10-Q 1 a69513e10-q.txt FORM 10-Q FOR PERIOD ENDED DECEMBER 31, 2000 1 U. S. SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (MARK ONE) [X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED DECEMBER 31, 2000 [ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM _________TO _________. COMMISSION FILE NUMBER 000-21141 PHARMAPRINT INC. (NAME OF SMALL BUSINESS ISSUER AS SPECIFIED IN ITS CHARTER) DELAWARE 33-0640125 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER IDENTIFICATION NO.) INCORPORATION OR ORGANIZATION) 4701 VON KARMAN AVE SUITE 201, NEWPORT BEACH, CALIFORNIA 92660 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) REGISTRANTS TELEPHONE NUMBER, INCLUDING AREA CODE: (949) 794-7778 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 Issuer was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Number of shares outstanding as of February 1, 2001: Common Stock: 23,984,409 2 PHARMAPRINT INC. AND SUBSIDIARIES INDEX

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS This report contains "forward-looking" statements. The Company is including this statement for the express purpose of availing itself of protections of the safe harbor provided by the Private Securities Litigation Reform Act of 1995 with respect to all such forward-looking statements. Examples of forward-looking statements include, but are not limited to: (a) projections of revenues, capital expenditures, growth, prospects, dividends, capital structure and other financial matters; (b) statements of plans and objectives of the Company or its management or Board of Directors; (c) statements of future economic performance; (d) statements of assumptions underlying other statements and statements about the Company and its business relating to the future; and (e) any statements using the words "anticipate," "expect," "may," "project," "intend" or similar expressions. The Company's ability to predict projected results or the effect of certain events on the Company's operating results is inherently uncertain. Therefore, the Company wishes to caution each reader of this report to carefully consider the following factors and certain other factors discussed herein and in the Company's Annual Report on Form 10-K for the fiscal year ended March 31, 2000 filed on August 17, 2000, any or all of which have in the past and could in the future affect the ability of the Company to achieve its anticipated results and could cause actual results to differ materially than those discussed herein: cost and availability of botanical extracts, cost and availability of manufacturing service contractors, ability to obtain and enforce patents, limited manufacturing experience, dependence on third parties, uncertainties related to the PharmaPrint(TM) Process, government regulation and uncertainty of product approvals, ability to commercialize and market products, cost and results of research and development and clinical and toxicology studies, technological advances by third parties and competition, future capital needs of the Company, control by existing shareholders and general economic and business conditions. PharmaPrint(TM)is a trademark of the Company 2 3 PART I -- FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS PHARMAPRINT INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS

The accompanying notes are an integral part of these condensed consolidated financial statements 3 4 PHARMAPRINT INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

The accompanying notes are an integral part of these condensed consolidated financial statements 4 5 PHARMAPRINT INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

The accompanying notes are an integral part of these condensed consolidated financial statements 5 6 PHARMAPRINT INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) NOTE 1 - BASIS OF PRESENTATION The financial statements of PharmaPrint, Inc. ("PharmaPrint" or the "Company") for the three and nine months ended December 31, 2000 and 1999 are unaudited. Certain information and note disclosures normally included in the financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been omitted. These financial statements should be read in conjunction with the audited financial statements and notes thereto included in PharmaPrint's Form 10-K as of and for the year ended March 31, 2000. In the opinion of management, the financial statements contain all adjustments, consisting of normal recurring adjustments, necessary to present fairly the financial position of PharmaPrint for the periods presented. The interim operating results may not be indicative of operating results for the full year or for any other interim periods. NOTE 2 - GOING CONCERN/RISK FACTORS Risk Factors Since inception (September 15, 1994) we have incurred significant losses (totaling $77,486,017 through December 31, 2000) and have a working capital deficit of $13,955,328 at December 31, 2000. On October 21, 1999, we received a one-year termination notice regarding the manufacture of certain products for AHP. From October 21, 1999 through November 15, 1999, we engaged in discussions with AHP to resolve certain issues between the companies. On November 15, 1999, we were informed that, on November 8, 1999, AHP initiated a legal action against us, alleging a number of claims including breach of contract. AHP was seeking monetary damages, declaratory judgment and injunctions. On November 16, 1999, we initiated an action against AHP, alleging a number of claims including misappropriation of trade secrets, breach of contract, violation of unfair competition laws and breach of the implied covenant of good faith and fair dealing. We sought monetary damages, preliminary and permanent injunctions, punitive damages, restitution and disgorgement and other damages. On July 20, 2000, we entered into a confidential settlement agreement with AHP that fully and finally resolved the actions of both parties. We recorded the net impact of this settlement in other income during the second quarter of fiscal 2001. We are currently negotiating settlement and payment arrangements with our significant vendors. We are offering to issue shares of our common stock in settlement of our outstanding debt to such vendors. Certain vendors have also independently commenced legal actions against us to collect amounts owed them and for various other damages. If we are unable to successfully negotiate arrangements with our vendors and/or are unsuccessful in our defense of pending legal matters (see Note 8), we will evaluate other options including, but not limited to, seeking protection from the bankruptcy court. We have completed negotiations with several significant vendors (see Note 7). 