ADVANCIS PHARMACEUTICAL CORP - AVNC Annual Report (10-K) Liquidity and Capital Resources

The following is an excerpt from a 10-K SEC Filing, filed by ADVANCIS PHARMACEUTICAL CORP on 3/29/2006.

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Liquidity and Capital Resources

We have funded our operations principally with the proceeds of $54.5 million from a series of five preferred stock offerings and one issue of convertible notes over the period 2000 through 2003, the net proceeds of $54.3 million from our initial public offering in October 2003, and a private placement of common stock for net proceeds of $25.8 million in April 2005. In addition, we have received funding of $8.0 million and $28.25 million from GlaxoSmithKline and Par Pharmaceutical, respectively, as a result of collaboration agreements for the development of new products. Since July 2004, we have also received cash from sales of our Keflex products. We also received a $1.0 million advance payment in 2005 from a potential buyer of our Keflex brand, which we retained as the sale was not completed.

Cash and Marketable Securities

At December 31, 2005, unrestricted cash, cash equivalents and marketable securities were $29.0 million compared to $30.1 million at December 31, 2004.

As of December 31, 2005 2004

Cash and cash equivalents $ 18,117,000 $ 10,396,000 Marketable securities 11,314,000 19,656,000

Total $ 29,431,000 $ 30,052,000

Restricted cash at December 31, 2005 of approximately $0.4 million will become unrestricted during 2006 and provide additional liquidity.

Our cash and cash equivalents are highly-liquid investments with a maturity of 90 days or less at date of purchase and consist of time deposits, investments in money market funds with commercial banks and financial institutions, and commercial paper of high-quality corporate issuers. Our marketable securities are also highly-liquid investments and are classified as available-for-sale, as they can be utilized for current operations. The Company's investment policy requires the selection of high-quality issuers, with bond ratings of AAA to A1+/P1. The Company's objective is to maintain its investment portfolio at an average duration of approximately one year.

Also, we maintain cash balances with financial institutions in excess of insured limits. We do not anticipate any losses with respect to such cash balances.

Cash Flow

The following table summarizes our sources and uses of cash and cash equivalents for fiscal years ending December 31, 2005, 2004, and 2003.

Year Ended December 31, 2005 2004 2003

Net cash used in operating activities $ (24,890,000 ) $ (15,487,000 ) $ (11,084,000 ) Net cash provided by (used in) investing activities 7,676,000 (11,721,000 ) (36,413,000 ) Net cash provided by financing activities 24,935,000 153,000 80,887,000

Net increase (decrease) in cash and cash equivalents $ 7,721,000 $ (27,055,000 ) $ 33,390,000

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Operating Activities

Net cash used in operating activities for the three years ended December 31, 2005 is presented in the following table, which displays cash received and cash disbursed by major element.

Year Ended December 31, Operating Activities 2005 2004 2003

Cash receipts:
Cash received from product sales $ 5,159,000 $ 2,230,000 $ - Cash received from collaboration partners 14,250,000 17,000,000 5,000,000 Interest income received and other 1,622,000 2,185,000 581,000

Total cash receipts 21,031,000 21,415,000 5,581,000

Cash disbursements:
Cash paid for employee compensation and benefits 11,432,000 10,401,000 6,826,000 Cash paid to vendors, suppliers, and other 34,489,000 26,501,000 9,839,000

Total cash disbursements 45,921,000 36,902,000 16,665,000

Net cash used in operating activities $ (24,890,000 ) $ (15,487,000 ) $ (11,084,000 )

Cash received from product sales in 2005 of $5.2 million significantly exceeded product sales cash receipts in 2004 of $2.2 million, as the 2004 amount reflects only about a half year of activity. Cash received from collaboration partners relates to our previous collaboration agreements with Par Pharmaceutical for amoxicillin PULSYS and with GlaxoSmithKline for amoxicillin/clavulanate development. We received $14.25 million and $14.0 million in 2005 and 2004, respectively, from Par and $3.0 million and $5.0 million in 2004 and 2003, respectively, from GSK. The increase in cash disbursements from 2003 to 2005 reflects the growth in the Company's average headcount and the significant costs involved in the Company's Phase III clinical trials in 2004 and 2005.

