- -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- FORM 10-K SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ /X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 1999 OR / / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 COMMISSION FILE NUMBER 0-19871 ------------------------ CYTOTHERAPEUTICS, INC. (Exact name of Registrant as specified in its charter) DELAWARE 94-3078125 (State or other jurisdiction (I.R.S. Employer Identification No.) of incorporation or organization) 525 DEL REY AVENUE, SUITE C, SUNNYVALE, CA 94086 (Address of principal offices) (zip code) 701 GEORGE WASHINGTON HIGHWAY, LINCOLN, RI 02865 (Former address of principal executive offices) (zip code) Registrant's telephone number, including area code: (408) 731-8670 Securities registered pursuant to Section 12(b) of the Act: NONE Securities registered pursuant to Section 12(g) of the Act: COMMON STOCK, $.01 PAR VALUE JUNIOR PREFERRED STOCK PURCHASE RIGHTS Title of class Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes /X/ No / / Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. / / Aggregate market value of Common Stock held by non-affiliates at March 20, 2000: $140,213,189.22. Inclusion of shares held beneficially by any person should not be construed to indicate that such person possesses the power, direct or indirect, to direct or cause the direction of management policies of the registrant, or that such person is controlled by or under common control with the Registrant. Common stock outstanding at March 20, 2000: 19,506,565 shares. DOCUMENTS INCORPORATED BY REFERENCE Portions of the Registrant's Definitive Proxy Statement for its 2000 Annual Meeting of Shareholders are incorporated by reference into Part III of this Report. - -------------------------------------------------------------------------------- - --------------------------------------------------------------------------------
FORWARD LOOKING STATEMENTS This report contains certain forward-looking statements regarding, among other things, the Company's expected results of operations, the progress of the Company's product development and clinical programs and of its collaborations, the need for, and timing of, additional capital and capital expenditures, strategic partner collaboration prospects, costs of manufacture of products, the protection of and the need for additional intellectual property rights, regulatory matters, the need for additional facilities and potential market opportunities. The Company's actual results may vary materially from those contained in such forward-looking statements because of risks to which the Company is subject, such as risks of lack of available funding, failure of the Company to develop strategic partnerships, delays in research, adverse results from the Company's research or development programs, obsolescence of the Company's technology, competition from third parties, termination of the Company's collaborations, intellectual property rights of third parties, unavailability of needed raw materials, failure of the Company or its collaborators to perform, litigation, regulatory restrictions, and other risks to which the Company is subject. SEE "CAUTIONARY FACTORS RELEVANT TO FORWARD-LOOKING INFORMATION" FILED HEREWITH AS EXHIBIT 99 AND INCORPORATED HEREIN BY REFERENCE. 2
BUSINESS THE COMPANY CytoTherapeutics, Inc. ("CytoTherapeutics" or the "Company") is a leader in the development of novel stem cell therapies designed to treat human diseases and disorders. In 1999 the Company embarked on a major restructuring of its research and development operations focusing its efforts on the discovery, development and commercialization of its proprietary platform stem cell technologies, while abandoning and divesting itself of its development programs that focused on encapsulated cell therapies. The Company's stem cell therapies are directed to and based on the transplantation of human stem cells to repair or repopulate damaged or defective neural, pancreatic or liver tissue that has been damaged or lost as a result of disease or injury. The Company believes that it has achieved a leadership position in the neural stem cell therapy area with its advancements in its research and development program for the isolation, purification and transplantation of neural stem/progenitor cells. The Company has also made advancements in its research programs to discover the stem cells of the pancreas and of the liver, and has established a broad intellectual property position with respect to stem/progenitor cell therapies in all three areas through its own patented discoveries and exclusive licensing arrangements. CytoTherapeutics, Inc. was incorporated in Delaware in 1988 and currently has one subsidiary, StemCells California, Inc., a California corporation acquired by the Company in September 1997. THE UNMET NEED Many degenerative diseases result from organ failure where organs cannot be transplanted to cure the disease (e.g., neurodegenerative diseases and pancreatic failure) or where there are constraints due to a short supply of organs for transplant (e.g., liver). According to figures from associations for the various diseases and government sources, these conditions, many of which have ineffective treatments or none at all, affect more than 18 million people in the United States and account for more than $160 billion annually in health care costs. The Company believes its stem cell technologies may provide the basis for effective therapies resulting in the replacement of certain lost or damaged cells or regeneration of organs damaged by disease, thus potentially returning patients to productive lives and significantly reducing health care costs in these segments. Thus, if the Company can successfully develop and commercialize its platform stem cell technologies, it believes that the resulting therapies may provide the basis for addressing a number of degenerative diseases with significant unmet medical needs. CELL THERAPY BACKGROUND ROLE OF CELLS IN HUMAN HEALTH AND TRADITIONAL THERAPIES In healthy individuals, cells maintain normal physiological function by secreting or metabolizing substances, such as sugars, amino acids, neurotransmitters and hormones, which are essential to life. When cells are damaged or destroyed, they no longer produce, metabolize or accurately regulate critical molecular substances required by the body. For example, the progressive decline common to many neurodegenerative diseases, such as Parkinson's disease, Alzheimer's disease and amyotrophic lateral sclerosis ("ALS"), is associated with impaired cellular function. Recent advances in medical science have identified cell loss or impaired cellular function as leading causes of degenerative diseases. Biotechnology advances have led to the discovery of a number of specific proteins that, in certain diseases or disorders, are inadequately produced by the body's own cells. However, while these proteins overcome some of the limitations of traditional pharmaceuticals, such as lack of specificity, there is no existing technology that can deliver such proteins at the precise sites of action and in the appropriate physiological quantities or for the duration required to cure the degenerative condition. Cells do this naturally. As a result, investigators have considered using cell transplantation therapy to replace vital cells that are failing by implanting cells that are capable of replacing or regenerating new cells 3
to replace those damaged or destroyed due to the degenerative condition. Where there has been irreversible damage or failure of vital cells, transplantation of cells offers the possibility of replacing the functions of these failed cells, thus potentially restoring health. THE POTENTIAL OF STEM CELL-BASED THERAPY PLATFORM Stem cell-based therapy--the use of stem or progenitor cells to treat diseases--has the potential to provide a broad therapeutic approach comparable in importance to traditional pharmaceuticals and, more recently, to genetically engineered biologics. Stem cells are rare cells and are only available in limited supply, whether from the patients themselves (autologous) or from donors (allogeneic). Furthermore, since autologous cells are obtained from the same person who will receive them, they may be abnormal if the patient is ill and often can only be obtained through significant surgical procedures. The challenge, therefore, has been two-fold: first, to identify the stem cells and then, to create techniques and processes that can be used to expand these rare cells in sufficient quantities for effective auto-transplants, or to establish a bank of normal human stem or progenitor cells that can be transplanted into a number of individuals and which will then integrate with the endogenous cells to repair or replace damaged cells or tissue. The Company has previously shown that it has a process to reproducibly grow normal human brain stem/progenitor cells based on a proprietary IN VITRO culture system in chemically defined media. The Company believes this is the first reproducible process for growing normal human neural stem cells. More recently, the Company has identified the human neural stem cell by cell surface markers, allowing it to purify them and eliminate other unwanted cell types. Together these discoveries enable the Company to purify normal human neural stem cells and to expand the numbers of these cells in culture. Because the cells have not been genetically modified, they may be especially suitable for transplantation and may provide a safer and more effective alternative to therapies that are based on cells derived from cancer cells, from cells modified by a cancer gene to make them grow, or from an unpurified mixture of many different cell types. Thus, CytoTherapeutics believes its proprietary stem cell technologies may provide a way to replace specific cells that have been damaged or destroyed. This approach may be necessary when cell replacement requires repair of cellular architecture or direct cell-to-cell contact. Such replacement with stem cells may allow for the restoration of function through the replacement of normal cells where this has not been possible in the past. The Company's recent advances in its research have shown that neuronal stem cells transplanted into hosts successfully engraft, migrate, and differentiate to produce