6 7 PHARMAPRINT INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) On May 4, 2000, we were de-listed from the NASDAQ National Market for failure to maintain the net tangible asset requirement of NASDAQ, among other requirements. The market price of our common stock is currently quoted on the NASD Over-The-Counter Bulletin Board. The de-listing may make it more difficult for us to raise capital in the public markets in the future. At present, we are funding ongoing operations from cash on hand, from the proceeds of the sale of our capital stock and from the proceeds of the sale of non-marketable securities and machinery. We continue to seek to raise additional equity and/or debt capital, sell or license our technology or locate an appropriate merger candidate in order to pay current liabilities, to fund current operations and to fund sales and marketing efforts for new revenue distribution channels. Our ability to raise sufficient capital and meet future capital requirements will depend on many factors, including but not limited to: the outcome of stockholder and other litigation, our ability to both reduce current amounts owed significant vendors and pay such amounts over an extended time period, our ability to get our common stock re-listed on the NASDAQ National Market or on a national securities exchange, our ability to obtain new distribution channels to sell our products, cost and availability of key botanical extracts, cost and availability of manufacturing service contractors, ability to obtain and enforce patents, dependence on third parties for collaboration/new distribution channels, and competition. Provided that we can successfully raise capital and successfully negotiate settlement and payment arrangements with significant vendors, we believe that our capital resources will enable us to maintain reduced operations. However, no assurance can be given that additional capital, if needed, will be available when required or upon acceptable terms or that we will be successful in our efforts to negotiate with significant vendors. The accompanying financial statements have been prepared on the basis of a going concern, which contemplates the realization of assets and liquidation of liabilities in the normal course of business. The financial statements do not include any adjustments relating to the recoverability and classification of asset carrying amounts (including the realizability of long-lived assets under SFAS No. 121 and of inventories) or the amount and classification of liabilities that might result from the outcome of this uncertainty. NOTE 3 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Revenue Recognition Revenues are recognized when products are shipped to customers. Other Income Other income represents amounts received for transactions not directly related to our revenue generating operations, including settlements from transactions originating in prior periods. 7 8 PHARMAPRINT INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) Loss Per Share PharmaPrint has adopted SFAS No. 128 "Earnings Per Share." As required pursuant to SFAS No. 128, basic loss per share is computed based on the weighted average number of common shares outstanding for the period. Diluted loss per share is computed assuming dilution from stock options and warrants. All outstanding stock options and warrants have been excluded from the diluted computation, as their effect is antidilutive. Comprehensive Income PharmaPrint has adopted SFAS No. 130, "Reporting Comprehensive Income," which established standards for the reporting and display of comprehensive income and its components in financial statements. Comprehensive income generally represents all changes in stockholders' equity except those resulting from investments by and distributions to owners. There is no effect of SFAS No. 130 in these financial statements as we have no items of comprehensive income. Segment Information PharmaPrint has adopted SFAS No. 131, "Disclosures About Segments of an Enterprise and Related Information," which established standards for the way that public business enterprises report information about operating segments in annual financial statements and requires that those enterprises report information about operating segments in interim financial reports. SFAS No. 131 also establishes standards for related disclosures about products and services, geographic areas and major customers. We believe that we currently operate under one segment. Stock Compensation We adopted Interpretation No. 44 ("FIN 44"), "Accounting for Certain Transactions involving Stock Compensation," an interpretation of APB 25. FIN 44 clarifies the application of APB 25 for (a) the definition of employee for purposes of applying APB 25, (b) the criteria for determining whether a plan qualifies as a noncompensatory plan, (c) the accounting consequence for various modifications to the terms of a previously fixed stock option or award, and (d) the accounting for an exchange of stock compensation awards in a business combination. FIN 44 is effective July 1, 2000, but certain provisions cover specific events that occur after either December 15, 1998, or January 12, 2000. The adoption of FIN 44 had no material effect on our financial statements. Recent Accounting Pronouncements The FASB issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities." SFAS 133 establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities on the balance sheet at their fair value. This statement, as amended by SFAS 137, is effective for financial statements for all fiscal quarters of all fiscal years beginning after June 15, 2000. We do not expect the adoption of this standard to have a material impact on results of operations, financial position or cash flows as we currently do not engage in any derivative or hedging activities. 