
On November 4, 1997, the Company consolidated it's debt through a demand note
payable with Crestar Bank in the amount of approximately $320,000, which bears
interest payable at the bank's prime rate plus 1%. The note is collateralized
by a security interest in the Company's accounts receivable, chattel paper,
equipment and intangibles. As of December 31, 1997, the balance due was
$314,680.
NOTE 5 -- LONG-TERM DEBT
Long-term debt at December 31, 1997 and 1996, consists of:
1997 1996
------------ -------------
Term note payable at an interest rate
of 8.75% to Crestar Bank,
collateralized by a security interest
in the Company's accounts
receivable, chattel paper,
equipment and intangibles, and
due in equal monthly payments of
principal and interest of $4,150
through October 2001. This noted
was incorporated in the
consolidation financing noted
above. $ -- $ 19,298
Enterprise Zone incentive loan
payable to the City of Richmond,
collateralized by equipment and
due in ten annual installments of
$3,000 plus interest at 3%
beginning in September 1997.
Enterprise Zone incentive loans
provide for an alternative means of
repayment in lieu of cash. Each
year, any increase over 1996 in real
estate, machinery and tools, and
business licenses taxes will directly
curtail, on a dollar for dollar basis,
the interest and then principal
payments on the loan. 30,000 30,000
- ------------------------------------------- ------- ---------
30,000 222,980
Less -- current portion of long-term
debt (30,000) (37,293)
- ------------------------------------------- ------- ---------
$ -- $ 185,687
23
NOTE 6 -- CAPITAL LEASE OBLIGATIONS
The Company acquired, in January 1994, certain computer equipment for its
laboratory from Hewlett Packard Company under a capital lease in the amount of
$104,500. The lease terms called for monthly lease payments of $2,049 to be
made through December 1998 at an implicit lease rate of 8.44%. The lease was
paid off during 1996. Accumulated depreciation and depreciation expense on the
assets subject to capital lease amounted to $83,600 and $20,900, at December
31, 1997 and 1996, respectively.
NOTE 7 -- COMMITMENTS AND CONTINGENCIES
Leases
During 1997 and 1996, the Company was engaged in a noncancellable operating
lease for its laboratory and office space from the Virginia Biotechnology
Research Park in Richmond, Virginia as a sub-landlord for the City of Richmond.
The monthly rental payment through the culmination of the lease, at June 30,
1997, was $691.
Beginning July 1, 1997, the Company leased its current laboratory and office
space directly from the City of Richmond. The monthly rental payment will
increase to $3,222. The initial term of the lease will extend through June 30,
2000, however, either party may cancel the lease with nine months notice.
As of January 1, 1998, the Company began leasing two suites from the Virginia
Biotechnology Research Park located in the Biotech One building. The monthly
rental payment is $6,069. The term of the lease is through May 31, 1998, at
which time, it may be renewed for additional ninety day increments.
The Company also leases certain of its office equipment under a noncancellable
lease agreement which expires in February 2001.
Future minimum payments under these noncancellable operating leases are as
follows:
1998 $ 73,140
1999 42,794
2000 23,460
2001 688
2002 --
- ----------- ---------
$ 140,082
Total rent expense for all operating leases for each of the years ended
December 31, 1997 and 1996, was $69,141 and $8,291, respectively.
Sales Commitments
In December 1996, the Company entered into a contract with one customer to
perform structural studies on a proprietary protein product totaling
approximately $200,000, which was recorded as deferred revenue at year-end.
At December 31, 1997 and 1996, the Company is performing services under
contract with several companies. These companies include Insmed Pharmaceuticals
(Richmond, Virginia), Bayer Corporation (Clayton, North Carolina, Raleigh,
North Carolina, West Haven, Connecticut and Berkeley, California), Breastek,
Inc. (Charleston, South Carolina) and Somatix Therapeutics Corporation
(Alameda, California). The company is the major biochemistry subcontractor to a
grant issued by the University of New Mexico, Department of Chemical and
Nuclear Engineering at Albuquerque, New Mexico.
