1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q MARK ONE [ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED MARCH 31, 1999 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: 0-20720 LIGAND PHARMACEUTICALS INCORPORATED (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 77-0160744 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.) 10275 SCIENCE CENTER DRIVE 92121-1117 SAN DIEGO, CA (ZIP CODE) (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (619) 535-7500 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 [ ] As of April 30, 1999 the registrant had 46,612,073 shares of Common Stock outstanding.
2 LIGAND PHARMACEUTICALS INCORPORATED QUARTERLY REPORT FORM 10-Q TABLE OF CONTENTS <TABLE> <CAPTION> <S> <C> COVER PAGE........................................................................................ 1 TABLE OF CONTENTS................................................................................. 2 PART I. FINANCIAL INFORMATION ITEM 1. Financial Statements Consolidated Balance Sheets as of March 31, 1999 and December 31, 1998...................... 3 Consolidated Statements of Operations for the three months ended March 31, 1999 and 1998.... 4 Consolidated Statements of Cash Flows for the three months ended March 31, 1999 and 1998.... 5 Notes to Consolidated Financial Statements.................................................. 6 ITEM 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.............................................................. 7 ITEM 3. Quantitative and Qualitative Disclosures about Market Risk......................... 16 PART II. OTHER INFORMATION ITEM 1. Legal Proceedings.................................................................. * ITEM 2. Changes in Securities and Use of Proceeds.......................................... 17 ITEM 3. Defaults upon Senior Securities.................................................... * ITEM 4. Submission of Matters to a Vote of Security Holders................................ * ITEM 5. Other Information.................................................................. 17 ITEM 6. Exhibits and Reports on Form 8-K................................................... 17 SIGNATURE......................................................................................... 18 </TABLE> * No information provided due to inapplicability of item. 2
3 PART I. FINANCIAL INFORMATION ITEM 1 FINANCIAL STATEMENTS LIGAND PHARMACEUTICALS INCORPORATED CONSOLIDATED BALANCE SHEETS (IN THOUSANDS, EXCEPT SHARE DATA) <TABLE> <CAPTION> March 31, December 31, 1999 1998 ---------- ------------ (Unaudited) <S> <C> <C> ASSETS Current assets: Cash and cash equivalents $ 11,011 $ 32,801 Short-term investments 35,694 37,166 Accounts receivable 4,327 830 Inventories 6,167 6,166 Other current assets 1,134 1,030 --------- --------- Total current assets 58,333 77,993 Restricted short-term investments 2,244 2,554 Property and equipment, net 22,931 23,722 Acquired technology 39,976 40,312 Notes receivable from officers and employees 500 544 Other assets 11,342 10,895 --------- --------- $ 135,326 $ 156,020 ========= ========= LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable $ 7,113 $ 12,363 Accrued liabilities 6,549 7,216 Deferred revenue 3,110 4,115 Current portion of obligations under capital leases 3,263 3,201 --------- --------- Total current liabilities 20,035 26,895 Long-term obligations under capital leases 7,328 8,165 Accrued acquisition obligation 40,000 50,000 Convertible note 2,500 2,500 Convertible subordinated debentures 39,971 39,302 Zero coupon convertible senior notes 41,252 40,520 Stockholders' equity: Convertible preferred stock, $.001 par value; 5,000,000 shares authorized; none issued -- -- Common stock, $.001 par value; 80,000,000 shares authorized; 46,601,200 shares and 45,690,067 shares issued at March 31, 1999 and December 31, 1998, respectively 47 46 Paid-in capital 394,901 384,715 Adjustment for unrealized losses on available-for-sale securities (509) (482) Accumulated deficit (410,188) (395,630) --------- --------- (15,749) (11,351) Less treasury stock, at cost (1,114 shares at March 31, 1999 and December 31, 1998) (11) (11) --------- --------- Total stockholders' equity (15,760) (11,362) --------- --------- $ 135,326 $ 156,020 ========= ========= </TABLE> See accompanying notes. 3
4 LIGAND PHARMACEUTICALS INCORPORATED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) (IN THOUSANDS, EXCEPT PER SHARE DATA) <TABLE> <CAPTION> Three Months Ended March 31, ------------------------ 1999 1998 -------- -------- <S> <C> <C> Revenues: Product sales $ 4,366 $ 92 Contract manufacturing sales 297 -- Collaborative research and development, and other milestone revenues 5,618 4,974 -------- -------- Total revenues 10,281 5,066 Costs and expenses: Cost of products sold 2,583 175 Research and development expenses 14,469 14,732 Selling, general and administrative 5,875 2,769 -------- -------- Total costs and expenses 22,927 17,676 -------- -------- Loss from operations (12,646) (12,610) Interest income 750 1,052 Interest expense (2,663) (1,982) -------- -------- Net loss $(14,559) $(13,540) ======== ======== Basic and diluted loss per share $ (.32) $ (.35) ======== ======== Shares used in computing net loss per share 45,794 38,565 ======== ======== </TABLE> See accompanying notes. 4
5 LIGAND PHARMACEUTICALS INCORPORATED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (IN THOUSANDS) <TABLE> <CAPTION> Three Months Ended March 31, ----------------------- 1999 1998 -------- -------- <S> <C> <C> OPERATING ACTIVITIES Net loss $(14,559) $(13,540) Adjustments to reconcile net loss to net cash used by operating activities: Depreciation and amortization 1,309 1,053 Amortization of notes receivable from officers and employees 44 50 Amortization of acquired technology 336 -- Accretion of debt discount and interest 1,401 668 Change in operating assets and liabilities: Accounts receivable (3,497) (257) Inventory (1) (37) Other current assets (104) (883) Accounts payable and accrued liabilities (5,917) (7,411) Deferred revenue (1,005) 270 -------- -------- Net cash used in operating activities (21,993) (20,087) INVESTING ACTIVITIES Purchase of short-term investments (9,364) (19,878) Proceeds from short-term investments 10,811 6,386 Increase in notes receivable from officers and employees -- (75) Payment of notes receivable from officers and employees -- 8 Increase in other assets (3,549) (2,234) Decrease in other assets 3,102 309 Purchase of property and equipment (518) (833) -------- -------- Net cash (used in) provided by investing activities 482 (16,317) FINANCING ACTIVITIES Principal payments on obligations under capital leases (775) (784) Net change in restricted short-term investment 310 248 Net proceeds from sale of common stock 186 742 -------- -------- Net cash provided by financing activities (279) 206 -------- -------- Net decrease in cash and cash equivalents (21,790) (36,198) Cash and cash equivalents at beginning of period 32,801 62,252 -------- -------- Cash and cash equivalents at end of period $ 11,011 $ 26,054 ======== ======== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Interest paid $ 2,242 $ 2,327 SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES: Additions to obligations under capital leases $-- $ 827 Conversion of accrued acquisition obligation to common stock 10,000 -- </TABLE> See accompanying notes. 5