8 9 PHARMAPRINT INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) In March 2000, the Emerging Issues Task Force reached a consensus on Issue No. 00-2, "Accounting for Web Site Development Costs" ("EITF 00-2") to be applicable to all web site development costs incurred for the quarter beginning after June 30, 2000. The consensus states that for specific web site development costs, the accounting for such costs should be accounted for under AICPA Statement of Position 98-1 (SOP 98-1), "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use." We do not expect the adoption of EITF 00-2 to have a material effect on our financial statements. In December 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin 101 ("SAB 101"), "Revenue Recognition," which outlines the basic criteria that must be met to recognize revenue and provides guidance for presentation of revenue and for disclosure related to revenue recognition policies in financial statements filed with the Securities and Exchange Commission. The effective date of this pronouncement is the fourth quarter of the fiscal year beginning after December 15, 1999. We believe that adopting SAB 101 will not have a material impact on our financial position and results of operations. NOTE 4 - INVENTORIES During the second quarter of fiscal 2001, management wrote down the value of inventories to $500,000, based on management's best estimate of the net realizable value of these inventories. Related to this write-down, we incurred a non-cash expense of $1,167,534 that is included in the cost of sales for said quarter. NOTE 5 - NON-MARKETABLE EQUITY SECURITIES Non-marketable equity securities consist of shares of Vicus.com, Inc. ("Vicus"). Vicus was formed by PharmaPrint and several related parties, and was for some time operating out of our offices. During the first quarter of fiscal 2001, we sold our remaining 420,000 shares at $1.20 per share to unrelated parties, of which $221,000 has not yet been collected and has been fully reserved for in the accompanying condensed balance sheet as the collection of this amount is doubtful. The proceeds of $504,000 from the sales of this stock are recorded as a gain on the sale of non-marketable equity securities as the stock's net book value was $0. NOTE 6 - AGREEMENTS As part of a Settlement Agreement with AHP dated July 20, 2000, all agreements with AHP have been terminated (see Note 1). 9 10 PHARMAPRINT INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) USC License Agreement In March 1995, we entered into a license agreement with USC (the "USC License Agreement") that granted to us an exclusive, worldwide license to: (i) the PharmaPrint(TM) Process; (ii) use certain therapeutic compounds; and (iii) other related products developed at USC. USC has also agreed to grant to us the right to sublicense certain products and a right of first refusal to obtain a license for any improvements to certain products developed by USC. The term of the USC License Agreement began March 1, 1995, and ends on the later of February 28, 2010, or the expiration of the last issued patent under the USC License Agreement. In exchange for the license, we agreed to pay USC: (i) royalty payments of 1% of net sales of pharmaceutical products developed using the PharmaPrint(TM) Process; (ii) after the first patent issues, an annual minimum royalty of $15,000, which shall increase by $5,000 annually for the following two years and be $25,000 annually thereafter; (iii) an annual license fee of $10,000 payable until a patent issues; and (iv) 328,563 shares of our common stock valued at $316,000 at the time of the exchange. Total minimum royalty expense per year under the USC License Agreement is $25,000. During the quarter ended September 30, 2000, we remitted the royalty payment according to the terms of the USC License Agreement. We were previously in default of this agreement. Joint Venture In August 2000, we entered into a joint venture agreement with Capital Alert Investment Ltd. (a British Virgin Islands Company) for the purpose of establishing Kingsway PharmaPrint Asia Limited, A British Virgin Islands Company ("Kingsway PharmaPrint"). The agreement includes a Joint Venture Shareholders' Agreement, a License and Distribution Agreement and a Share Subscription Agreement. We own 30% of Kingsway PharmaPrint's issued and outstanding equity securities. The Joint Venture Shareholders' Agreement between PharmaPrint Inc. and Capital Alert Investment Ltd. established Kingsway PharmaPrint Asia Limited, a British Virgin Islands company. The company's purpose is to manufacture, distribute and market products (other than pharmaceutical products) in Asia and Pacific territory using the PharmaPrint(TM) Process. Under this agreement, we provided an initial investment of $500,000 and technology (PharmaPrint(TM) Process) while Capital Alert Investment Ltd. will provide office space and marketing ability in the Asia and Pacific territory. In addition, Capital Alert Investment Ltd. is entitled to appoint two members of our Board of Directors. Kingsway PharmaPrint had no activity as of December 31, 2000. Under the License and Distribution Agreement, we provide a license to Kingsway PharmaPrint to manufacture, market and distribute PharmaPrint products (other than pharmaceutical products) made using the PharmaPrint(TM) Process in Asia and Pacific territory. In exchange, we will receive royalties of 5% on gross sales of products. 