mature neurons and glial cells. Because the stem cell is the pivotal cell in an organ that produces all the functional mature cell types, the Company believes this cell serves as a platform for five major areas of regenerative medicine and biotechnology: 1) tissue repair and replacement, 2) correction of genetic disorders, 3) gene discovery, 4) drug discovery and screening, and 5) genomics. The company is pursuing key alliances in each of these areas. CYTOTHERAPEUTICS' PLATFORM STEM CELL TECHNOLOGY Stem cells may be functionally characterized as cells whose progeny include both daughter stem cells (by self-renewal) as well as more differentiated cells. Stem cells exist in humans as a self-renewing source of cells needed in the various systems of the body (e.g., hematopoietic; neural, both central and peripheral; hepatic; pancreatic endocrine; skin; and mesenchymal stem cells). These rare, self-renewing stem cells are present in many tissues and are responsible for organ regeneration after injury or during normal cell replacement. The Company believes that these cells can form the basis of therapies that have the potential to replace specific subsets of cells that have been injured or lost through disease, injury or genetic defect. The Company is seeking to identify, isolate and find methods of expanding a variety of different human stem cells for use in treatment of a variety of human diseases and disorders. The Company believes that there is a finite number of stem cells in the human system and that it is possible for the person or entity that first identifies and isolates a given stem cell culture to obtain patent protection for such cells. 4
The Company's strategy is to be the first to identify, isolate and patent multiple types of human stem/ progenitor cells with commercial importance. The Company's portfolio of issued patents includes a method of culturing normal human neural stem/progenitor cells in its proprietary chemically defined medium, and its published studies show that these cultured and expanded cells give rise to all three major cell types of the central nervous system (i.e., neurons, astrocytes, and oligodendrocytes). Also, a separate study sponsored by the Company using these cultured stem/progenitor cells showed that the cells are capable of transplantation into hosts, with successful engraftment, migration and differentiation to produce neurons and glial cells. More recently, the Company announced the results of a new study that showed that human brain stem cells can be successfully isolated by cell surface markers present on freshly obtained brain cells. The Company believes this is the first reproducible process for isolating highly purified populations of well-characterized normal human neural stem cells, and has applied for a composition of matter patent. Because the cells are highly purified and have not been genetically modified, they may be especially suitable for transplantation and may provide a safer and more effective alternative to therapies that are based on cells derived from cancer cells, or from cells modified by a cancer gene to make them grow, or from an unpurified mixture of many different cell types. The Company has also filed an improved process patent for the growth and expansion of these purified noral human neural cells. Neurological disorders such as Parkinson's disease, epilepsy and Alzheimer's disease, and the effects of stroke, affect a significant portion of the U.S. population and currently have no effective long-term therapies. The Company believes that therapies based on its process for identifying, isolating and culturing neural stem/progenitor cells may be useful in treating such diseases. The Company is continuing its research into, and has initiated the development of, its human neural stem/progenitor cell-based therapies for these diseases. The Company continues to advance its research programs to discover the human pancreatic islet stem cell and the liver stem cell. Pancreatic islet stem cells may be useful in the treatment of Type 1 diabetes and those cases of Type 2 diabetes where insulin secretion is defective. Liver stem cells may be useful in the treatment of diseases such as hepatitis, cirrhosis of the liver and liver cancer. There can be no assurance that the Company will successfully develop its stem cell therapies. Even in the event that such therapies are successfully developed, there can be no assurances that they will achieve the benefits described above, that these therapies will achieve benefits therapeutically equal to or better than the standard of treatment at time of testing, or that the advantages of such technology will be greater than the potential disadvantages. EXPECTED ADVANTAGES OF THE COMPANY'S STEM CELL TECHNOLOGY NO OTHER TREATMENT To the best of the Company's knowledge, no one has developed an FDA-approved method for replacing lost or damaged tissues from the human nervous system. Replacement of tissues in other areas of the human body is limited to those few areas where autologous transplantation is now feasible. In a few additional areas, allogeneic transplantation is now used, but is limited by the scarcity of organs available through donation. The Company believes that its stem cell technologies have the potential to reestablish function in at least some of the patients who have suffered the losses referred to above. NATURE OF REPLACEMENT CELLS The Company believes that stem cells can duplicate themselves ("self-renew") and differentiate into the multiple kinds of cells that are commonly lost in various diseases, including neurodegenerative diseases. Transplantated stem cells may be able to migrate limited distances to the proper location within the body, to expand and differentiate and to replace damaged or defective cells, facilitating the return to 5
proper function. The Company believes that such replacement of damaged or defective cells by functional cells is unlikely to be achieved with any other treatment. RESEARCH EFFORTS AND PRODUCT DEVELOPMENT PROGRAMS OVERVIEW OF RESEARCH AND PRODUCT DEVELOPMENT STRATEGY The Company has devoted substantial resources to its research programs to isolate and develop a series of stem/progenitor cells that the Company believes can serve as a basis for replacing diseased or injured cells. Stem cells are rare, undifferentiated cells that can both self-renew and produce differentiated (functionally specialized) cell types that constitute the various tissues or organ system of the human body. The focus of the Company's efforts to date have been directed at methods to identify, isolate and culture a variety of stem/progenitor cells of the human nervous system, liver and pancreas and to develop therapies utilizing these stem/progenitor cells. The following table lists the potential therapeutic indications for and current status of CytoTherapeutics' primary research and product development programs and projects and is qualified in its entirety by reference to the more detailed descriptions of such programs and projects appearing elsewhere in this Report. The Company continually evaluates its research and product development efforts and reallocates resources among existing programs or to new programs in light of experimental results, commercial potential, availability of third party funding, likelihood of near-term efficacy, collaboration success or significant technology enhancement, as well as other factors. The Company's research and product development programs are at relatively early stages of development and will require substantial resources to commercialize. There can be no assurance that the Company will successfully develop any product or obtain regulatory approvals, enter clinical trials, achieve other milestones or commercialize any products in accordance with currently anticipated timetables, or at all. RESEARCH AND PRODUCT DEVELOPMENT PROGRAMS PROGRAM DESCRIPTION STAGE/STATUS(1) HUMAN NEURAL STEM CELL PRECLINICAL Repair or replace damaged CNS - IN VITRO ability to initiate and expand stem tissue (including retinal cell-containing human neural cultures and differentiation degeneration and the results into three types of CNS cells of certain genetic disorders) - Direct isolation of neurosphere-initiating stem cells from brain - IN VIVO demonstration of proper differentiation and engraftment of human neural cell cultures containing CNS stem cells in rodent CNS PANCREATIC ISLET STEM CELL RESEARCH Repair or replace damaged - Identified cell surface marker used to identify, isolate pancreatic islet tissue and culture pancreatic islet stem cells - Commencing small animal testing LIVER STEM CELL RESEARCH Repair or replace damaged Discovery program to identify, isolate and patent human stem liver tissue (including the cells for the liver results of certain metabolic genetic diseases) (1) "Research" refers to early stage research and product development activities IN VITRO, including the selection and characterization of product candidates for preclinical testing. "Preclinical" refers to further testing of a defined product candidate IN VITRO and in animals prior to clinical studies. 6