6 LIGAND PHARMACEUTICALS INCORPORATED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) MARCH 31, 1999 1. BASIS OF PRESENTATION The consolidated financial statements of Ligand Pharmaceuticals Incorporated ("Ligand") for the three months ended March 31, 1999 and 1998 are unaudited. These financial statements reflect all adjustments, consisting of only normal recurring adjustments which, in the opinion of management, are necessary to fairly present the consolidated financial position as of March 31, 1999 and the consolidated results of operations for the three months ended March 31, 1999 and 1998. The results of operations for the period ended March 31, 1999 are not necessarily indicative of the results to be expected for the year ending December 31, 1999. For more complete financial information, these financial statements, and the notes thereto, should be read in conjunction with the audited consolidated financial statements for the year ended December 31, 1998 included in the Ligand Pharmaceuticals Incorporated Form 10-K filed with the Securities and Exchange Commission. In June 1997, the Financial Accounting Standards Board issued SFAS 130, Reporting Comprehensive Income and SFAS 131, Segment Information. Both of these standards are effective for fiscal years beginning after December 15, 1997. SFAS 130 requires that all components of comprehensive income, including net income, be reported in the financial statements in the period in which they are recognized. SFAS 130 requires the change in net unrealized gains (losses) on available-for-sale securities to be included in comprehensive income. As adjusted for this item, comprehensive net loss for the three month periods ended March 31, 1999 and 1998 is $(14.6) million and $(12.3) million, respectively. SFAS 131 amends the requirements for public enterprises to report financial and descriptive information about its reportable operating segments. Ligand currently operates in one business and operating segment and does not believe adoption of this standard will have a material impact on the Ligand's financial statements as reported. 2. NET LOSS PER SHARE Net loss per share is computed using the weighted average number of common shares outstanding. 3. INVENTORIES Inventories are stated at the lower of cost or market. The products Panretin(R) and ONTAK(TM) received approval for marketing by the FDA in early February 1999. Ligand outsources all manufacturing related to the production of Panretin(R) commercial inventory. ONTAK(TM) commercial inventory is produced at the manufacturing facility of Marathon Biopharmaceuticals, Incorporated, a fully owned subsidiary acquired in January 1999. Inventory also includes Targretin(R) ("Targretin") for which a New Drug Application ("NDA") will be filed in 1999. In preparation for the approval by the FDA, if received, Ligand has manufactured commercial quantities of Targretin of approximately $1.3 million of work-in-process inventory as of March 31, 1998. If the FDA does not approve the NDA, and Targretin is not approved for commercial sale, any capitalized costs related to Targretin will be expensed. 6
7 PART I. FINANCIAL INFORMATION ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This quarterly report may contain predictions, estimates and other forward-looking statements that involve a number of risks and uncertainties, including those discussed below at "Risks and Uncertainties." This outlook represents our current judgment on the future direction of our business. Such risks and uncertainties could cause actual results to differ materially from any future performance suggested below. We undertake no obligation to release publicly the results of any revisions to these forward-looking statements to reflect events or circumstances arising after the date of this quarterly report. OVERVIEW Since January 1989, we have devoted substantially all of our resources to our intracellular receptor, also known as IR, and signal transducers and activators of transcription, also known as STATs, drug discovery and development programs. We have been unprofitable since our inception. We expect to incur substantial additional operating losses until the commercialization of our products, begun in the first quarter of 1999, generates sufficient revenues to cover our expenses. We expect that our operating results will fluctuate from quarter to quarter as a result of differences in the timing of expenses incurred and revenues earned from collaborative arrangements and product sales. Some of these fluctuations may be significant. As of March 31, 1999, our accumulated deficit was $410.2 million. In January 1999, we formed Ligand Pharmaceuticals International, Inc. to develop a global pharmaceutical business. In January 1999, we purchased substantially all of the assets of Marathon Biopharmaceuticals LLC for $5.0 million through the issuance of 402,820 shares of our common stock, at $12.41 per share with an additional $3.0 million to be paid in August 1999. The purchase of the assets was completed under an agreement between Ligand, Marathon Biopharmaceuticals LLC and other subsidiaries of Boston University dated May 11, 1998. In February 1999, the FDA granted us marketing approval for our first two products, Panretin(R) gel for the treatment of patients with cutaneous AIDS-related Kaposi's sarcoma (KS) and ONTAK(TM) for the treatment of patients with persistent or recurrent cutaneous T-cell lymphoma (CTCL) whose malignant cells express the CD25 component of the IL-2 receptor. In February 1999, we submitted a Marketing Authorization Application (MAA) with the European Agency for the Evaluation of Medicinal Products (EMEA) for Panretin(R) gel for the treatment of cutaneous lesions of patients with AIDS-related KS. In February 1999, Eli Lilly and Company (Lilly) decided to discontinue the development efforts for three first generation compounds in the Retinoid X Receptor (RXR) program in diabetes. Instead, Lilly and Ligand have agreed to focus their efforts on the RXR modulator second generation program, which has compounds with improved therapeutic indices relative to the three first generation compounds and on co-agonists of the PPAR receptor program. In March 1999, we signed marketing and distribution agreements with Ferrer Internacional, S.A. (Ferrer) to exclusively market and distribute when approved, in Spain, Portugal, Greece, and Central and South America Ligand's five near-term oncology products: ONTAK(TM), Panretin(R) gel, Panretin(R) capsules, Targretin(R) gel and Targretin(R) capsules. RESULTS OF OPERATIONS Three Months Ended March 31, 1999 ("1999"), as compared with Three Months Ended March 31, 1998 ("1998") Total revenues for 1999 were $10.3 million, an increase of $5.2 million as compared to 1998. Net loss for 1999 was $14.6 million, an increase of $1.0 million from 1998. The principal factors causing these changes are discussed below. Product sales for 1999 were $4.4 million, as compared to $92,000 in 1998. The increase is due to the revenues from sales of our products, Panretin(R) gel and ONTAK(TM), approved by the FDA in February 1999. 7