10 11 PHARMAPRINT INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) In the Share Subscription Agreement between PharmaPrint Inc. and Capital Alert Investment Ltd. ("Capital"), Capital purchased 3,750,000 shares of common stock for the amount of $1,394,999 (net of commission of $105,000). We used $500,000 of the proceeds from the sale of this common stock to fund our initial investment in the joint venture. Capital has a five-year option to acquire an additional 2,500,000 shares of common stock at exercise prices ranging from $0.375 to $1.25 per share. As the stock options were granted in connection with capital raising activities we did not record any compensation expense pursuant to SFAS 123. Additionally, one of Capital Alert Investment, Ltd.'s appointees to our Board of Directors was granted a five-year option to purchase 150,000 shares of common stock at an exercise price of $0.375 per share. Pursuant to APB 25 we did not recognize any expense related to the granting of these options since the exercise price of these options was greater than the market value of our common stock on the date of grant. First Pacific Consulting Group In relation to the joint venture, we entered into a Compensation Agreement with First Pacific Consulting Group, Inc. of Oklahoma ("First Pacific"). For services provided in brokering the joint venture transactions. First Pacific is entitled to a 7% commission on monies received from Capital (totaling $105,000, that has already been paid). In addition, First Pacific received a three-year option to purchase 500,000 shares of our common stock at a price of $0.375 per share. First Pacific is not permitted to resell the common stock underlying this option into the public market for a period of six months from the date of this option. As the stock option was granted in connection with capital raising activities, we did not record any compensation expense and accounted for this option pursuant to SFAS 123. If and when Capital Alert Investment Ltd. exercises its option to purchase PharmaPrint Inc. shares of common stock, pursuant to the Share Subscription Agreement, First Pacific will then be entitled to a 7% commission of such exercise cost. Diabetogen On October 2, 2000, we entered into a License Agreement with Diabetogen Biosciences Inc. ("Diabetogen") of Ontario, Canada. The agreement grants to Diabetogen an exclusive worldwide right to claims 1-10 of the Mistletoe US Patent 5,547,674 relating solely to mistletoe and allows Diabetogen the rights to develop, produce and sell licensed products. In exchange we will receive annual maintenance fees, milestone payments for entry into clinical trials and royalties on net sales of licensed products. During the quarter ended December 31, 2000, we recorded a licensing fee. There was no maintenance or milestone fee income recorded during the quarter then ended. NOTE 7 - VENDOR NEGOTIATIONS Accounts Payable Settlements We are currently negotiating settlement and payment arrangements with our significant vendors. We are offering to issue shares of our common stock in settlement of our outstanding debt to such vendors. Certain vendors have also independently commenced legal actions against us to collect amounts owed them and for various other damages. If we are unable to successfully negotiate arrangements with our vendors and/or are unsuccessful in our defense of pending legal matters, we will evaluate other options including, but not limited to, seeking protection from the bankruptcy court. 11 12 PHARMAPRINT INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) During the current fiscal year Pennie and Edmonds, LLP ("PEL"), filed a lawsuit against us for unpaid legal fees in the amount of $225,000. We contend that PEL's estimation of the fees owed to them is based upon excessive and inappropriate charges for services that are unjustified. On October 20, 2000, the parties reached an amicable settlement of this matter. There was no financial impact resulting from this settlement. In July 1999 Applied Analytical Industries, Inc. ("AAI"), a vendor, filed a Demand for Arbitration with the American Arbitration Society, seeking to recover damages for alleged breach of contract related to a Manufacturing Contract. In December 1999 we initiated a counterclaim against AAI. We filed the suit for claims arising from breach of contract, fraudulent inducement and fraud and negligence arising from various manufacturing and analytical agreements between the companies. We are seeking in excess of $6,000,000 in damages, and AAI is seeking in excess of $6,000,000 for payment of unpaid charges, interest and other damages. In August of 2000, we reached a settlement with AAI, agreeing to issue 2.2 million shares of our common stock, valued at $138,600 on the date of issue, in exchange for the relief of approximately $5.5 million in accounts payable and a mutual dismissal of all actions. The parties consummated this settlement in December 2000. Since this agreement is contingent on us not filing bankruptcy for 270 days after the issue of the common stock, we recorded deferred revenues in the amount of $5,396,949. NOTE 8 - PENDING LITIGATION On February 3, 2000, we were served with a class action complaint filed January 5, 2000, as amended January 27, 2000. This action is purportedly on behalf of all persons who acquired the common stock of PharmaPrint between July 1, 1999 and November 15, 1999. We were also served with a separate class action complaint filed January 20, 2000. These actions were purportedly filed on behalf of all persons who purchased the common stock of PharmaPrint from April 1, 1999 through November 17, 1999. The plaintiffs are seeking compensatory damages, and other costs and expenses, including legal fees. These two matters were recently consolidated before the Honorable Judge John W. Bissell in the Federal District Court of New Jersey, Newark, enabling more efficient resolution of the dispute. No class has been certified. Our officers and we intend to vigorously defend the merits of the lawsuits. On March 31, 2000 we settled a suit with International Processing Corporation ("IPC"), a vendor. In the settlement, we agreed to issue a promissory note which called for quarterly payments of $25,000 beginning on June 30, 2000, with a balloon payment of $75,000 due on March 30, 2002 and a pro-rata percentage of 1,000,000 shares (as determined by a percentage of the total amount of debt released by IPC over the total amount released by all other vendors - see Note 7) in exchange for a release from all amounts due to IPC prior to the agreement. We discounted the note using a 12% interest rate. No gain on extinguishment of debt will be recognized until the number of shares is determined. 