Sponsored Research Contract and Consulting Agreement
The Company entered into a sponsored research agreement (the "Agreement") with
Virginia Commonwealth University (the "University") on November 15, 1992.
Unless canceled by written notification by either party, the Agreement
automatically renews annually. The Agreement allows CBI personnel access to
equipment located within the academic laboratories of certain professors, who
are also officers of the Company. The laboratories are located on the campus of
the Medical College of Virginia (an affiliate of the University). The Agreement
carries a fee for service schedule, which allows for payment to the University
for use of the equipment. The Company has since purchased its own equipment and
reduced its dependence on the University's equipment to a level that total
payments made to the University are approximately $1,200 per calendar quarter.
This contract and consulting agreement ended on August 1, 1997.
NOTE 8 -- RETIREMENT PLAN
Effective October 1, 1996, the Company adopted an employee 401(k) retirement
plan. Qualified employees may contribute up to 15% of their gross pay to the
plan. Employee contributions are limited to amounts established
24
by law. The Company may make matching contributions to the plan as determined
by the Board of Directors subject to the limitations under the Internal Revenue
Code. The Company made no contributions to the Plan in 1996 or 1997.
NOTE 9 -- MAJOR CUSTOMERS
During 1997 and 1996, the Company had the following revenue concentrations that
exceeded 10% of total revenue:
1997 1996
------------ ----------
Bayer Pharmaceuticals, AG $ 377,932 $
Small Business Technology
Transfer Research Grant
Phase II 226,239 63,773
Small Business Technology
Transfer Research 2 Grant
Phase I -- 90,766
Small Business Technology
Transfer Research 3 Grant
Phase I -- 26,025
University of New Mexico
Grant -- 124,423
These contracts represented 40.91% and 30.81% of total revenue in 1997 and
1996, respectively.
NOTE 10 -- COMPENSATION AND BENEFIT COSTS
Compensation and benefit costs are included in the statements of operations as
follows:
1997 1996
-------------- ------------
Cost of services $ 338,994 $ 104,703
Selling, general and adminis-
trative expenses 620,721 112,983
Research and development
costs 361,925 170,415
- ------------------------------ ----------- ---------
$ 1,321,640 $ 388,101
NOTE 11 -- INCOME TAXES
The difference between expected income tax expense (benefit) and income tax
expense recorded in the financial statement is explained below.
1997
---------------
Income taxes computed at
34% statutory rate $ (397,399)
Statutory limitations of loss
carryovers 381,472
Contributed services 12,358
Other 3,569
Income tax expense $ --
==========================================================
The significant components of deferred income tax assets and liabilities as of
December 31 consist of the following:
1997
------------
Deferred tax assets:
Effect of net operating loss $ 463,329
Accrual basis to cash basis conversion 41,629
- ---------------------------------------------------- ---------
504,958
Deferred tax liabilities:
Tax depreciation in excess of book depreciation (75,860)
- ---------------------------------------------------- ---------
Net deferred tax asset before valuation allowance 429,098
Less -- valuation allowance (429,098)
- ---------------------------------------------------- ---------
Net deferred tax asset $ --
================================================================
Tax return operating loss carryforwards were approximately $1,122,000 at
December 31, 1997.
NOTE 12 -- FAIR VALUE OF FINANCIAL INSTRUMENTS
The Company has determined, based on available market information and
appropriate valuation methodologies, that the fair value of its financial
instruments approximates carrying value. The carrying amounts of cash and cash
equivalents, accounts receivable and accounts payable approximate fair value
due to the short-term maturity of the instruments. The carrying amounts of debt
approximates fair value because the interest rates under the credit agreement
are predominantly variable, based on current market conditions.
NOTE 13 -- PRIVATE PLACEMENT AND INITIAL PUBLIC OFFERING ("IPO")
On June 24, 1997, the Company declared a 93.78-for-1 stock split which has been
retroactively reflected in the accompanying financial statements.