RESEARCH AND DEVELOPMENT PROGRAMS The Company's portfolio of stem cell technology results from the Company's exclusive licensing of neural stem/progenitor cell technology and other technologies applicable to the pancreas and liver, the Company's own research and development efforts to date, and the acquisition of StemCells, Inc. (now renamed StemCells California, Inc.) in 1997. The Company, through its subsidiary, StemCells California, Inc., has been advancing its program directed to the discovery, isolation and culturing of various stem cells from the human body. The Company believes that therapies using stem cells represent a fundamentally new approach to the treatment of diseases caused by lost or damaged tissue. The Company has assembled an experienced team of scientists and scientific advisors to consult with and advise the Company's scientists on their continuing research and development of stem/progenitor cells. This team includes, among others, Irving L. Weissman, M.D., of Stanford University, Fred H. Gage, Ph.D., of The Salk Institute and David Anderson, Ph.D., of the California Institute of Technology. NEURAL STEM/PROGENITOR CELL RESEARCH AND DEVELOPMENT PROGRAM The Company began its work with neural stem/progenitor cultures in collaboration with NeuroSpheres, Ltd., in 1992. The Company believes that NeuroSpheres was the first to invent these cultures and NeuroSpheres has filed patent applications on its inventions relating to these cultures. The Company is the exclusive, worldwide licensee from NeuroSpheres to such inventions for transplantation in the human body as embodied in these patents. See "License Agreements and Sponsored Research Agreements -NeuroSpheres, Ltd." In December 1998, the Company announced that the US Patent and Trademark Office had granted patent No. 5,851,832, covering the Company's methods for the human neural cell cultures containing central nervous system stem cells, for compositions of human neural cell cultures expanded by these methods, and for use of these cultures in, e.g., human transplantation and remyelination. These human neural stem/progenitor cell cultures may be useful for repairing or replacing damaged central nervous system tissue, including the brain and the spinal cord. Previously, in 1997, Company scientists had invented a reproducible method for isolating and growing human neural stem/progenitor cultures. In preclinical IN-VITRO and early IN-VIVO studies, the Company demonstrated that these cells differentiate into all three of the cell types of the CNS. Based on these results, the Company believes that these cells may form the basis for replacement of cells lost in certain degenerative diseases. The Company is continuing research into, and has initiated the development of, its human neural stem/progenitor cell cultures. The Company has initiated the cultures and demonstrated that these cultures can be expanded for a number of generations IN VITRO in chemically defined media. In collaboration with the Company, Dr. Anders Bjorklund has shown that cells from these cultures can be successfully engrafted into the brains of rodents where they migrated and differentiated into the appropriate cell lineages for the site of the brain into which they were transplanted. In 1998, the Company expanded its preclinical efforts in this area by initiating programs aimed at the discovery and use of specific monoclonal antibodies to facilitate identification and isolation of neural and other stem and progenitor cells or their differentiated progeny. Also in 1998, Company researchers devised methods to advance the IN-VITRO culture and passage of human neural stem cells that have resulted in a 100-fold increase in cell production of these neural stem/progenitor cells after 6 passages. The Company is expanding its preclinical efforts toward the goal of selecting the proper indications to pursue. In October 1999, the US Patent and Trademark Office granted patent number 5,968,829 entitled "Human CNS Neural Stem Cells," covering the Company's composition of matter patent for human CNS neural stem cells, and also allowed a separate patent application for its media for culturing human CNS neural stem cells. Also in 1999, the Company announced the filing of a US patent application covering its proprietary process for the direct isolation of normal human neural stem cells based on the cell surface markers found to be present on freshly obtained brain cells. Since the filing of this patent application, Company researchers have completed a study designed to identify, isolate and culture human neural stem 7
cells utilizing this proprietary process. In November 1999, the Company announced the study's first results: using its proprietary cell surface markers, Company researchers had succeeded in identifying, isolating and purifying human neural stem cells from brain tissue and have expanded the number of these cells in culture. The Company believes that this is the first study to show a reproducible process for isolating highly purified populations of well-characterized normal human neural stem cells. Because the cells are normal human neural stem cells and have not been genetically modified, they may be especially suitable for transplantation and may provide a safer and more effective alternative to therapies that are based on cells derived from cancer cells or from an unpurified mix of many different cell types. In January 2000, the Company reported what it regards as an even more important result: that, in long term animal studies, its researchers were able to take these purified and expanded stem cells and transplant them into intact brain hosts, where they engraft and grow into neuronal and glial cells. During the course of the study, the transplanted human neural stem cells survived for as long as seven months and had migrated to specific functional domains of the host brain, with no sign of tumor formation or adverse effects on the animal recipients; moreover, the cells were still dividing. These findings show that the neural stem cells isolated and cultured utilizing the Company's proprietary processes when transplanted adopt the characteristics of the host brain and act like normal stem cells, and suggest a continual replenishment of normal human neural cells. Human neural stem/progenitor cells harvested and purified using the Company's proprietary processes may be useful for creating therapies for the treatment of neurodegenerative diseases such as Parkinson's and Alzheimer's disease, and other neurological conditions that affect the central nervous system, such as stroke and epilepsy--diseases and conditions that affect more than 5 million people in the United States and for which no effective long-term therapies are currently available. The Company believes that the ability to isolate human brain stem cells directly from fresh, uncultured tissue is important for other reasons as well. First, it provides a source of genetically unmodified, normal stem cells for transplantation, uncontaminated by other unwanted or diseased cell types. Second, it opens the way to better understanding the properties of these cells and how they might be manipulated in order to treat specific diseases. For example, stem cell-derived neural cultures can be genetically modified to secrete needed proteins for the brain. Finally, the efficient engraftment of these non-transformed normal human stem cells into host brains means that the cell product can be tested, in animal models, for its ability to correct deficiencies caused by various human neurological diseases. This technology could also provide a unique animal model for the testing of drugs that act on human brain cells. The Company's neural stem/progenitor cell program is at an early stage and there can be no assurance that it will result in any commercial product. PANCREATIC AND LIVER STEM CELLS DISCOVERY RESEARCH PROGRAMS The Company's discovery program directed to the identification, isolation and culturing of the pancreatic stem/progenitor cell is currently being conducted by Nora Sarvetnick, Ph.D., of The Scripps Research Institute, in collaboration with senior researchers from the Company. According to diabetes and juvenile diabetes foundations, between 800,000 and 1.5 million Americans have Type 1 diabetes (often called "juvenile diabetes" and most commonly diagnosed in childhood); 30,000 new patients are diagnosed with the disease every year. It is a costly, serious, lifelong condition, requiring constant attention and insulin injections every day for survival. About 15 million other people in the United States have Type 2 diabetes mellitus, which is also a chronic and potentially fatal condition; more than 700,000 new patients are diagnosed annually. Diabetes is widely recognized as one of the leading causes of death and disability in the United States and is associated with long term complications that affect almost every major part of the body. Diabetes-related treatment costs exceed $100 billion annually. In 1998 the Company obtained an exclusive, worldwide license from The Scripps Research Institute to novel technology, developed by Dr. Sarvetnick as a result of the research sponsored by the Company, which may facilitate the identification and isolation of pancreatic stem/progenitor cells by identifying specific cell surface markers unique to 8
these cells. The Company believes this may lead to the development of cell-based treatments for Type 1 diabetes and that portion of Type 2 diabetes characterized by defective secretion of insulin. In 1999, advances in the research sponsored by the Company resulted in the Company's obtaining additional exclusive, worldwide licenses from The Scripps Research Institute to novel cell surface markers identified by Dr. Sarvetnick and her research team as being unique to the pancreatic islet stem cell for which the Company has now filed a US patent application. Company researchers, in collaboration with Dr. Sarvetnick, continue to advance their discovery program directed to the identification, isolation and culturing of the pancreatic stem/progenitor cell utilizing this technology. The Company initiated its discovery work for the liver stem/progenitor cell through a sponsored research agreement with Markus Grompe, Ph.D., of Oregon Health Sciences University. Dr. Grompe's work focuses on the discovery and development of a suitable method for identifying and assessing liver stem/progenitor cells for use in transplantation. Approximately 1 in 10 Americans suffers from diseases and disorders of the liver for which there are currently no effective, long-term treatments. In 1998, Company researchers continued to advance methods for establishing enriched cell populations suitable for transplantation in preclinical animal models for evaluating these methods. The Company is focused on discovering and utilizing its proprietary methods to identify, isolate and culture liver stem/progenitor cells and to evaluate these cells in preclinical animal models. In 1999, the researchers devised a culture assay for facilitating the identification of a liver stem/progenitor cell. In addition to supporting the growth of an early human liver stem/progenitor cell, it is also possible to infect this culture with human hepatitis virus, so it provides a valuable system for study of the virus. This technology could also provide a unique animal model for the testing of drugs that act on or are metabolized by human liver cells. An important element of the Company's stem cell discovery program is the further development of intellectual property positions with respect