12 13 PHARMAPRINT INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) On March 29, 2000 we were informed that an action was filed by former employee Kenneth Gorelick alleging damages arising out of employment with PharmaPrint in excess of $150,000 plus interest and costs. We contend that this is not a legitimate claim. We believe that we have meritorious defenses to these claims and intend to vigorously defend this lawsuit. As the outcome and final amount we will be required to pay the plaintiff, if any, are not determinable, no accrual for loss relating to this lawsuit is reflected in the accompanying financial statements. In April 2000, we initiated an action against Bio Dar, Inc. ("Bio Dar"), a vendor. We filed the suit for claims arising from establishment of rights and to verify ownership of intellectual properties. We are seeking $2.5 million in damages. Bio Dar has filed an answer to the suit, and has initiated a counter suit for damages not exceeding the amount sought by us. In August 2000, Bio Dar filed another lawsuit against us seeking payment of outstanding invoices totaling approximately $165,000. We believe that we have meritorious defenses to these claims and intend to vigorously defend these lawsuits. A hearing has been scheduled on June 3, 2001. As the outcome and final amounts are not determinable, no accrual for loss relating to this suit is reflected in the accompanying financial statements. In August 2000, Julien J. Studley, Inc. filed an action against us in the Superior Court of California, County of Los Angeles, alleging breach of contract in relation to office equipment leases. The complaint seeks damages in the amount of $71,512.20. We believe we have meritorious defense to this claim and intend to vigorously defend this lawsuit. As the outcome and final amounts are not determinable, no accrual for loss relating to this suit is reflected in the accompanying financial statements. NOTE 9 - STOCKHOLDERS' EQUITY Convertible Series A Preferred Stock The Series A Preferred Stock has a dividend yield of 6%, payable at the time of conversion in shares of our common stock. For the nine months ended December 31, 2000, we recorded dividends-in-kind of $335,474 related to preferred stock dividends that will be due upon conversion. Because this dividend amount will not be paid in cash, it is shown as a decrease in the accumulated deficit account and a corresponding increase in the additional paid in capital account in the accompanying consolidated balance sheet. This amount has also been disclosed as an increase to the preferred stock's liquidation preference at December 31, 2000. On July 5, 2000, 105 shares of preferred stock and related accrued dividends were converted into 325,342 shares of common stock. On January 22, 2001, 20 shares of preferred stock and related accrued dividends were converted into 878,642 shares of common stock. Options Granted On April 14, 1995, the Company adopted the 1995 Stock Option Plan, as amended, (the "Plan") pursuant to which our directors, officers, key employees, consultants, scientific advisors and other personnel working directly with us are eligible to receive stock options as defined in the 1995 Plan. 5,900,000 shares of common stock were authorized for issuance under the 1995 Plan. The 1995 Plan, unless terminated sooner by the Board of Directors, will terminate on April 14, 2005. 13 14 PHARMAPRINT INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) On May 15, 2000, we granted to Steven Bowman, Chief Executive Officer, non-qualified stock options to purchase 500,000 shares of common stock at the then fair market value of $0.375 per share. Mr. Bowman's right to purchase 125,000 shares of common stock will vest on each of August 15, 2000, November 15, 2000, February 15, 2001 and May 15, 2001. Additionally, Mr. Bowman's right to purchase shares of common stock will vest upon a change in control of ownership of our company or upon his achieving certain specified goals as defined in the agreement between us and Mr. Bowman. On August 1, 2000, we granted to an outside consultant for services, options to purchase 25,000 shares of common stock at an exercise price of $0.375. We recorded, pursuant to SFAS 123, a consulting expense of $8,750. On August 31, 2000, we granted to Capital Alert Ltd. a five-year option to purchase 2,500,000 shares of common stock at the following exercise prices per share: 500,000 at $0.375; 500,000 at $0.45; 1,000,000 at $1.00; and 500,000 at $1.25. (Note 6) Also on August 31, 2000, we granted to a new board member a five-year option to purchase 150,000 shares of common stock at an exercise price of $0.375 per share (Note 6). Pursuant to FIN 44 we did not record any compensation expense related to the granting of these options due to the fact that the grant price was greater than the market value of our common stock on the date of grant. On September 6, 2000, we granted to First Pacific Consulting Group, Inc. a three-year option to purchase 500,000 shares of common stock at an exercise price of $0.375 per share. (Note 6) NOTE 10 - LINE OF CREDIT On May 8, 2000, we entered into a line of credit agreement with Montecito Leasing Group, LLC ("Montecito"). Pursuant to the terms of the agreement, we obtained a $1,000,000 credit line bearing an interest rate of 10% per annum with a maturity date of November 22, 2000. This line of credit has matured and amounts borrowed were paid in full as of September 30, 2000. Concurrent with the line of credit, we granted Montecito a warrant to purchase 500,000 shares of common stock at an exercise price of $0.40 per share. 