Investing Activities

Net cash used in investing activities for the three years ended December 31, 2005 is presented in the following table, which displays cash received and cash disbursed by major element.

Year Ended December 31, Investing Activities 2005 2004 2003

Cash receipts:
Sale of marketable securities, net of
purchases $ 8,176,000 $ 6,582,000 $ - Advance payment received for potential sale of Keflex 1,000,000 - - Sale of fixed assets, restricted cash and other 423,000 - 830,000

Total cash receipts 9,599,000 6,582,000 830,000

Cash disbursements:
Purchase of marketable securities - - 27,858,000 Purchase of Keflex brand rights - 11,206,000 - Property and equipment purchases and deposits 1,923,000 6,960,000 9,047,000 Change in restricted cash and other - 137,000 338,000

Total cash disbursements 1,923,000 18,303,000 37,243,000

Net cash used in investing activities $ 7,676,000 $ (11,721,000 ) $ (36,413,000 )

The most significant investing activities in 2005 included net purchases and sales of marketable securities of $8.2 million, receipt of a $1.0 million advance payment pursuant to the potential sale of Keflex assets (which we

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retained, as the agreement-in-principle expired without the sale of the business), and purchases of and deposits on property and equipment of $1.9 million.

Net cash used in investing activities during the year ended December 31, 2004 was $11.7 million. The most significant investing activities included the acquisition of Keflex intangibles for $11.2 million, and purchases of and deposits on property and equipment of $7.0 million. Net purchases and sales of marketable securities provided $6.6 million during the period.

Net cash used in investing activities during fiscal 2003 was $36.4 million. The Company invested $27.9 million of its IPO proceeds in marketable securities, representing securities with maturities exceeding 90 days. The Company also spent $9.0 million (excluding $1.6 million of accrued construction costs) on the acquisition of property and equipment, primarily for the fit-out of its new corporate, research and development facility in Germantown, Maryland. An additional $338,000 of cash was required by the Company's equipment financing terms to be placed in financial institutions on a restricted basis as additional loan collateral. Partially offsetting these cash outflows was the receipt of $830,000 in cash as part of the tenant improvement allowance for our corporate, research and development facility; this amount will be amortized as a reduction in rent expense over the term of the lease.

Financing Activities

Net cash provided by financing activities for the three years ended December 31, 2005 is presented in the following table, which displays cash received and cash disbursed by major element.

Year Ended December 31, Financing Activities 2005 2004 2003

Cash receipts:
Cash received from private placement $ 25,844,000 $ - $ - Cash received from lines of credit - 1,390,000 1,346,000 Cash received from initial public offering - - 54,312,000 Cash received from preferred stock and notes - - 25,775,000 Cash received from exercise of stock options 101,000 16,000 91,000

Total cash receipts 25,945,000 1,406,000 81,524,000

Cash disbursements:
Cash paid for debt payments 1,010,000 1,253,000 637,000

Total cash disbursements 1,010,000 1,253,000 637,000

Net cash provided by financing activities $ 24,935,000 $ 153,000 $ 80,887,000

The major financing activity in 2005 was the private placement of common stock, which provided $25.8 million net of issuance costs. Additionally, repayments on lines of credit totaled $1.0 million during the period.

Net cash provided by financing activities in 2004 was $0.2 million. The major financing activities included loan draws of $1.4 million for equipment financing in connection with the fit-out of the Company's new corporate, research and development facility and repayments of $1.2 million on the Company's existing borrowings.

Net cash from financing activities for fiscal 2003 was $80.9 million. The major financing activities included $5.0 million from the issue of convertible notes in March 2003, $20.8 million from the closing of the Series E preferred stock financing round in July 2003, and $54.3 million from the closing of Company's initial public offering of its common stock in October 2003. The Company also obtained $1.3 million from draws under its lines of credit for equipment financing.