to stem and progenitor cells. The Company has also obtained rights to certain inventions relating to stem cells from, and is conducting stem cell related research at, several academic institutions. See "License Agreement and Sponsored Research Agreements." The Company expects to expand its search for new stem/progenitor cells and to seek to acquire rights to additional inventions relating to stem/progenitor cells from third parties. The Company's pancreatic and liver stem/progenitor cells programs are at an early stage and there can be no assurance that they will result in any commercial products. WIND-DOWN OF ENCAPSULATED CELL TECHNOLOGY RESEARCH AND DEVELOPMENT PROGRAMS Until mid-1999, CytoTherapeutics engaged in research and development in encapsulated cell therapy technology ("ECT"), including a pain control program funded by Astra, and later AstraZeneca Group plc. The results from the 85-patient double-blind, placebo-controlled trial of CytoTherapeutics' encapsulated bovine cell implant for the treatment of severe, chronic pain in cancer patients did not, however, meet the criteria AstraZeneca had established for continuing trials for the therapy. In June 1999, AstraZeneca terminated the collaboration. Consequently, in July 1999, the Company announced plans for the restructuring of its research operations to abandon all further ECT research and to concentrate its resources on the research and development of its proprietary stem cell technology platform. The Company reduced its workforce by approximately 68 full-time employees who had been focused on ECT programs, wound down its research and manufacturing operations in Lincoln, Rhode Island, and relocated its remaining research and development activities, and its corporate headquarters, to the facilities of its wholly owned subsidiary, StemCells California, Inc., in Sunnyvale, California. The Company is actively marketing the quarters it had occupied in Rhode Island, seeking to sublease, assign or sell its interest in its former corporate headquarters building and its pilot manufacturing and cell processing facility there. (SEE ALSO "LIQUIDITY AND CAPITAL RESOURCES" UNDER MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.) 9
In December 1999, the Company sold its intellectual property assets related to its ECT to Neurotech S.A., a privately held French company, in exchange for a payment of $3 million, royalties on future product sales, and a portion of certain revenues Neurotech may in the future receive from third parties. The Company retained certain non-exclusive rights to use the ECT in combination with its proprietary stem cell technology, and in the field of vaccines for prevention and treatment of infectious diseases. (SEE ALSO "LIQUIDITY AND CAPITAL RESOURCES" UNDER MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS AND NOTE 2--"PATENT COSTS" TO THE ACCOMPANYING FINANCIAL STATEMENTS.) In a related development, by mutual consent the Company and the Advanced Technology Program of the National Institute of Standards and Technology terminated two grants previously awarded to the Company for its encapsulated cell therapy and stem cell-related research. The encapsulated cell therapy grant was obviated by the sale of the technology to Neurotech. The funding agency has invited CytoTherapeutics to resubmit a proposal consistent with the new directions the Company is taking in its research and development of its platform stem cell technology. SUBSIDIARY STEMCELLS CALIFORNIA, INC. On September 26, 1997, CytoTherapeutics acquired by merger StemCells, Inc. (now StemCells California, Inc.), a California corporation ("StemCells"). CytoTherapeutics acquired StemCells in exchange for 1,320,691 shares of the Company's common stock and options and warrants for the purchase of 259,296 common shares. Simultaneously with the acquisition, Richard M. Rose, M.D., President of StemCells, became President, Chief Executive Officer and a director of CytoTherapeutics, and Irving L. Weissman, M.D., a founder of StemCells, became a director of CytoTherapeutics. The Company, as the sole stockholder of StemCells, voted on February 23, 2000, to amend the Certificate of Incorporation of StemCells, Inc., in order to change its name to StemCells California, Inc. The Company's current stem cell research is being conducted pursuant to the provisions of an agreement between CytoTherapeutics and Drs. Weissman and Gage providing for a two-year research plan. If the goals of the research plan are accomplished, the stem cell research will continue to be funded under an extension of such Research Plan approved by a Research Committee consisting of two persons chosen by Drs. Weissman and Gage, two persons chosen by the Company and a fifth member appointed by Drs. Weissman and Gage, subject to the reasonable approval of the Company. Increases in stem cell research funding of not more than 25% a year approved by the Committee will be funded by CytoTherapeutics (although CytoTherapeutics also retains the right to fund such programs at a higher level) for as long as the goals of the Research Plan are being met, provided, however, that CytoTherapeutics will retain the option of (i) ceasing or reducing neural stem research even if all Research Plan goals are being met by accelerating the vesting of all still-achievable performance-based options granted to Drs. Weissman and Gage and other scientists and (ii) ceasing or reducing non-neural stem cell research even if all Research Plan goals are being met by affording StemCells' scientific founders the opportunity to continue development of the non-neural stem research by licensing the technology related to such research to them in exchange for a payment to CytoTherapeutics equal to all funding for such research, plus royalty payments. CORPORATE COLLABORATIONS ASTRAZENECA PLC In March 1995, CytoTherapeutics signed a collaborative research and development agreement with Astra (later AstraZeneca plc) for the development and marketing of certain encapsulated-cell products to treat pain. Under the agreement, the Company conducted research and development and received approximately $42 million, including research and development funding, through June 1999 when, as noted above (SEE WIND-DOWN OF ENCAPSULATED CELL THERAPY RESEARCH AND DEVELOPMENT PROGRAMS), Astra exercised its right to terminate the agreement. (SEE ALSO LIQUIDITY AND CAPITAL RESOURCES UNDER MANAGEMENT'S 10
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS AND NOTE 15--"RESEARCH AGREEMENTS" TO THE ACCOMPANYING FINANCIAL STATEMENTS.) MODEX THERAPEUTIQUES SA In July 1996, CytoTherapeutics, together with certain founding scientists, established Modex Therapeutiques SA ("Modex"), a Swiss biotherapeutics company, to pursue extensions of CytoTherapeutics' broad-based, encapsulated-cell technology for certain applications outside the central nervous system. Modex, headquartered in Lausanne, Switzerland, was formed to integrate technologies developed at three universities in Lausanne (the University of Lausanne, the Centre Hospitalier Universitaire Vaudois, and the Ecole Polytechnique Federale de Lausanne), at the Albert Einstein College of Medicine of Yeshiva University in New York City, and at CytoTherapeutics, to develop products to treat non-CNS diseases such as diabetes, obesity and anemia. In October 1997, the Company completed a series of transactions that resulted in the establishment of Modex as an independent company in which CytoTherapeutics has an equity position of approximately 17%. The pre-existing Cross License Agreement between the Company and Modex, which concerned encapsulated cell technology, was assigned to Neurotech, S.A. in December 1999 as part of the divestiture of the Company's ECT. SIGNAL PHARMACEUTICALS, INC. In December 1997, StemCells California, Inc. entered into two license agreements with Signal Pharmaceuticals, Inc. under which each party licensed to the other certain patent rights and biological materials for use in defined fields. An initial disagreement as to the interpretation of the rights licensed to StemCells California, Inc. was resolved by the parties, and the agreements are operating in accordance with their terms. GENENTECH, INC. In November 1996, the Company signed collaborative development and licensing agreements with Genentech relating to the development of products using the Company's encapsulated cell therapy technology to deliver certain of Genentech's proprietary growth factors to treat Parkinson's disease, Huntington's disease and amyotrophic lateral sclerosis ("ALS"). Under the terms of the agreement for Parkinson's disease, Genentech had the right, in its discretion, to terminate the Parkinson's program at specified milestones in the program, and on May 21, 1998, Genentech exercised its right to terminate the Parkinson's collaboration. Pursuant to the terms of the Parkinson's Agreement, upon termination Genentech demanded that the Company redeem, at a price of $10.01 per share, certain shares of the Company's redeemable Common Stock held by Genentech, in an amount equal to the amount of funds invested by Genentech to acquire such stock less the amount expended by the Company on the terminated program, a difference of approximately $3.1 million. In March 2000, the Company announced a settlement of this claim at no cost to the Company. The Huntington's disease and ALS agreements have been terminated as well. (FOR FURTHER DETAILS AND INFORMATION REGARDING THIS SETTLEMENT, SEE LIQUIDITY AND CAPITAL RESOURCES UNDER MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.) LICENSE AGREEMENTS AND SPONSORED RESEARCH AGREEMENTS NEUROSPHERES, LTD. In March 1994, the Company entered into a Contract Research and License Agreement with NeuroSpheres, Ltd. Under the agreement, the Company obtained from NeuroSpheres an exclusive, worldwide, royalty-bearing license for the commercial development and use of certain neural stem cells for transplantation to treat human disease. In 1997, the Company settled a dispute that arose between it and NeuroSpheres under the agreement. Pursuant to the settlement, the Company obtained an exclusive 11