250,000 of these shares are exercisable immediately, with the other 250,000 shares exercisable when and if we have borrowed an aggregate of $1,000,000 under the line of credit. The warrant agreement also contains a cashless exercise option, registration rights and anti-dilution provisions as more fully described in the warrant agreement. The warrant expires in May 2005. The fair value of the exercisable portion of this warrant of $67,500 was recorded as a debt discount and was fully amortized during the quarter ended September 30, 2000, since the line of credit was paid in full. 14 15 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW We intend to use our PharmaPrint(TM) Process technology to develop high quality dietary supplement, functional food and pharmaceutical products from botanical sources. We believe that our PharmaPrint(TM) Process Technology represents a new paradigm in the development of therapeutic products from botanical sources. Unlike the traditional drug development process of identifying, isolating and synthesizing single bioactive molecules from plant and other sources, our core technologies were developed based on empirical data suggesting that the health benefits and safe usage of certain plant-derived therapeutics might be the result of the natural combination of multiple molecules found in the plant extract and that single molecules, in isolation, may not replicate the natural plant's effectiveness. The PharmaPrint(TM) Process technology enables us to identify, quantify and standardize the bioactives within plant sources that are believed to provide therapeutic benefits and produce products having consistent batch-to-batch quantities of these bioactives. We intend to commercialize development efforts for four distinct product lines derived from botanical sources: 1) single herbal dietary supplement products; 2) herbal dietary supplements in combination with vitamins and minerals; 3) FDA approved pharmaceuticals from plant sources and 4) functional food products based on soy or soy dietary supplements. In September 1999, we launched six combination products that were initially marketed on three websites. In the summer of 1999, we completed analysis of the Phase II study for our initial pharmaceutical product candidate, PPRT-321, a saw palmetto-derived drug that is being developed for the treatment of symptoms associated with BPH. The clinical study data demonstrated that the product was safe and appeared to improve symptoms associated with an enlarged prostate gland. We are currently devoting limited resources to our pharmaceutical program to maintain an active Saw-Palmetto Investigational New Drug Application. In the spring of 1999, we began using the PharmaPrint(TM) Process technology on soy, a product classified as both a functional food and dietary supplement. Initial results of this work were submitted in a provisional patent application. RESULTS OF OPERATIONS - THREE MONTHS ENDED DECEMBER 31, 2000 American Home Products Corporation ("AHP") accounted for substantially all sales for the three months ended December 31, 1999. The relationship with this customer was terminated during fiscal year 2000 due to significant litigation between the two parties as described below. As a result, we have no current distribution channels to market our products and have essentially ceased all revenue-generating activities. No manufacturing revenues were realized for the three months ended December 31, 2000 compared to $493,476 for the three months ended December 31, 1999. There was no costs of sales expense for the three months ended December 31, 2000 compared to $4,119,238 realized for the three months ended, December 31, 1999. 15 16 No research and development expenses were incurred for the three months ended December 31, 2000 compared to $1,237,630 for the three months ended December 31, 1999. Prior to the AHP agreement, we engaged primarily in research and development activities and reported as a development stage company. During the term of the AHP agreement, we continued research and development activities, but due to lack of revenue and the resulting shortage of funds, we have suspended such activities. In the course of business, general and administrative expenses were incurred necessary for on-going operations. In our current financial condition, senior management made such attempts as reasonable to reduce these expenses. Such expenses were $850,473 for the three months ended December 31, 2000, a $1,726,821 or 67% decrease compared to $2,577,294 for the three months ended December 31, 1999. Major components of the general and administrative expenses incurred for the three months ended December 31, 2000 include: legal fees of $297,852; wages and benefits of $182,579; equipment lease obligations of $179,497; consulting fees of $39,343; property taxes of $27,532; travel and lodging of $23,596; accounting and audit fees of $20,643; insurance of $16,458; office lease of $15,367 and other general and administrative expenses of $47,606. Stock compensation was $4,745 for the three months ended December 31, 2000 compared to $7,435 for the three months ended December 31, 1999. The decrease is due to lesser options and a lower valuation of options and warrants granted in the current period. Other income in the amount of $20,564 was recognized during the three months ended December 31, 2000 resulting from several vendor settlements. There was no such income during the three months ended December 31, 1999. We recorded a gain on sale of assets of $139,917 during the three months ended December 31, 2000. There were no such sales in the comparable period of 1999. As a result of the above factors, net loss for the three months ended December 31, 2000 was $682,643, a decrease of $6,765,478 or 91% compared to $7,448,121 for the three months ended December 31, 1999. Net loss per share available to common stockholders was four cents for the three months ended December 31, 2000 compared to a net loss per common share of fifty-three cents for the three months ended December 31, 1999. RESULTS OF OPERATIONS - NINE MONTHS ENDED DECEMBER 31, 2000 Manufacturing revenues of only $420 were realized for the nine months ended December 31, 2000 compared to $6,492,867 for the nine months ended December 31, 1999. Sales during the nine months ended December 31, 1999 were