8 Contract manufacturing sales for 1999 were $297,000 as compared to $0 in 1998. These sales were generated under contract manufacturing agreements performed at the Marathon Biopharmaceuticals facility acquired in January 1999. Collaborative research and development and other milestone revenues for 1999 were $5.6 million, an increase of $644,000 or 13%, over 1998. The increase was primarily due to an initial payment of $1.5 million received from Ferrer in connection with the marketing and distribution agreements entered into in March 1999, partially offset by (a) a one-time payment of $686,000 received from Cytel Corporation (Cytel) in 1998 and (b) additional payments of $530,000 received from American Home Products Corporation (AHP) in 1998. The quarter-to-quarter comparison of collaborative research and development, and other milestone revenues is as follows ($,000): <TABLE> <CAPTION> March 31, ------------------------ 1999 1998 ------ ------ <S> <C> <C> Eli Lilly and Company $2,709 $2,500 Ferrer Internacional S.A 1,500 -- SmithKline Beecham, plc 934 784 Abbott Laboratories 300 300 American Home Products 175 705 Cytel Corporation -- 686 ------ ------ $5,618 $4,974 ====== ====== </TABLE> Cost of products sold increased from $175,000 in 1998 to $2.6 million in 1999. The increase is due to manufacturing costs and royalty expenses of $1.3 million associated with our new products as well as costs of $1.3 million incurred at the Marathon Biopharmaceuticals facility which, except for the impact of unutilized production capacity in the first quarter, we expect to recover when services performed under contracts for our contract manufacturing operation are completed and invoiced. Research and development expenses were $14.5 million in 1999, compared to $14.7 million in 1998. Selling, general and administrative expenses were $5.9 million in 1999, up from $2.8 million in 1998. The increase was due primarily to increased costs associated with the expansion of our sales and marketing activities related to the launch of our new products. Interest income declined from $1.1 million in 1998 to $750,000 in 1999, reflecting lower cash balances following the use of cash to fund development and clinical programs and to support commercialization activities as well as lower interest rates on the available cash balances. Interest expense in 1999 was $2.7 million, an increase of $681,000 over 1998. The increase is due to the accretion related to the $40.0 million in issue price of zero coupon convertible senior notes issued to entities affiliated with Elan Corporation plc. We have significant net operating loss carry forwards for federal and state income taxes which are available subject to Internal Revenue Code 382 and 383 carryforward limitations. LIQUIDITY AND CAPITAL RESOURCES We have financed our operations through private and public offerings of our equity securities, collaborative research revenues, issuance of convertible notes, capital and operating lease transactions, investment income and product sales. From inception through March 31, 1999, we have raised cash proceeds of $244.6 million from sales of equity securities: $166.4 million from private placements and the exercise of options and warrants and $78.2 million from public offerings. As of March 31, 1999, we had acquired a total of $37.0 million in property, laboratory and office equipment (including assets used by Marathon Biopharmaceuticals) and $5.0 million in tenant leasehold improvements. Of these totals, $7.6 million was recorded in the merger with Seragen and will be paid in cash or common stock, at our option, while substantially all of the balance has been funded through capital lease and equipment note obligations. In addition, we lease our office and laboratory facilities. In July 1994, we entered into a long-term lease related to the construction of a new laboratory facility, which was completed and occupied in August 1995. In March 1997, we entered into a long-term lease, related to a second build-to-suit facility and loaned the construction partnership $3.7 million at an annual interest rate of 8.5% which will be paid back monthly over a 10-year period. The second build-to-suit facility was completed and occupied 8
9 in December 1997. In February 1997, the Company signed a master lease agreement to finance future capital equipment up to $1.5 million. This master lease agreement was expanded and extended in July 1997 and again in December 1998 and is currently available until March 31, 2000. Each individual schedule under the master lease agreement will be paid back monthly with interest over a five-year period. As of March 31, 1999, we had $2.0 million available to finance future capital equipment. An additional capital equipment line of credit of $2.0 million has been negotiated in May 1999. Working capital decreased to $38.3 million as of March 31, 1999, from $51.1 million at the end of 1998. The decrease in working capital resulted from a decrease in cash of $21.8 million offset in part by (a) an increase in accounts receivable of $3.5 million related to the sale of the recently introduced products, (b) a decrease in accounts payable of $5.2 million (c) lower accrued interest payable of $1.0 million and (d) lower deferred revenues of $1.0 million due to the timing of completion of collaboration agreements. For the same reasons, cash and cash equivalents, short-term investments and restricted cash decreased to $48.9 million at March 31, 1999 from $72.5 million at December 31, 1998. We primarily invest our cash in United States government and investment grade corporate debt securities. In January 1999, we purchased substantially all of the assets of Marathon Biopharmaceuticals for $5.0 million through the issuance of 402,820 shares of our common stock, at $12.41 per share with an additional $3.0 million to be paid in August 1999. We believe our available cash, cash equivalents, marketable securities and existing sources of funding will be adequate to satisfy our anticipated operating and capital requirements through 1999. Our future operating and capital requirements will depend on many factors, including: (1) the effectiveness of our commercialization activities (2) the pace of scientific progress in our research and development programs, (3) the magnitude of these programs, (4) the scope and results of preclinical testing and clinical trials, (5) the time and costs involved in obtaining regulatory approvals, (6) the costs involved in preparing, filing, prosecuting, maintaining and enforcing patent claims, (7) competing technological and market developments, (8) the ability to establish additional collaborations or changes in existing collaborations, (9) the cost of manufacturing scale-up. YEAR 2000 COMPLIANCE Many currently installed computer systems and software products are coded to accept only two digit entries in the date code field. These date code fields will need to accept four digit entries to distinguish 21st century dates