patent license from NeuroSpheres in the field of transplantation, subject to a limited right of NeuroSpheres to purchase a nonexclusive license from the Company. Such right was not exercised by Neurospheres and expired in April 1998. The Company and NeuroSpheres have no further research obligations to one another. The Company has developed additional intellectual property relating to the subject matter of the license. STATE OF RHODE ISLAND In 1989, the Company entered into an agreement with the State of Rhode Island pursuant to which the Rhode Island Partnership for Science and Technology ("RIPSAT"), an agency of the State, reimbursed the Company $1,172,000 for certain research activities the Company funded at Brown University. Under the terms of this grant, the Company is obligated to pay royalties ranging from three to five percent of revenues from products developed under the agreement, to a maximum of $1,758,000. In July 1999, when the Company announced its plans to proceed no further with its ECT research, wind down its operations in Rhode Island and relocate its research activities and corporate headquarters to Sunnyvale, California, RIPSAT alleged that the Company was in default under this funding agreement. While the Company believed that it was not in default, in March 2000, the Company entered into a settlement of the claim. (FOR FURTHER DETAILS AND INFORMATION REGARDING THIS SETTLEMENT, SEE LIQUIDITY AND CAPITAL RESOURCES UNDER MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.) ACADEMIC RELATIONSHIPS The Company and its wholly owned subsidiary, StemCells California, Inc., have entered into a number of research and/or license agreements with academic organizations. These research agreements provide that the Company will fund certain research costs and, in return, will have a license or an option for a license to the resulting inventions. Under these license agreements, the Company and/or StemCells California, Inc. will typically be subject to obligations of due diligence and the requirement to pay royalties on products that use patented technology licensed under such agreements. CYTOTHERAPEUTICS, INC. The Company has historically expended substantial sums to support academic research programs. However, with the decision by the Company to abandon its further research and development of its encapsulated cell therapy technology the Company terminated its academic collaborations with Brown University and Dr. Patrick Aebischer at the Centre Hospitalier Universitaire Vaudois in Switzerland. Research and development expenses paid in connection with these collaborations aggregated approximately $156,600, $701,000 and $1,326,000 for the years ended December 31, 1999, 1998, and 1997, respectively. The Company also has a number of collaborative relationships with other academic institutions and academic researchers. STEMCELLS CALIFORNIA, INC. StemCells California, Inc. has entered into a number of research agreements with academic institutions. Under Sponsored Research Agreements with The Scripps Research Institute and Oregon Health Sciences University, StemCells California, Inc. funded certain research (in the amounts of approximately $77,000 and $28,000 in 1997, $307,000 and $251,000 in 1998, and $309,000 and $172,000 in 1999, for Scripps and Oregon respectively) in return for licenses or options to license the inventions resulting from such research. StemCells California, Inc. has also entered into license agreements with the California Institute of Technology. All of these agreements relate largely to stem or progenitor cells and or to processes and methods for the isolation, identification, expansion or culturing of stem or progenitor cells. 12
MANUFACTURING The keys to successful commercialization of neural stem/progenitor cells are expected to include efficacy, safety, and consistency of the product and economy of the process. The Company expects to address these issues by appropriate testing and banking representative vials of large-scale cultures. Commercial production is expected to involve expansion of banked cells and packaging them in an appropriate container(s) after formulating the cells in an effective carrier (which may also be used to affect the stability and engrafting of the stem cells or their progeny). Because of the early stage of the Company's stem/progenitor cell programs, the issues that will affect manufacture of stem/progenitor cell products are relatively unclear at this juncture. MARKETING The Company expects to market and sell its products primarily through co-marketing, licensing or other arrangements with third parties. The Company does not have experience in sales, marketing or distribution and does not expect to develop such capabilities in the near future. Generally, the Company intends to have the marketing of its products undertaken by partners, although the Company may seek to retain limited marketing rights in specific markets, particularly where the product may be addressed by a specialty or niche sales force. PATENTS, PROPRIETARY RIGHTS AND LICENSES The Company believes that proprietary protection of its inventions will be of major importance to its future business. The Company has a program of vigorously seeking and protecting intellectual property it believes may be useful in connection with its products. The Company believes that its know-how will also provide a significant competitive advantage and intends to continue to develop and protect its know-how. The Company may also, from time to time, seek to acquire licenses to important externally developed technologies. The Company has exclusive or non-exclusive rights to a portfolio of patents and patent applications related to various stem and progenitor cells and methods of deriving and using them. These patents and patent applications relate mainly to compositions of matter, methods of obtaining such cells, and methods for preparing, transplanting and utilizing such cells. Currently, the Company's U.S. patent portfolio in the stem cell therapy area includes 16 issued U.S. patents, with an additional eight patent applications pending, four of which have been allowed and are awaiting issuance. The patent positions of pharmaceutical and biotechnology companies, including those of the Company, are uncertain and involve complex and evolving legal and factual questions. The coverage sought in a patent application can be denied or significantly reduced before or after the patent is issued. Consequently, the Company does not know whether any of its pending applications will result in the issuance of patents, or if any existing or future patents will provide significant protection or commercial advantage or will be circumvented by others. Since patent applications are secret until patents are issued in the United States or until the applications are published in foreign countries, and since publication of discoveries in the scientific or patent literature often lags behind actual discoveries, the Company cannot be certain that it was the first to make the inventions covered by each of its pending patent applications or that it was the first to file patent applications for such inventions. There can be no assurance that patents will issue from the Company's pending or future patent applications or, if issued, that such patents will be of commercial benefit to the Company, afford the Company adequate protection from competing products or not be challenged or declared invalid. In the event that a third party has also filed a patent application relating to inventions claimed in Company patent applications, the Company may have to participate in interference proceedings declared by the United States Patent and Trademark Office to determine priority of invention, which could result in substantial uncertainties and cost for the Company, even if the eventual outcome is favorable to the 13
Company. There can be no assurance that the Company's patents, if issued, would be held valid by a court of competent jurisdiction. A number of pharmaceutical, biotechnology and other companies, universities and research institutions have filed patent applications or have been issued patents relating to cell therapy, stem cells and other technologies potentially relevant to or required by the Company's expected products. The Company cannot predict which, if any, of such applications will issue as patents or the claims that might be allowed. The Company is aware that a number of companies have filed applications relating to stem cells. The Company is also aware of a number of patent applications and patents claiming use of genetically modified cells to treat disease, disorder or injury. The Company is aware of two patents issued to a competitor claiming certain methods for treating defective, diseased or damaged cells in the mammalian CNS by grafting genetically modified donor cells from the same mammalian species. If third party patents or patent applications contain claims infringed by the Company's technology and such claims or claims in issued patents are ultimately determined to be valid, there can be no assurance that the Company would be able to obtain licenses to these patents at a reasonable cost, if at all, or be able to develop or obtain alternative technology. If the Company is unable to obtain such licenses at a reasonable cost, it may be adversely affected. There can be no assurance that the Company will not be obliged to defend itself in court against allegations of infringement of third party patents. Patent litigation is very expensive and could consume substantial resources and create significant uncertainties. An adverse outcome in such a suit could subject the Company to significant liabilities to third parties, require disputed rights to be licensed from third parties, or require the Company to cease using such technology. The Company also relies upon trade-secret protection for its confidential and proprietary information. There can be no assurance that others will not independently develop substantially equivalent proprietary information or techniques, gain access to the Company's trade secrets or disclose such technology, or that the Company can meaningfully protect its trade secrets. The Company's policy is to require its employees, consultants, significant scientific collaborators and sponsored researchers to execute confidentiality agreements upon the commencement of an employment or consulting relationship with the Company. These agreements generally provide that all confidential information developed or made known to the individual by the Company during the course