Borrowings

We are a party to four credit facilities for an aggregate amount of $5.9 million used to finance the purchase of equipment and to one loan agreement for $75,000 with a local government development fund. The credit facilities

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have no amounts available for new borrowings. Of the total $5.9 million amount, $1.6 million was outstanding as of December 31, 2005, as summarized in the following table:

As of December 31, 2005 Remaining Amount Amount Debt Obligations Interest Rates Outstanding Available

Fixed rate borrowings 5.00% - 11.62% $ 190,000 $ - LIBOR or Fixed Cost of Funds Variable rate borrowings plus 250 - 280 basis points 1,377,000 -

Totals $ 1,567,000 $ -

We do not currently hedge variable rate borrowings.

Stock Issuances

In April 2005, we completed a private placement of 6,846,735 shares of our common stock at a price of $3.98 per share and warrants to purchase a total of 2,396,357 shares of common stock at an exercise price of $4.78 per share, resulting in net proceeds, after commissions and expenses, of $25.8 million. The warrants are exercisable for five years.

Contractual Obligations

The following table summarizes our contractual obligations at December 31, 2005 and the effects such obligations are expected to have on our liquidity and cash flows in future periods.

Payments Due by Period

After Contractual Obligations (1), (2) Total 2006 2007 2008 2009 2010 2010
(In thousands)

Short and long-term debt (includes
interest) $ 1,636 $ 949 $ 636 $ 51 $ - $ - $ - Minimum purchase commitments (3) 1,239 1,239 - - - - - Operating lease obligations 16,033 2,126 2,080 2,139 2,156 2,214 5,318

Total contractual cash obligations $ 18,908 $ 4,314 $ 2,716 $ 2,190 $ 2,156 $ 2,214 $ 5,318

Other commercial commitments(4) $ 4,545 $ 4,545 $ - $ - $ - $ - $ -

(1) This table does not include potential royalty payments, at a rate of 10% of sales value, to Eli Lilly and Company, which may be due on product line extensions of Keflex. Any such royalties cannot be estimated at this time.

(2) This table does not include a contingent liability to Par Pharmaceutical under our amoxicillin development and commercialization agreement that was terminated by Par in August 2005. Under certain circumstances, the termination clauses of the agreement may entitle Par to receive a share of future net profits, if any, up to one-half of Par's total $23.25 million investment in the development of certain amoxicillin PULSYS products, should a product covered by the agreement be successfully commercialized. Accordingly, we retained $11.625 million of deferred revenue in recognition of this contingent liability to Par.

(3) We have entered into a manufacturing agreement with Ceph International for the manufacturing of our Keflex products. This agreement contains a provision for minimum purchase requirements.

(4) We have entered into other contractual agreements in connection with developing our products and technology and to perform clinical trials. This amount represents the remaining contractual amount due for our on-going Phase III clinical trial. Although the contract could be cancelled by us, in which case we would be liable to the

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vendor for work performed to the date of cancellation, it is our intent to complete the clinical trial at the remaining cost of approximately $4.5 million.

In addition to the contractual obligations in the above table, the Company may incur funding liabilities for obligations which it enters into on a discretionary basis. These discretionary obligations could include additional facilities or equipment, investments in new technologies or products, acquisitions, funding of clinical trials, or similar events. As of December 31, 2005, we are not committed to fund any further pre-production development work at the Clonmel facility; however, should our Amoxicillin PULSYS Phase III trial be successful, our intention would be to fund approximately $2.8 million of additional development work at Clonmel, primarily in late 2006 and early 2007, to prepare for commercial production of Amoxicillin PULSYS.

During fiscal 2005 we spent approximately $1.4 million for capital expenditures, primarily for equipment purchased for use at third-party manufacturing facilities, as well as for use in our research and development facility in Germantown, Maryland.

Off-Balance Sheet Arrangements

We have not entered into any transactions, agreements or other contractual arrangements that meet the definition of off-balance sheet arrangements, with the exception of our private placement of common stock and warrants in April 2005. Warrants are instruments that meet the definition of a derivative under SFAS 133, although they qualify for the scope exception under paragraph 11 of SFAS 133. In the private placement, warrants were issued to purchase a total of 2,396,357 shares of common stock at an exercise price of $4.78 per share.