from 20th century dates. As a result, many companies' software and computer systems may need to be upgraded or replaced in order to comply with year 2000 requirements. The impact of the year 2000 issue may affect other systems that utilize imbedded computer chip technology, including, building controls, security systems or laboratory equipment. It may also impact the ability to obtain products or services if the provider encounters and fails to resolve year 2000 related problems. We have established an active program to identify and resolve year 2000 related issues. This program includes the review and assessment of our information technology and non-information technology systems, as well as third parties with whom we have a material relationship. This program consists of four phases: inventory, risk assessment, problem validation and problem resolution. The inventory phase identified potential risks we face. They include among others computer software, computer hardware, telecommunications systems, laboratory equipment, facilities systems (security, environment control, alarm), service providers (contract research organizations, consultants, product distribution), and other third parties. The risk assessment phase categorizes and prioritizes each risk by its potential impact. The problem validation phase tests each potential risk, according to priority, to determine if an action risk exists. In the case of critical third parties, this step will include a review of their year 2000 plans and activities. The problem resolution phase will, for each validated risk, determine the method/strategy for alleviating the risk. It may include anything from replacement of hardware or software to process modification to selection of alternative vendors. This step also includes the development of contingency plans. We initiated this program in 1998. The inventory and risk assessment phases were completed in 1998 while the problem validation phase was completed in 1998 for all areas, except for evaluating specific pieces of research equipment and the assessment of some critical third parties. We expect that we will complete the last portion of the problem validation phase by the end of the second calendar quarter of 1999. Contingency plans are being developed. We expect to have those plans completed by the end of the second quarter of 1999. We expect the problem resolution phase to be completed by the end of the third quarter in 1999. 9
10 To date, we have determined that some of our internal information technology and non-information technology systems are not year 2000 compliant. However, we have not completed our full assessment of the critical third-party service providers we utilize. This assessment is taking place as part of the current problem validation phase. We are actively correcting problems as we identify them. These corrections include the replacement of hardware and software systems, the identification of alternative service providers and the creation of contingency plans. We currently estimate that the cost of identified problems will be approximately $100,000 for hardware and software upgrades or modifications. In addition, we estimate that we will incur approximately $400,000 of internal personnel costs to complete the remaining phases of the project. We do not believe that the cost of these actions will have a material adverse affect on our business. We expect that we will be able to resolve any problems we identify in the remaining phases of the project as part of normal operating expenses. Any failure of our internal computer systems or of third-party equipment or software we use, or of systems maintained by our suppliers, to be year 2000 compliant may adversely effect our business. In addition, adverse changes in the purchasing patterns of our potential customers as a result of year 2000 issues affecting them may adversely effect our business. These expenditures by potential customers may result in reduced funds available to purchase our products, which could adversely effect our business. RISKS AND UNCERTAINTIES The following is a summary description of some of the many risks we face in our business. You should carefully review these risks in evaluating our business and the businesses of our subsidiaries. You should also consider the other information described in this report. OUR PRODUCT DEVELOPMENT AND COMMERCIALIZATION INVOLVES A NUMBER OF UNCERTAINTIES AND WE MAY NEVER GENERATE REVENUES FROM THE SALE OF PRODUCTS SUFFICIENT TO BECOME PROFITABLE. We were founded in 1987. We have incurred significant losses since our inception. At March 31, 1999, our accumulated deficit was $410.2 million. To date, we have received the majority of our revenues from our collaborative arrangements. We expect to incur additional losses as we continue our research and development, testing and regulatory activities and as we establish manufacturing and sales and marketing capabilities. To become profitable, we must successfully develop, clinically test, market and sell our products. Even if we achieve profitability, we cannot predict the level of that profitability or whether we will be able to sustain profitability. We expect that our operating results will fluctuate from period to period as a result of differences in when we incur expenses and receive revenues from collaborative arrangements and other sources. Some of these fluctuations may be significant. Most of our products will require extensive additional development, including preclinical testing and human studies, as well as regulatory approvals, before we can market them. We do not expect that any products other than these for which marketing approval has been received resulting from our product development efforts or the efforts of our collaborative partners will be available for sale until the end of the 1999 calendar year at the earliest, if at all. There are many reasons that we may fail in our efforts to develop our other potential products, including the possibility that: o we may discover during preclinical testing or human studies that they are ineffective or cause harmful side effects, o the products may fail to receive necessary regulatory approvals from the FDA or other foreign authorities in a timely manner or at all, o we may fail to produce the products, if approved, in commercial quantities or at reasonable costs, or o the proprietary rights of other parties may prevent us from marketing the products. We also will rely, at least initially, on another company to distribute our approved products and have only recently developed a sales force. Therefore, even though two of our products have been approved for marketing, we still may not be able to successfully market these products or potential products in the territories chosen for marketing. WE NEED TO BUILD MARKETING AND SALES FORCES IN THE UNITED STATES AND EUROPE WHICH WILL BE AN EXPENSIVE AND TIME-CONSUMING PROCESS. 10