of the individual's relationship with the Company is to be kept confidential and not disclosed to third parties except in specific circumstances. In the case of employees and consultants, the agreements generally provide that all inventions conceived by the individual in the course of rendering services to the Company shall be the exclusive property of the Company. There can be no assurance, however, that these agreements will provide meaningful protection or adequate remedies for the Company in the event of unauthorized use, transfer or disclosure of such information or inventions. The Company has obtained rights from universities and research institutions to technologies, processes and compounds that it believes may be important to the development of its products. These agreements typically require the Company to pay license fees, meet certain diligence obligations and, upon commercial introduction of certain products, pay royalties. These include exclusive license agreements with NeuroSpheres, The Scripps Institute, the California Institute of Technology and the Oregon Health Sciences University to certain patents and know-how regarding present and certain future developments in neural and pancreatic stem cells. The Company's licenses may be canceled or converted to non-exclusive licenses if the Company fails to use the relevant technology or the Company breaches its agreements. Loss of such licenses could expose the Company to the risks of third party patents and/or technology. There can be no assurance that any of these licenses will provide effective protection against the Company's competitors. 14
COMPETITION While in some instances the targeted disease states for the Company's initial products currently have no effective long-term therapies, the Company's initial products are expected to compete with a variety of therapeutic products and procedures. Major pharmaceutical companies currently offer a number of pharmaceutical products to treat neurodegenerative, pancreatic and liver diseases, and other diseases for which the Company's technologies may be applicable. The Company believes that its products, if successfully developed, will compete with these products principally on the basis of improved and extended efficacy and safety and the overall economic benefit to the health care system offered by such products. However, many other pharmaceutical and biotechnology companies are investigating new drugs and therapeutic approaches to treat neurodegenerative, pancreatic and liver diseases, which may achieve new and better efficacy profiles, extend the therapeutic window for such products, alter the prognosis of these diseases or prevent their onset. The market for therapeutic products that address degenerative diseases is large, and competition is intense and is expected to increase. The Company's most significant competitors are expected to be fully integrated pharmaceutical companies and more established biotechnology companies. Such competitors have significant resources and expertise in research and development, manufacturing, testing, obtaining regulatory approvals and marketing and also have significantly greater capital resources. Smaller companies may also prove to be significant competitors, particularly through collaborative arrangements with large pharmaceutical or biotechnology companies. Many of these competitors have significant products approved or in development that could be competitive with the Company's potential products, and also operate large, well-funded research and development programs. In addition, the Company competes with other companies and institutions for highly qualified scientific and management personnel. The Company's stem/progenitor cell products, if successfully developed, might face competition from orally administered drugs, other forms of cell transplantation, ablative and stimulative procedures, gene therapy and new drugs under development. In addition, the Company believes that its competitors are trying to develop stem/progenitor cell-based technologies. The Company expects that these products, if developed, will compete with the Company's potential stem/progenitor cell products based on efficacy, safety, cost and intellectual property positions. The Company expects that gene therapy, if successfully developed, will also be a source of competition for potential stem/progenitor cell products. There can be no assurance that the Company's competitors will not succeed in developing technologies and products that are more effective than those being developed by the Company or that would render the Company's technology obsolete or non-competitive. The Company may also face competition from companies that have filed patent applications relating to the use of genetically modified cells to treat disease, disorder or injury. The Company may be required to seek licenses from these competitors in order to commercialize certain of its proposed products and there can be no assurance that the Company will be able to obtain such licenses at a reasonable cost, if at all. Any product that the Company succeeds in developing and for which it gains regulatory approval must then compete for market acceptance and market share. For certain of the Company's potential products, an important competitive factor will be the timing of market introduction of competitive products. Accordingly, the Company expects that an important competitive factor will be the relative speed with which the Company and its competitors can develop products, complete the clinical testing and approval processes and supply commercial quantities of a product to market. With respect to clinical testing, competition may delay progress by limiting the number of clinical investigators and patients available to test the Company's potential products. Competition for the Company's products is also expected to be based on product efficacy, safety, the timing and scope of regulatory approvals including, in certain instances, obtaining marketing exclusivity under the Orphan Drug Act, availability of supply, marketing and sales capability, reimbursement 15
coverage, price and patent and technology position. There can be no assurance that the Company's technology, if fully developed, will become commercially viable. GOVERNMENT REGULATION The manufacturing and marketing of the Company's potential products and its research and development activities are and will continue to be subject to regulation for safety and efficacy by numerous governmental authorities in the United States and other countries. In the United States, pharmaceuticals, biologicals and medical devices are subject to rigorous FDA regulation. The Federal Food, Drug and Cosmetic Act, as amended, and the Public Health Service Act, as amended, the regulations promulgated thereunder, and other Federal and state statutes and regulations govern, among other things, the testing, manufacture, safety, efficacy, labeling, storage, export, record keeping, approval, marketing, advertising and promotion of the Company's potential products. Product development and approval within this regulatory framework takes a number of years and involves substantial uncertainty combined with the expenditure of substantial resources. In addition, the United States, states and other jurisdictions have restrictions on the use of fetal tissue that could restrict the Company's use of such materials. The steps required before the Company's potential products may be marketed in the United States include (i) preclinical laboratory and animal tests, (ii) the submission to the FDA of an application for an Investigational New Drug Exemption ("IND"), which must become effective before U.S. human clinical trials may commence, (iii) adequate and well-controlled human clinical trials to establish the safety and efficacy of the product, (iv) the submission to the FDA of a marketing authorization application(s) and (v) FDA approval of the application(s) prior to any commercial sale or shipment of the drug. Biologic product manufacturing establishments located in certain states also may be subject to separate regulatory and licensing requirements. Preclinical tests include laboratory evaluation of the product and animal studies to assess the potential safety and efficacy of the product and its formulation as well as the quality and consistency of the manufacturing process. The results of the preclinical tests are submitted to the FDA as part of an IND, and the IND becomes effective 30 days following its receipt by the FDA, absent questions, requests for delay or objections from the FDA. Clinical trials involve the evaluation of the product in healthy volunteers or, as may be the case with the Company's potential products, in a small number of patients under the supervision of a qualified physician. Clinical trials are conducted in accordance with protocols that detail the objectives of the study, the parameters to be used to monitor safety and the efficacy criteria to be evaluated. Any product administered in a U.S. clinical trial must be manufactured in accordance with clinical Good Manufacturing Practices ("cGMP") determined by the FDA. Each protocol is submitted to the FDA as part of the IND. The protocol for each clinical study must be approved by an independent Institutional Review Board ("IRB") at the institution at which the study is conducted and the informed consent of all participants must be obtained. The IRB will consider, among other things, the existing information on the product, ethical factors, the safety of human subjects, the potential benefits of therapy and the possible liability of the institution. Clinical development is traditionally conducted in three sequential phases. The phases may overlap, however. In Phase I, products are typically introduced into healthy human subjects or into selected patient populations to test for safety (adverse reactions), dosage tolerance, absorption and distribution, metabolism, excretion and clinical pharmacology. Phase II involves studies in a limited patient population to (i) determine the efficacy of the product for specific targeted indications and populations, (ii) determine optimal dosage and dosage tolerance and (iii) identify possible adverse effects and safety risks. When a dose is chosen and a candidate product is found to be effective and to have an acceptable safety profile in Phase II evaluations, Phase III trials are undertaken to conclusively demonstrate clinical efficacy and to test further for safety within an expanded patient population, generally at multiple study sites. The FDA 16