Prospective Information

We expect to incur losses from operations for the foreseeable future. We expect to continue to incur substantial research and development expenses in 2006, including expenses related to preclinical testing and clinical trials. We expect that our selling and marketing expenses will increase in 2006, assuming FDA approval of our Keflex line extension products and commercial launch of the new products. If the launch is successful, we will collect cash on these incremental sales which would offset some or all of our increased selling and marketing expenses in 2006. We believe the Keflex line extension products have the potential to generate significant cash in excess of selling costs in 2007. We also expect a limited window of opportunity for these products, approximating 18 to 24 months, should generic pharmaceutical companies decide to compete with our line extension products.

Our future capital requirements will depend on a number of factors, including the continued progress of our research and development of product candidates, the timing and outcome of regulatory approvals, payments received or made under any future collaborative agreements, the costs involved in preparing, filing, prosecuting, maintaining, defending and enforcing patent claims and other intellectual property rights, the acquisition of licenses to new products or compounds, the status of competitive products, the availability of financing and our or our partners' success in developing markets for our product candidates.

After receiving the results in June and July 2005 of our unsuccessful pediatric and adult Phase III trials, we conducted an intensive analysis of the data with the intent to reach a conclusion regarding the future of our Amoxicillin PULSYS development program. We also considered how to maximize the future value of our Keflex franchise. Each of these outstanding matters has significant implications for our anticipated level of future spending and our capital available to fund future operations. In September 2005, we announced our decisions regarding these outstanding matters. We decided to continue our Amoxicillin PULSYS development program and to conduct a new Phase III clinical trial. We also decided to investigate the potential sale of the Keflex brand in order to increase our level of unrestricted cash on hand.

In July and September 2005, we reduced our workforce by approximately 38% as part of an initiative to reduce operating expenses. The cost reduction will enhance our ability to rely on our existing resources to fund our operations over the next year. We believe that our cash, cash equivalents and marketable securities of $29.4 million on hand as of December 31, 2005, together with the effect of the reduction in our workforce in the third quarter of 2005 and product revenue collections in 2006 from sales of our currently-marketed Keflex products, provide us with enough capital resources to finance our ongoing operations, including our new Phase III clinical trial, until at least

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the first quarter of 2007. We will continue to balance our pace of development with our funding position, and we anticipate the resources described above will be sufficient to fund our planned operating expenses, debt repayments and capital equipment requirements for at least the next 12 months, barring unforeseen developments. This forecast is a forward-looking statement that involves risks and uncertainties, and actual results could vary.

We have no unused credit facility or other committed sources of capital. To the extent our capital resources are insufficient to meet future capital requirements, we will need to raise additional capital, incur indebtedness, or consider the sale of company assets in order to fund our operations. There can be no assurance that additional debt or equity financing will be available on acceptable terms, if at all. If adequate funds are not available, we may be required to delay, reduce the scope of or eliminate our research and development programs, reduce our commercialization efforts, effect changes to our facilities or personnel, or obtain funds through arrangements with collaborative partners or others that may require us to relinquish rights to certain product candidates that we might otherwise seek to develop or commercialize independently. Any future funding may dilute the ownership of our equity investors.

Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995

Certain statements contained in "Business" and "Management's Discussion and Analysis of Financial Condition and Results of Operations," are 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. The forward-looking statements are based on our current intent, belief and expectations. These statements are not guarantees of future performance and are subject to certain risks and uncertainties that are difficult to predict. Actual results may differ materially from these forward-looking statements because of our unproven business model, our dependence on new technologies, the uncertainty and timing of clinical trials, our ability to develop and commercialize products, our dependence on collaborators for services and revenue, our substantial indebtedness and lease obligations, our changing requirements and costs associated with planned facilities, intense competition, the uncertainty of patent and intellectual property protection, our dependence on key management and key suppliers, the uncertainty of regulation of products, the impact of future alliances or transactions and other risks described in this filing and our other filings with the Securities and Exchange Commission. Existing and prospective investors are cautioned not to place undue reliance on these forward-looking statements, which speak only as of today's date. We undertake no obligation to update or revise the information contained in this announcement whether as a result of new information, future events or circumstances or otherwise.