On June 25, 1997, the Company sold 60 convertible subordinated notes ("notes"),
with a principal amount of $50,000, in a private placement offering at an
offering price of $50,000 per note. Each note bears interest at the rate of 20%
and is payable upon the conversion of the note into shares of the Company's
common stock. Interest was paid through the date of the conversion in the form
of additional shares of common stock, which were issued based on a conversion
price of $6.00 for each share of common stock. Each note was automatically
converted into a minimum of 8,333.33 shares of the Company's common stock, upon
the earlier of the closing of the Company's proposed IPO, or on June 25, 1998,
the maturity date. Upon conversion, the actual number of shares issued equaled
the principal amount of the notes
25
plus accrued interest divided by the stated conversion price of $6.00. The
Company received net proceeds of $2,626,269, after underwriting and other
offering costs of $373,731.
Upon the closing of the private placement offering, the Company issued warrants
to members of Management for the purchase of 100,000 shares of common stock.
The warrants were issued to the management team at $.001 per share, and will be
exercisable for a period of ten years at an exercise price of $9.90 per share.
On July 21, 1997, the Company filed a Form SB-2 Registration Statement with the
Securities and Exchange Commission for the sale of 1,015,000 shares of common
stock. The proceeds are expected to be used to acquire laboratory equipment,
additional personnel, expand existing facilities, expand marketing and
advertising and fund working capital. On October 25, 1997, the Company closed
the IPO and received net proceeds of $5,417,578, after underwriting and other
offering costs of $672,422. On October 29, 1997, the Company began trading on
the NASDAQ exchange using the symbol "CBTE".
On November 13, 1997, Anderson & Strudwick (the "Underwriters") purchased
warrants for 101,500 shares of common stock. The warrants were issued to the
Underwriter at $.001 per share, and will be exercisable for a period of five
years at an exercise price of $9.90 per share.
NOTE 14 -- STOCK COMPENSATION
The Company adopted its Incentive Plan (the "Plan") on June 24, 1997. The
Incentive Plan provides for the granting to employees, officers, directors,
consultants and certain non-employees of the Company of options to purchase
shares of common stock. The maximum number of shares of common stock that may
be issued pursuant to options under the Plan is 410,000. This amount is subject
to adjustment in the event of a stock split, stock dividend or other change in
the common stock or capital structure of the Company. Of the maximum number of
shares to be issued under the Plan, 270,000 will be reserved for incentive
awards to be granted to the four founders of the Company, and 140,000 shares
will be reserved for incentive awards to be granted to other persons.
Incentive awards may be in the form of stock options, restricted stock,
incentive stock or tax offset rights. In the case of incentive stock options or
non-qualified stock options, the exercise price will not be less than 100% of
the fair market value of shares covered at the time of the grant. Options
granted under the Plan generally vest over a five year period from the date of
grant and are exercisable for ten years, except that the term may not exceed
five years for incentive stock options granted to persons who own more than 10%
of the Company's outstanding common stock.
The Company applies APB Opinion No. 25 and related accounting interpretations
in accounting for its Plan and, accordingly, no compensation cost has been
recognized. Had compensation cost for the Company's Plan been determined based
on the fair value at the grant dates for awards under the Plan consistent with
the method prescribed by FASB No. 123, Accounting for Stock-Based Compensation,
the Company's net income and earnings per share would have been reduced to the
proforma amounts indicated below as if the Plan had been in effect for the
periods presented:
December 31,
1997
-----------------
Net income (loss)
As reported, historically $ (1,168,821)
Proforma $ (1,330,841)
Earnings (loss) per common share
As previously reported, historically $ (3.55)
Proforma $ (4.04)
Under FASB No. 123, the fair value of each management warrant is estimated on
the date of grant using the Black-Scholes option pricing model. The following
assumptions were used for grants made during 1997: No dividend yield, expected
volatility of 34%, risk free interest rate of 5.5%, and expected lives of 5
years.