continually reviews the clinical trial plans and results and may suggest changes or may require discontinuance of the trials at any time if significant safety issues arise. The results of the preclinical studies and clinical studies are submitted to the FDA in the form of a marketing approval authorization application. The testing and approval process is likely to require substantial time, effort and expense and there can be no assurance that any FDA approval will be granted on a timely basis, if at all. The time to approval is affected by a number of factors, including relative risks and benefits demonstrated in clinical trials, the availability of alternative treatments and the severity of the disease. Additional animal studies or clinical trials may be requested during the FDA review period and may delay marketing approval. After FDA approval for the initial indications and requisite approval of the manufacturing facility, further clinical trials may be necessary to gain approval for the use of the product for additional indications. The FDA may also require unusual or restrictive post-marketing testing and surveillance to monitor for adverse effects, which can involve significant expense or grant only conditional approvals. Among the conditions for product licensure is the requirement that the prospective manufacturer's quality control and manufacturing procedures conform to cGMP. Even after product licensure approval, the manufacturer must comply with cGMP on a continuing basis, and what constitutes cGMP may change as the state of the art of manufacturing changes. Domestic manufacturing facilities are subject to regular FDA inspections for cGMP compliance (normally at least every two years), and foreign manufacturing facilities are subject to periodic FDA inspections or inspections by the foreign regulatory authorities with reciprocal inspection agreements with the FDA. Domestic manufacturing facilities may also be subject to inspection by foreign authorities. The Orphan Drug Act provides incentives to drug manufacturers to develop and manufacture drugs for the treatment of diseases or conditions that affect fewer than 200,000 individuals in the United States. Orphan drug status can also be sought for treatments for diseases or conditions that affect more than 200,000 individuals in the United States if the sponsor does not realistically anticipate its product becoming profitable from sales in the United States. The Company may apply for orphan drug status for certain of its therapies. Under the Orphan Drug Act, a manufacturer of a designated orphan product can seek tax benefits, and the holder of the first FDA approval of a designated orphan product will be granted a seven-year period of marketing exclusivity in the United States for that product for the orphan indication. While the marketing exclusivity of an orphan drug would prevent other sponsors from obtaining approval of the same compound for the same indication, it would not prevent other types of products from being approved for the same use including in some cases, slight variations on the originally designated orphan product. Legislation has been introduced in the U.S. Congress in the past, and is likely to be introduced again in the future, that would restrict the extent and duration of the market exclusivity of an orphan drug, and there can be no assurance that the benefits of the existing statute will remain in effect. Proposed regulations of the FDA and other governmental agencies would place restrictions, including disclosure requirements, on researchers who have a financial interest in the outcome of their research. Under the proposed regulations, the FDA could also apply heightened scrutiny to, or exclude the results of, studies conducted by such researchers when reviewing applications to the FDA which contain such research. Certain of the Company's collaborators have stock options or other equity interests in the Company that could subject such collaborators and the Company to the proposed regulations. The FDA has published a "Proposed Approach to Regulation of Cellular and Tissue-Based Products" which relates to the use of human cells. The Company cannot presently determine the effects of that approach or what other regulatory actions might be taken. Restrictions on the testing or use of cells, whether human or non-human, as human therapeutics could adversely affect the Company's product development programs and the Company itself and could prevent the Company from producing and/or selling certain products or make the cost of production by the Company prohibitively high. In addition to safety regulations enforced by the FDA, the Company is also subject to regulations under the Occupational Safety and Health Act, the Environmental Protection Act, the Toxic Substances 17
Control Act and other present and potential future supranational, foreign, Federal, state and local regulations. Outside the United States, the Company will be subject to regulations which govern the import of drug products from the United States or other manufacturing sites and foreign regulatory requirements governing human clinical trials and marketing approval for its products. The requirements governing the conduct of clinical trials, product licensing, pricing and reimbursements vary widely from country to country. In particular, the European Union ("EU") is revising its regulatory approach to high tech products and representatives from the United States, Japan and the EU are in the process or harmonizing and making more uniform the regulations for the registration of pharmaceutical products in these three markets. Although certain of such proposals have been adopted, the Company cannot anticipate what effect the adoption of the final forms of this harmonization or the changes to the EU high tech procedure may have. REIMBURSEMENT AND HEALTH CARE COST CONTROL The Company's ability to commercialize products successfully may depend in part on the extent to which reimbursement for the costs of such products and related treatments will be available from government health administration authorities, private health insurers and others both in the United States and abroad. Significant uncertainty exists as to the reimbursement status of newly approved health care products. Reimbursement limitations or prohibitions with respect to any product developed by the Company could adversely affect the Company's ability to establish and maintain price levels sufficient for realization of an appropriate return on its investment in developing new therapies. Government and other third party payors are increasingly attempting to contain health care costs by limiting both coverage and the level of reimbursement for new therapeutic products approved for marketing by the FDA and by refusing, in some cases, to provide any coverage for uses of approved products for disease indications for which the FDA has not granted marketing approval. If adequate coverage and reimbursement levels are not provided by third party payors for uses of the Company's therapeutic products, the market acceptance of these products would be adversely affected. The revenues and profitability of health care-related companies may be affected by the continuing efforts of governmental and third party payers to contain or reduce the cost of health care through various means. For example, in certain foreign markets pricing or profitability of prescription pharmaceuticals is subject to government control. In the United States, there have been, and the Company expects that there will continue to be, a number of Federal and state proposals to implement government control over health care costs. Efforts at healthcare reform are likely to continue in future legislative sessions. It is uncertain what legislative proposals will be adopted or what actions Federal, state or private payers for healthcare goods and services may take in response to healthcare reform proposals of legislation. The Company cannot predict the effect healthcare reforms may have on its business. Any such reforms as well as the uncertainty their proposal engenders could have a material adverse effect on the Company. EMPLOYEES As of March 20, 1999, the Company had 21 full- and part-time employees (including two contract employees), of whom four have Ph.D. degrees. Approximately 14 employees work in research and development and laboratory support services. A number of the Company's employees have held positions with other biotechnology or pharmaceutical companies or have worked in university research programs. No employees are covered by collective bargaining agreements. SCIENTIFIC ADVISORY BOARD Members of the Company's Scientific Advisory Board provide the Company with strategic guidance in regard to its research and product development programs, as well as assistance in recruiting employees and 18