11 Developing the sales force to market and sell products is a difficult, expensive and time-consuming process. We recently developed a sales force for the U.S. market and will, at least initially, rely on another company to distribute our products. The distributor will be responsible for providing many marketing support services, including customer service, order entry, shipping and billing, and customer reimbursement assistance. In addition, in Canada we are the sole marketer of two cancer products other companies have developed. We may not be able to continue to establish and maintain the necessary sales and marketing capabilities. To the extent we enter into co-promotion or other licensing arrangements, any revenues we receive will depend on the marketing efforts of others, which may or may not be successful. Our failure to establish an effective sales force, either directly or through others, could adversely affect our business. SOME OF OUR KEY TECHNOLOGIES HAVE NOT BEEN USED TO PRODUCE MARKETED PRODUCTS AND MAY NOT BE CAPABLE OF PRODUCING SUCH PRODUCTS. To date, we have dedicated most of our resources to the research and development of potential drugs based upon our expertise in our IR and STATs technologies. Even though certain marketed drugs act through IRs, some aspects of our IR technologies have not been used to produce marketed products. In addition, we are not aware of any drugs that have been developed and successfully commercialized that interact directly with STATs. Much remains to be learned about the location and function of IRs and STATs. If we are unable to apply our IR and STAT technologies to the development of our potential products, our business could be adversely affected. OUR DRUG DEVELOPMENT PROGRAMS WILL REQUIRE SUBSTANTIAL ADDITIONAL FUTURE CAPITAL AND WE MAY NEED MORE CAPITAL. Our drug development programs require substantial additional capital, arising from costs to: o conduct research, preclinical testing and human studies, o establish pilot scale and commercial scale manufacturing processes and facilities, and o establish and develop quality control, regulatory, marketing, sales and administrative capabilities. Our future operating and capital needs will depend on many factors, including: o the pace of scientific progress in our research and development programs and the magnitude of these programs, o the scope and results of preclinical testing and human studies, o the time and costs involved in obtaining regulatory approvals, o the time and costs involved in preparing, filing, prosecuting, maintaining and enforcing patent claims, o competing technological and market developments, o our ability to establish additional collaborations, o changes in our existing collaborations, o the cost of manufacturing scale-up, and o the effectiveness of our commercialization activities. OUR PRODUCTS MUST CLEAR SIGNIFICANT REGULATORY HURDLES PRIOR TO MARKETING. Before we obtain the approvals necessary to sell any of our potential products, we must show through preclinical studies and clinical trials that each product is safe and effective. Our failure to show any product's safety and effectiveness would delay or prevent regulatory approval of the product and could adversely affect our business. The clinical trials process is complex and uncertain. The results of preclinical studies and initial clinical trials may not necessarily predict the results from later large-scale clinical trials. In addition, clinical trials may not demonstrate a product's safety and effectiveness to the satisfaction of the regulatory authorities. A number of companies have suffered significant setbacks in advanced clinical trials or in seeking regulatory approvals, despite promising results in earlier trials. The FDA may also require additional 11
12 clinical trials post approval, which could be expensive and time-consuming, and failure to successfully conduct those trials could jeopardize continued commercialization. The rate at which we complete our clinical trials depends on many factors, including our ability to obtain adequate clinical supplies and patient enrollment. Patient enrollment is a function of many factors, including the size of the patient population, the proximity of patients to clinical sites and the eligibility criteria for the trial. Delays in patient enrollment may result in increased costs and longer development times. In addition, some of our collaborative partners have rights to control product development and clinical programs for products developed under the collaborations. As a result, these collaborators may conduct these programs more slowly or in a different manner than we had expected. Even if clinical trials are completed, we or our collaborative partners still may not apply for FDA approval in a timely manner or the FDA still may not grant approval. WE MAY NOT BE ABLE TO PAY AMOUNTS DUE ON OUR OUTSTANDING INDEBTEDNESS. We may not have sufficient cash to make required payments due under our existing debt. Our subsidiary, Glycomed, is obligated to make payments under certain debentures in the total principal amount of $50.0 million. The debentures bear interest at a rate of 7 1/2% per annum and are due in 2003. Glycomed may not have the funds necessary to pay the interest on and the principal of these debentures when due. If Glycomed does not have adequate funds, it will be forced to refinance the debentures and may not be successful in doing so. In addition, in November 1998, we issued notes with a total issue price of $40.0 million to Elan. Glycomed's failure to make payments when due under its debentures would cause us to default under the notes we have issued or may issue to Elan. WE MAY REQUIRE ADDITIONAL STOCK OR DEBT FINANCINGS TO FUND OUR OPERATIONS WHICH MAY NOT BE AVAILABLE ON ACCEPTABLE TERMS. We have incurred losses since our inception and do not expect to generate positive cash flow to fund our operations for the 1999 calendar year and perhaps for one or more subsequent years. As a result, we may need to complete additional equity or debt financings in the near future to fund our operations. These financings may not be available on acceptable terms. In addition, these financings, if completed, still may not meet our capital needs and could result in substantial dilution to our stockholders. For instance, the notes we issued to Elan are convertible into common stock at the option of Elan, subject to some limitations. In addition, we may issue additional notes to Elan with up to a total issue price of $70.0 million, which also would be convertible into common stock. If adequate funds are not available, we may be required to delay, reduce the scope of or eliminate one or more of our drug development programs. Alternatively, we may be forced to attempt to continue development by entering into arrangements with collaborative partners or others that require us to relinquish some or all of our rights to certain technologies or drug candidates that we would not otherwise relinquish. Our inability to obtain additional financing or to satisfy our obligations or the obligations of our subsidiaries under outstanding indebtedness could adversely affect our business. WE FACE SUBSTANTIAL COMPETITION. Some of the drugs that we are developing and marketing will compete with existing treatments. In addition, several companies are developing new drugs that target the same diseases that we are