Stock option transactions are summarized as follows:
Weighted
Average
Exercise
Price Per
1997 Share
---------- ----------
Options outstanding --
beginning of year -- $ --
Granted 314,400 8.80
Exercised -- --
Lapsed -- --
- ------------------------ ------- -------
Options outstanding --
end of year 314,400 $ 8.80
- ------------------------ ------- -------
Options exercisable --
end of year 77,564 $ 6.69
26
The following table summarizes information about stock options outstanding at
December 31, 1997:
NOTE 15 -- EMPLOYMENT AGREEMENTS
On June 24, 1997, the Company entered into employment agreements with its four
founders. Each of the agreements has a term of five years with specified base
salaries and provide for successive one-year terms. In addition, except for
1997, the employment agreements provide the Company's executive officers with
annual bonuses equal to, in the aggregate, 15% of the Company's pre-tax net
income for the preceding fiscal year. For the fiscal year ending December 31,
1997, the bonuses for the Company's executive officers were $150,000.
In connection with the aforementioned employment agreements, the Company has
recognized the fair value for services rendered by its founders in its
financial statements. The financial statement recognition is achieved by
reflecting a charge against income for contributed services and a contribution
to additional paid-in capital for all of the periods presented. The fair value
of the charges have been established based on the approximate number of hours
worked by the Company's founders annually, and application of a base hourly
rate that increases approximately 5% annually to the approximate hourly rate
reflected in the agreement applied at June 24, 1997.
The contributed services charged against income amounted to $36,346 and $69,058
for the years ended December 1997 and 1996, respectively. Of these amounts, the
charges allocated to sales, general and administrative expenses the years ended
December 31, 1997 and 1996, were $33,173 and $63,029, respectively. The
contributed services allocated to research and development costs for the years
ended December 31, 1997 and 1996, were $3,173 and $6,029, respectively.
NOTE 16 -- SUBSEQUENT EVENT
During January 1998, the Company announced that they will be locating to a new
30,000 square foot state-of-the-art laboratory facility located in Chesterfield
County, Virginia. The Company has already received approval from the Industrial
Development Authority and the Board of Supervisors of Chesterfield County,
Virginia to issue $4,000,000 of Industrial Revenue Bonds. An inducement
resolution has been approved by the Virginia Small Business Financing
Authority. Final approval to issue the Bonds is expected in mid-February. The
Company anticipates ground breaking in mid-March, 1998, with occupancy expected
to occur in mid to late third quarter of 1998.
* * * * *
27
The Executive Officers and Board of Directors
- --------------------------------------------------------------------------------
Executive Officers
Richard J. Freer, Ph.D.
Chairman of the Board
Robert B. Harris, Ph.D.
President
Gregory A. Buck, Ph.D.
Senior Vice President and
Chief Scientific Officer
Thomas R. Reynolds,
Senior Vice President
Directors
Richard J. Freer, Ph.D.
Chairman of the Board
Robert B. Harris, Ph.D.
President
Gregory A. Buck, Ph.D.
Vice President, Chief Scientific Officer, and Secretary
Thomas R. Reynolds
Vice President
Charles A. Mills
Director and CEO, Anderson & Strudwick, Inc.
Peter Einselen
Director and Senior Vice President, Anderson & Strudwick, Inc.
Corporate Information
- --------------------------------------------------------------------------------
[Company photo -- employees]
The Company owes its success to the loyalty, dedication, and commitment of its
employees.
Corporate Office:
Commonwealth Biotechnologies, Inc.
911 East Leigh St., Suite G-19
Richmond, VA 23219
phone: 800-735-9224; 804-648-3820
fax: 804-648-2641
email: cbi@i2020.net
web site: www.cbi-biotech.com
General Counsel
LeClair Ryan,
A Professional Corporation
707 East Main St, 11th Floor
Richmond, VA 23219
Transfer Agent and Registrar
American Securities Transfer and Trust, Inc.,
938 Quail St., Suite 101
Denver, CO
Independent Auditors
Goodman and Company, LLP
7301 Forest Ave.
Richmond, VA 23226
28