primarily attributable to AHP. Costs of sales expense for the nine months ended December 31, 2000 was $1,187,821 compared to $10,603,575 realized for the nine months ended December 31, 1999. Costs of sales incurred for the current period were primarily attributable to a write-down in inventory. Research and development expenses for the nine months ended December 31, 2000 were $36,211 compared to $6,582,289 for the nine months ended December 31, 1999. The decrease in research and development expenses is due to the suspension of these activities as previously stated. General and administrative expenses incurred were necessary for our continued operation. In our current financial condition, senior management made such attempts as reasonable to reduce these expenses. Such expenses were $2,990,611 for the nine months ended December 31, 2000, a $3,323,315 or 52% decrease compared to $6,313,926 for the nine months ended December 31, 1999. Major components of the general and administrative expenses incurred for the nine months ended 16 17 December 31, 2000 include: wages and benefits of $681,419: legal fees of $655,162; equipment lease obligations of $538,491; bad debt expense of $221,464; consulting fees of $181,592; accounting and audit fees of $127,701; insurance of $124,106; office lease of $118,845; travel and lodging of $71,992 and other general and administrative expenses of $269,839. Stock compensation was $22,986 for the nine months ended December 31, 2000 compared to $297,737 for the nine months ended December 31, 1999. This decrease is due to lesser options and a lower valuation of options and warrants granted to consultants in fiscal year 2000. We recorded a gain on sale of non-marketable equity securities of $504,000 during the nine months ended December 31, 2000. There were no such sales in the comparable period of 1999. Additionally, we recorded a gain on sale of assets of $139,917 during the nine months ended December 31, 2000. There were no such sales in the comparable period of 1999. Other income in the amount of $520,264 was recognized during the nine months ended December 31, 2000 consisting of legal and vendor settlements. There was no such income during the nine months ended December 31, 1999. As a result of the above factors, net loss for the nine months ended December 31, 2000 was $3,142,907, a decrease of $14,160,753 or 82% compared to $17,303,630 for the nine months ended December 31, 1999. Net loss per share available to common stockholders was seventeen cents for the nine months ended December 31, 2000 compared to a net loss per common share of one dollar and twenty-six cents for the nine months ended December 31, 1999. CHANGES IN FINANCIAL POSITION, LIQUIDITY AND CAPITAL RESOURCES During the nine months ended December 31, 2000 we sold common stock for proceeds of $1,394,999 (net of commissions of $105,000), invested $500,000 in a joint venture, sold non-marketable equity securities for proceeds of $283,000 and sold fixed assets for proceeds of $281,000. These transactions partially offset cash used in operating activities of $1,572,072. Cash and cash equivalents decreased $150,732 for the nine months ended December 31, 2000 and were $151,901 at December 31, 2000. For the nine months ended December 31, 1999, we realized net proceeds of $9,935,361 (net of offering costs of $64,639) from issuance of redeemable preferred stock, a pay down of debt of $4,500,000 and purchases of equipment of $1,300,000. The proceeds from issued preferred stock were offset by net cash used in operating activities of $6,301,359. For the nine months ended December 31, 1999, cash and cash equivalents decreased $1,866,862 and were $433,097 at December 31, 1999. We currently have a negative working capital position and intend to rely on proceeds from a recent capital investment, licensing fees and sales of inventory and available machinery to pay day-to-day expenses. Our Independent Auditors' qualified their opinion and expressed doubt about our ability to continue as a going concern for the consolidated balance sheets as of March 31, 2000 and the results of operations and cash flows for the year ended March 31, 2000. They stated that "the ability of the Company to continue in existence is dependent primarily upon negotiating acceptable settlement and payment terms with its significant vendors, obtaining additional debt and equity financing to fund its short-term operating expenses and to fund sales and marketing efforts for new revenue channels of distribution, successful resolution of its customer, vendor and stockholder litigation, as well as the generating of income form collaborative relationships, new partners and other new revenue distribution channels." 17 18 On May 4, 2000, we were de-listed from the NASDAQ National Market for failure to maintain the net tangible asset requirement of NASDAQ, among other requirements. The market price of our common stock is currently quoted on the NASD Over-The-Counter Bulletin Board. The de-listing may make it more difficult for us to raise capital in the public markets in the future. As of December 31, 2000 7,005 shares of our Series A were issued and outstanding. The Series A Preferred Stock has a dividend rate of six percent, payable at the time of conversion in shares of our common stock. Upon the occurrence of certain liquidation events, the holders of our Series A Preferred Stock are entitled to receive, in preference over the holders of common stock and any preferred stock ranking junior to our Series A Preferred Stock, an amount equal to the stated value plus 6% per year (pro rated for any partial year) of such stated value beginning on June 4, 1999 and ending on the date of final distribution. Our Series A Preferred Stock is also redeemable at the option of the holder if at the time of conversion we fail to issue shares of our common stock to the holders of Preferred Stock or if the registration statement registering the resale of the common stock issuable upon conversion of the Series A Preferred Stock is not effective for specified periods. As discussed in Note 7 to our Condensed Consolidated