targeting and are taking IR-related and STAT-related approaches to drug development. Many of our existing or potential competitors, particularly large drug companies, have greater financial, technical and human resources than us and may be better equipped to develop, manufacture and market products. Many of these companies also have extensive experience in preclinical testing and human clinical trials, obtaining FDA and other regulatory approvals and manufacturing and marketing pharmaceutical products. In addition, academic institutions, governmental agencies and other public and private research organizations are developing products that may compete with the products we are developing. These institutions are becoming more aware of the commercial value of their findings and are seeking patent protection and licensing arrangements to collect payments for the use of their technologies. These institutions also may market competitive products on their own or through joint ventures and will compete with us in recruiting highly qualified scientific personnel. Any of these companies, academic institutions, government agencies or research organizations may develop and introduce products and processes that compete with or are better than ours. As a result, our products may become noncompetitive or obsolete. OUR SUCCESS WILL DEPEND ON THIRD-PARTY REIMBURSEMENT AND MAY BE IMPACTED BY HEALTH CARE REFORM. The efforts of governments and third party payors to contain or reduce the cost of health care will continue to affect the 12
13 business and financial condition of drug companies. A number of legislative and regulatory proposals to change the health care system have been discussed in recent years. In addition, an increasing emphasis on managed care in the United States has and will continue to increase pressure on drug pricing. We cannot predict whether legislative or regulatory proposals will be adopted or what effect those proposals or managed care efforts may have on our business. The announcement and/or adoption of such proposals or efforts could adversely affect our profit margins and business. Sales of prescription drugs depend significantly on the availability of reimbursement to the consumer from third party payors, such as government and private insurance plans. These third party payors frequently require drug companies to provide predetermined discounts from list prices, and they are increasingly challenging the prices charged for medical products and services. Our current and potential products may not be considered cost-effective and reimbursement to the consumer may not be available or sufficient to allow us to sell our products on a competitive basis. WE RELY HEAVILY ON COLLABORATIVE RELATIONSHIPS AND TERMINATION OF ANY OF THESE PROGRAMS COULD HAVE AN ADVERSE EFFECT ON OUR BUSINESS. Our strategy for developing and commercializing many of our potential products includes entering into collaborations with corporate partners, licensors, licensees and others. To date, we have entered into collaborations with Eli Lilly and Company, SmithKline Beecham Corporation, American Home Products, Abbott Laboratories, Sankyo Company Ltd., Glaxo-Wellcome plc, Allergan, Inc. and Pfizer Inc. These collaborations provide us with funding and research and development resources for potential products for the treatment or control of metabolic diseases, hematopoiesis, women's health disorders, inflammation, cardiovascular disease, cancer and skin disease, and osteoporosis. These agreements also give our collaborative partners significant discretion when deciding whether or not to pursue any development program. We cannot be certain that our collaborations will continue or be successful. In addition, our collaborators may develop drugs, either alone or with others that compete with the types of drugs they currently are developing with us. This would result in less support and increased competition for our programs. If products are approved for marketing under our collaborative programs, any revenues we receive will depend on the manufacturing, marketing and sales efforts of our collaborators, who generally retain commercialization rights under the collaborative agreements. Our current collaborators also generally have the right to terminate their collaborations under certain circumstances. If any of our collaborative partners breach or terminate their agreements with us or otherwise fail to conduct their collaborative activities successfully, our product development under these agreements will be delayed or terminated. The delay or termination of any of the collaborations could adversely affect our business. We may have disputes in the future with our collaborators, including disputes concerning who owns the rights to any technology developed. For instance, we were involved in litigation with Pfizer, which we settled in April 1996, concerning our right to milestones and royalties based on the development and commercialization of droloxifene. These and other possible disagreements between us and our collaborators could delay our ability and the ability of our collaborators to achieve milestones or our receipt of other payments. In addition, any disagreements could delay, interrupt or terminate the collaborative research, development and commercialization of certain potential products, or could result in litigation or arbitration. The occurrence of any of these problems could be time-consuming and expensive and could adversely affect our business. OUR SUCCESS DEPENDS ON OUR ABILITY TO OBTAIN AND MAINTAIN OUR PATENTS AND OTHER PROPRIETARY RIGHTS. Our success will depend on our ability and the ability of our licensors to obtain and maintain patents and proprietary rights for our potential products and to avoid infringing the proprietary rights of others, both in the United States and in foreign countries. Patents may not be issued from any of these applications currently on file or, if issued, may not provide sufficient protection. In addition, if we breach our licenses, we may lose rights to important technology and potential products. Our patent position like that of many pharmaceutical companies, is uncertain and involves complex legal and technical questions for which important legal principles are unresolved. We may not develop or obtain rights to products or processes that are patentable. Even if we do obtain patents, they may not adequately protect the technology we own or have licensed. In addition, others may challenge, seek to invalidate, infringe or circumvent any patents we own or license, and rights we receive under those patents may not provide competitive advantages to us. Further, the manufacture, use or sale of our products may infringe the patent rights of others. Several drug companies and research and academic institutions have developed technologies, filed patent applications or 13
14 received patents for technologies that may be related to our business. Others have filed patent applications and received patents that conflict with patents or patent applications we have licensed for our use, either by claiming the same methods or compounds or by claiming methods or compounds that could dominate those licensed to us. In addition, we may not be aware of all patents or patent applications that may impact our ability to make, use or sell any of our potential products. For example, United States patent applications are confidential while pending in the Patent and Trademark Office, and patent applications filed in foreign countries are often first published six months or more after filing. Any conflicts resulting from the patent rights of others could significantly reduce the coverage of our patents and limit our ability to obtain meaningful patent protection. If other companies obtain patents with conflicting claims, we may be required to obtain licenses to those patents or to develop or obtain alternative technology. We may not be able to obtain any such license on acceptable terms or at all. Any failure to obtain such licenses could delay or prevent us from pursuing the development or commercialization of our potential products, which would adversely affect our business. We have had and will continue to have discussions with our current and potential collaborators regarding the scope and validity of our patent and other proprietary rights. If a collaborator or other party successfully establishes that our patent rights are invalid, we may not be able to continue our existing collaborations beyond their expiration. Any determination that our patent rights are invalid also could encourage our collaborators to terminate their agreements where contractually permitted. Such a determination could also adversely affect our ability to enter into new collaborations. We may also need to initiate litigation, which could be time-consuming and expensive, to enforce our proprietary rights or to determine the scope and validity of others' rights. If litigation results, a court may find our patents or those of our licensors invalid or may find that we have infringed on a competitor's rights. If any of our competitors have filed patent applications in the United States which claim technology we also have invented, the Patent and Trademark Office may require us to participate in expensive interference proceedings to determine who has the right to a patent for the technology. We have learned that Hoffman LaRoche, Inc. has received a United States patent and has made patent filings in foreign countries that relate to our Panretin(R) capsules and gel products. We filed a patent application with an earlier filing date than Hoffman LaRoche's patent, which we believe is broader than, but overlaps in part with, Hoffman LaRoche's patent. We currently are investigating the scope and validity of Hoffman LaRoche's patent to determine its impact upon our products. The Patent and Trademark Office has informed us that the overlapping claims are patentable to us and has initiated a proceeding to determine whether we or Hoffman LaRoche are entitled to a patent. We may not receive a favorable outcome in the proceeding. In addition, the proceeding may delay the Patent and Trademark Office's decision regarding our earlier application. While we believe that the Hoffman LaRoche patent does not cover the use of Panretin(R) capsules and gel for most of our planned uses, if we do not prevail, the Hoffman LaRoche patent might block our use of Panretin(R) capsules and gel in certain cancers. We also rely on unpatented trade secrets and know-how to protect and maintain our competitive position. We require our employees, consultants, collaborators and others to sign confidentiality agreements when they begin their relationship with us. These agreements may be breached and we may not have adequate remedies for any breach. In addition, our competitors may independently discover our trade secrets. Any of these actions might adversely affect our business. WE CURRENTLY HAVE LIMITED MANUFACTURING CAPABILITY AND WILL RELY ON THIRD-PARTY MANUFACTURERS. We currently have no manufacturing facilities outside of Marathon's facility and rely on Marathon and others for clinical or commercial production of our potential products. To be successful, we will need to manufacture our products, either directly or through others, in commercial quantities, in compliance with regulatory requirements and at acceptable cost. If we are unable to develop our own facilities or contract with others for manufacturing services, our ability to conduct preclinical testing and human clinical trials will be adversely affected. This in turn could delay our submission of products for regulatory approval and our initiation of new development programs. In addition, although other companies have manufactured drugs acting through IRs and STATs on a commercial scale, we may not be able to do so at costs or in quantities to make marketable products. Any of these events would adversely affect our business. Our manufacturing process also may be susceptible to contamination, which could cause the affected manufacturing facility to close until the contamination is identified and fixed. In addition, problems with equipment failure or operator error also could cause delays. Any extended and unplanned manufacturing shutdowns could be expensive and could result in inventory and product shortages. OUR BUSINESS EXPOSES US TO PRODUCT LIABILITY RISKS AND WE MAY NOT HAVE SUFFICIENT INSURANCE TO COVER ANY CLAIMS. 14
15 Our business exposes us to potential product liability risks. A successful product liability claim or series of claims brought against us could adversely affect our business. Some of the compounds we are investigating may be harmful to humans. For example, retinoids as a class are known to contain compounds, which can cause birth defects. We have arranged to increase our product liability insurance coverage in connection with the planned launch of two of our potential products; however, we may not be able to maintain our insurance on acceptable terms, or our insurance may not provide adequate protection in the case of a product liability claim. We expect to purchase additional insurance when more of our products progress to a later stage of development and if we license any rights to use later-stage products in the future. To the extent that product liability insurance, if available, does not cover potential claims, we will be required to self-insure the risks associated with such claims. WE ARE DEPENDENT ON OUR KEY EMPLOYEES, THE LOSS OF WHOSE SERVICES COULD ADVERSELY AFFECT US. We depend on our key scientific and management staff, the loss of whose services could adversely affect our business. Furthermore, we are currently experiencing a period of rapid growth, which requires us to hire many new scientific, management and operational personnel. Accordingly, recruiting and retaining qualified management, operations and scientific personnel to perform research and development work also is critical to our success. Although we believe we will successfully attract and retain the necessary personnel, we may not be able to attract and retain such personnel on acceptable terms given the competition among numerous drug companies, universities and other research institutions for such personnel. WE USE HAZARDOUS MATERIALS WHICH REQUIRES US TO INCUR