Financial Statements on page 11 of this report we are currently negotiating settlement and payment arrangements with our significant creditors. If we are unsuccessful in creating these arrangements then we will evaluate other options including, but not limited to, seeking protection from the bankruptcy court. We continue to seek to raise additional equity and/or debt capital, sell our technology or locate an appropriate merger candidate in order to pay our current liabilities, to fund current operations and to fund sales and marketing efforts for new revenue distribution channels. Our ability to raise sufficient capital and meet future capital requirements will depend on many factors, including but not limited to: the outcome of stockholder and other litigation, our ability to both reduce current amounts owed to significant vendors and pay such amounts over an extended time period, our ability to get our common stock re-listed on the NASDAQ National Market or on a national securities exchange, our ability to obtain new distribution channels to sell its products, cost and availability of key botanical extracts, cost and availability of manufacturing service contractors, ability to obtain and enforce patents, dependence on third parties for collaboration/new distribution channels, and competition. Provided that we can successfully raise capital and successfully negotiate settlement and payment arrangements with significant vendors, we believe that our capital resources will enable us to maintain reduced operations. However, no assurance can be given that sufficient capital exists for reduced operations and that additional capital, if needed, will be available when required or upon terms acceptable to us or that we will be successful in our efforts to negotiate with significant vendors. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK We are not currently directly exposed to market risks related to fluctuations in interest rates in long-term or short-term debt. Currently, and as of December 31, 2000, we have no variable interest rate loans. However, if interest rates do increase from their current levels, we may have more difficulty in obtaining debt financing than we might otherwise, and if we are successful, then the terms under which we would be able to obtain financing would be less favorable to us. 18 19 PART II -- OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS During the current fiscal year Pennie and Edmonds, LLP ("PEL"), filed a lawsuit against us for unpaid legal fees in the amount of $225,000. We contend that PEL's estimation of the fees owed to them is based upon excessive and inappropriate charges for services that are unjustified. On October 20, 2000, the parties reached an amicable settlement of this matter. On August 31, 2000, we entered into a Settlement Agreement with Applied Analytical Industries, Inc. ("AAI") pursuant to which the parties settled their respective claims that are the subject of a judicial proceeding in the New Hanover County Superior Court in the state of North Carolina and a separate arbitration proceeding. Pursuant to the Settlement Agreement, the parties agreed: o to file dismissals of each of the aforementioned legal proceeding and arbitration proceeding with prejudice; o to execute a mutual release; o that we would issue 2,200,000 shares of our common stock to AAI in settlement and in exchange for AAI's release of certain specific claims raised in the legal proceeding and arbitration proceeding by AAI which total an aggregate of approximately $5.5 million (the "AAI Claims"). These shares of common stock are "restricted stock" as that term is defined under Rule 144 promulgated under the Securities Act of 1933, as amended (the "Securities Act") and may only be resold following AAI's delivery to us of an opinion of legal counsel to the effect that a public sale or transfer of such shares may be made without registration under the Securities Act and is in compliance with all applicable federal and state rules and regulations. If, within 270 days following receipt by AAI of our common stock issued in exchange for its release of the AAI Claims, we have an "Act of Bankruptcy" (as defined in the Settlement Agreement), then: o we will be required to reacquire all shares of our common stock which are still owned by AAI as of the date of such Act of Bankruptcy at a per share cash price of $1.37; and o AAI's release of the AAI Claims shall become null and void with respect to an amount equal to $3 million less the amount of any payments which we make to AAI to reacquire our shares of common stock and the gross proceeds received by AAI from its sale of the shares of our common stock through the date of such Act of Bankruptcy. On December 13, 2000, we consummated this settlement with AAI and issued 2,200,000 shares of our common stock to AAI. On October 13, 2000, IOS Capital, Inc. filed an action against us in the Superior Court of the State of California, County or Orange, alleging breach of contract in relation to office equipment leases. The complaint seeks damages in the amount of $71,512.20. We are still in process of evaluating this claim and believe we have defenses against this allegation. 19 20 ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS In December 2000, we issued 2,200,000 shares of our common stock to AAI in settlement and in exchange for AAI's release of the AAI Claims. As the Secretary of the State of North Carolina approved the terms of this settlement, these shares represent securities exempt from the registration requirements of the Securities Act of 1933, as amended, pursuant to Section 3(a)(10) of such act. 20 21 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K The following exhibits are included herein: None (a) We did not file any reports on Form 8-K during the fiscal quarter ended December 31, 2000. 21 22 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. PHARMAPRINT INC. By: /s/ STEVEN A. BOWMAN ---------------------------------- Steven A. Bowman Chief Executive Officer, Principal Accounting Officer Date: February 13, 2001 22

PHARMAPRINT INC 10-Q