SUBSTANTIAL COSTS TO COMPLY WITH ENVIRONMENTAL REGULATIONS. In connection with our research and development activities, we handle hazardous materials, chemicals and various radioactive compounds. For example, as we previously mentioned, retinoids as a class are known to contain compounds, which can cause birth defects. We cannot completely eliminate the risk of accidental contamination or injury from the handling and disposing of hazardous materials. In the event of any accident, we could be held liable for any damages that result, which could be significant. In addition, we may incur substantial costs to comply with environmental regulations. Any of these events could adversely affect our business. OUR STOCK PRICE MAY BE ADVERSELY AFFECTED BY VOLATILITY IN THE MARKETS. The market prices and trading volumes for our securities, and the securities of emerging companies like us, have historically been highly volatile and have experienced significant fluctuations unrelated to operating performance. Future announcements concerning us or our competitors may impact the market price of our common stock. These announcements might include the results of research, development testing, technological innovations, new commercial products, government regulation, receipt of regulatory approvals by competitors, our failure to receive regulatory approvals, developments concerning proprietary rights, litigation or public concern about the safety of the products. YOU MAY NOT RECEIVE A RETURN ON YOUR SHARES OTHER THAN THROUGH THE SALE OF YOUR SHARES OF COMMON STOCK. We have not paid any cash dividends on our common stock to date, and we do not anticipate paying cash dividends in the foreseeable future. Accordingly, other than through a sale of your shares, you may not receive a return. OUR CHARTER DOCUMENTS AND SHAREHOLDER RIGHTS PLAN MAY PREVENT TRANSACTIONS THAT COULD BE BENEFICIAL TO YOU. Our shareholder rights plan and provisions contained in our certificate of incorporation and bylaws may discourage transactions involving an actual or potential change in our ownership, including transactions in which you might otherwise receive a premium for your shares over then-current market prices. These provisions also may limit your ability to approve transactions that you deem to be in your best interests. In addition, our board of directors may issue shares of preferred stock without any further action by you. Such issuance's may have the effect of delaying or preventing a change in our ownership. WE ARE SUBJECT TO YEAR 2000 RISKS FOR WHICH WE MAY NOT BE PREPARED AND WHICH COULD HAVE AN ADVERSE EFFECT ON OUR BUSINESS. For a discussion of the risks associated with our year 2000 readiness, please see "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Year 2000 Compliance." 15
16 PART I. FINANCIAL INFORMATION ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK At March 31, 1999 our investment portfolio includes fixed-income securities of $37.9 million. These securities are subject to interest rate risk and will decline in value if interest rates increase. However, due to the short duration of our investment portfolio, an immediate 10% change in interest rates would have no material impact on our financial condition or results of operations. We generally conduct business including sales to foreign customers, in U.S. dollars and as a result we have very limited foreign currency exchange rate risk. The effect of an immediate 10% change in foreign exchange rates would not have a material impact on our financial condition or results of operations. 16
17 PART II. OTHER INFORMATION ITEM 2 CHANGES IN SECURITIES AND USE OF PROCEEDS On March 8, 1999, Ligand issued to Eli Lilly & Company ("Lilly") 434,546 shares of the Company's common stock as payment of a $5 million milestone due to Lilly under an agreement with Ligand and Seragen, Inc. covering rights to ONTAK(TM). The shares were issued to a single entity, Lilly, under an exemption from registration under Section 4(2) of the Securities Act of 1933. ITEM 5 OTHER INFORMATION At April 30, 1999, Ligand had outstanding warrants to purchase 4,486,304 shares of Ligand's Common Stock, of which 4,228,054 warrants relate to the Allergan-Ligand Retinoid Therapeutics transaction (the "ALRT warrants"). The ALRT warrants have an exercise price of $7.12 and expire on June 3, 2000. In May 1999, Ligand received net proceeds of approximately $3.5 million from an investor who elected to exercise ALRT warrants to purchase 625,000 shares of Ligand common stock. Ligand agreed to pay a cost of money incentive to the investor for the early exercise of those warrants. ITEM 6 (A) EXHIBITS <TABLE> <S> <C> Exhibit 3.1(1) Amended and Restated Certificate of Incorporation of the Company (filed as Exhibit 3.2). Exhibit 3.2(1) Bylaws of the Company, as amended (filed as Exhibit 3.3). Exhibit 3.3 (Amended) Certificate of Designation of Rights, Preferences and Privileges of Series A Participating Preferred Stock of Ligand Pharmaceuticals Incorporated. Exhibit 10.1(2) Amendment, dated as of November 9, 1998, between Ligand Pharmaceuticals Incorporated and ChaseMellon Shareholder Services, L.L.C., as Rights Agent (Exhibit 99.1). Exhibit 10.2(3) Form of Second Amendment to the Preferred Share Rights Agreement and Certificate of Compliance with Section 27 thereof (Exhibit 1). Exhibit 10.3(4) Marketing and Distribution Agreement with Ferrer Internacional S.A. to market and distribute Ligand Pharmaceuticals Incorporated products in Spain, Portugal and Greece. Exhibit 10.4(4) Marketing and Distribution Agreement with Ferrer Internacional S.A. to market and distribute Ligand Pharmaceuticals Incorporated products in Central and South America. Exhibit 27.1 Financial Data Schedule </TABLE> (1) This exhibit was previously filed as part of, and is hereby incorporated by reference to the numbered exhibit filed with, the Registration Statement on Form S-4 (No. 333-58823) filed on July 9, 1998. (2) This exhibit was previously filed as part of, and is hereby incorporated by reference to the numbered exhibit filed with, the Registration Statement on Form 8-A/A Amendment No. 1 (No. 0-20720) filed on November 10, 1998. (3) This exhibit was previously filed as part of, and is hereby incorporated by reference to the numbered exhibit filed with, the Registration Statement on Form 8-A/A Amendment No. 2 (No. 0-20720 filed on December 24, 1998. (4) Certain confidential portions of this Exhibit were omitted by means of marking such portions with an asterisk (the "Mark"). This Exhibit has been filed separately with the Secretary of the Commission without the Mark pursuant to the Company's Application Requesting Confidential Treatment under Rule 246-2 of the Securities Exchange Act of 1934. ITEM 6 (B) REPORTS ON FORMS 8-K- No reports on Form 8-K were filed during the quarter ended on March 31, 1999. 17
18 LIGAND PHARMACEUTICALS INCORPORATED March 31, 1999 SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Ligand Pharmaceuticals Incorporated Date: May 14, 1999 By /s/ PAUL V. MAIER ----------------------------- --------------------------------- Paul V. Maier Senior Vice President and Chief Financial Officer 18