collaborators. Each Scientific Advisory Board member has entered into a consulting agreement with the Company. These consulting agreements typically specify the compensation to be paid to the consultant and require that all information about the Company's products and technology be kept confidential. All of the Scientific Advisory Board members are employed by employers other than the Company and may have commitments to or consulting or advising agreements with other entities which may limit their availability to the Company. The Scientific Advisory Board members have generally agreed, however, for so long as they serve as consultants to the Company, not to provide any services to any other entities which would conflict with the services the member provides to the Company. Members of the Scientific Advisory Board offer consultation on specific issues encountered by the Company as well as general advice on the directions of appropriate scientific inquiry for the Company. In addition, certain Scientific Advisory Board members assist the Company in assessing the appropriateness of moving the Company's projects to more advanced stages. The following persons are members of the Company's Scientific Advisory Board: - Irving L. Weissman, M.D., is the Karel and Avice Beekhuis Professor of Cancer Biology, Professor of Pathology and Professor of Developmental Biology at Stanford University. Dr. Weissman is a cofounder of SyStemix, Inc., and Chairman of the Scientific Advisory Board of SyStemix, Inc. He has served on the Scientific Advisory Boards of Amgen Inc., DNAX and T-Cell Sciences, Inc. Dr. Weissman is Chairman of the Scientific Advisory Board of CytoTherapeutics. - David J. Anderson, Ph.D., is Professor of Biology, California Institute of Technology, Pasadena, California and Investigator, Howard Hughes Medical Institute. - Fred H. Gage, Ph.D., is Professor, Laboratory of Genetics, The Salk Institute for Biological Studies, La Jolla, California and Adjunct Professor, Department of Neurosciences, University of California, San Diego, California. ITEM 2. PROPERTIES The Company's current research laboratories and administrative offices are located in a leased 7,950 square-foot multipurpose building housing wet labs, specialty research areas and administrative offices located in Sunnyvale, California. The facilities are leased pursuant to lease agreements expiring August 31, 2001, with the Company having certain renewal options. The Company's current facilities are expected to be sufficient to accommodate its needs at least through the end of 2000. The Company continues to be the lessee of the following facilities in Lincoln, Rhode Island obtained in connection with its former encapsulated cell technology: its former research laboratory and corporate headquarters building which contains 65,000 square feet of wet labs, specialty research areas and administrative offices held on a fifteen-year lease agreement, as well as a 21,000 square-foot pilot manufacturing facility and a 3,000 square-foot cell processing facility financed by bonds issued by the Rhode Island Industrial Facilities Corporation. The Company is actively seeking to sublease, assign or sell its interests in these properties. ITEM 3. LEGAL PROCEEDINGS None. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. 19
PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDERS MATTERS The Common Stock of CytoTherapeutics is traded on the National Market System of NASDAQ under the Symbol CTII. The quarterly ranges of high and low sales prices since January 1, 1997 are shown below: 2000 HIGH LOW - ---- ------------- ------------ First Quarter (through March 20, 2000)...................... $20 $1 3/8 1999 HIGH LOW - ------------------------------------------------------------ ------------- ------------ Fourth Quarter.............................................. $ 1 5/8 $1 Third Quarter............................................... $ 2 3/8 $ 11/16 Second Quarter.............................................. $ 1 3/8 $ 17/32 First Quarter............................................... $ 1 25/32 $1 5/32 1998 HIGH LOW - ------------------------------------------------------------ ------------- ------------ Fourth Quarter.............................................. $ 2 17/32 $ 26/32 Third Quarter............................................... $ 1 19/32 $ 29/32 Second Quarter.............................................. $ 3 7/16 $1 1/16 First Quarter............................................... $ 4 3/8 $2 1/2 1997 HIGH LOW - ------------------------------------------------------------ ------------- ------------ Fourth Quarter.............................................. $ 7 5/8 $3 7/16 Third Quarter............................................... $ 6 1/4 $4 5/8 Second Quarter.............................................. $ 8 3/4 $4 3/4 First Quarter............................................... $11 3/8 $7 1/2 No cash dividends have been declared on the Common Stock since the Company's inception. As of March 20, 2000, there were approximately 279 holders of record of the Common Stock. 20
ITEM 6. SELECTED FINANCIAL DATA YEAR ENDED DECEMBER 31, ---------------------------------------------------- 1999 1998 1997 1996 1995 -------- -------- -------- -------- -------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) STATEMENT OF OPERATIONS DATA Revenue from collaborative agreements....... $ 5,022 $ 8,803 $ 10,617 $ 7,104 $11,761 Research and development expenses........... 9,991 17,659 18,604 17,130 14,730 Acquired research and development........... 8,344 Wind-down expenses.......................... 6,048 Net loss.................................... (15,709) (12,628) (18,114) (13,759) (8,891) Basic and diluted net loss per share........ (0.84) (0.69) (1.08) (0.89) (0.69) Shares used in computing basic and diluted net loss per share........................ 18,706 18,291 16,704 15,430 12,799 DECEMBER 31, ---------------------------------------------------- 1999 1998 1997 1996 1995 -------- -------- -------- -------- -------- (IN THOUSANDS) BALANCE SHEET DATA Cash, cash equivalents and marketable securities................................ $ 4,760 $ 17,386 $ 29,050 $ 42,607 $44,192 Total assets................................ 16,081 32,866 44,301 58,397 56,808 Long-term debt, including capitalized leases.................................... 2,937 3,762 4,108 8,223 5,441 Redeemable common stock..................... 5,249 5,249 5,583 8,159 Stockholders' equity........................ 3,506 17,897 28,900 34,747 45,391 21
\ ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion of the financial condition and results of operations of CytoTherapeutics, Inc. should be read in conjunction with the accompanying financial statements and the related footnotes thereto. The statements contained in this report, other than statements of historical fact, constitute forward-looking statements. Such statements include, without limitation, all statements as to expectation or belief and statements as to the Company's future results of operations, the progress of the Company's research and product development programs, the need for, and timing of, additional capital and capital expenditures, partnering prospects, the need for additional intellectual property rights, effects of regulations, the need for additional facilities and potential market opportunities. The Company's actual results may vary materially from those contained in such forward-looking statements because of risks to which the Company is subject, such as failure to obtain a corporate partner or partners to support the development of the Company's stem cell programs, the Company's ability to sell, assign or sublease its interest in its facilities related to its encapsulated cell technology program, risks of delays in research, development and clinical testing programs, obsolescence of the Company's technology, lack of available funding, competition from third parties, intellectual property rights of third parties, failure of the Company's collaborators to perform, regulatory constraints, litigation and other risks to which the Company is subject. See "Cautionary Factors Relevant to Forward-Looking-Information" filed herewith as Exhibit 99 and incorporated herein by reference. OVERVIEW Since its inception in August 1988, the Company has been primarily engaged in research and development of human therapeutic products. No revenues have been derived from the sale of any products, and the Company does not expect to receive revenues from product sales for at least several years. The Company has not commercialized any product and in order to do so it must, among other things, substantially increase its research and development expenditures as research and product development efforts accelerate and clinical trials are initiated. The Company has incurred annual operating losses since inception and expects to incur substantial operating losses in the future. As a result, the Company is dependent upon external financing from equity and debt offerings and revenues from collaborative research arrangements with corporate sponsors to finance its operations. There can be no assurance that such financing or partnering revenues will be available when needed or on terms acceptable to the Company. The Company's results of operations have varied significantly from year to year and quarter to quarter and may vary significantly in the future due to the occurrence of material, nonrecurring events, including without limitation, the receipt of one-time, nonrecurring licensing payments, the initiation or termination of research collaborations and the winding down of terminated research and development programs. RESULTS OF OPERATIONS YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997 Revenues from collaborative agreements totaled $5,022,000, $8,803,000 and $10,617,000 for the years ending December 31, 1999, 1998 and 1997, respectively. Revenues were earned primarily from a Development, Marketing and License Agreement with AstraZeneca Group plc, which was signed in March 1995 (the "Astra Agreement"). The decrease in revenues from 1998 to 1999 resulted primarily from the June 1999 termination of the Astra Agreement. 1997 revenues included a $3,000,000 milestone payment from Astra related to the Phase II clinical program for the Company's pain control implant. 22
Research and development expenses totaled $9,984,000 in 1999, as compared to $17,659,000 in 1998 and $18,604,000 in 1997. The decrease of $7,668,000, or 43%, from 1998 to 1999 was primarily attributable to the wind-down of research activities relating to the Company's encapsulated cell technology, precipitated by termination of the Astra Agreement. The decrease of $945,000, or 5%, from 1997 to 1998 was primarily attributable to a reduction in spending on research agreements and a reduction in research and development personnel. Acquired research and development consists of a one-time charge of $8,344,000 related to the acquisition of StemCells California, Inc., in 1997. Commercialization of this technology will require significant incremental research and development expenses over a number of years. With the recent completion of the restructuring of the Company's research operations, the Company is now focused solely on the research and development of its platform stem cell technology, which encompasses the technology acquired upon the acquisition of StemCells California, Inc. and related technology developed or licensed in by the Company. General and administrative expenses were $4,927,303 for the year ended December 31, 1999, compared with $4,603,000 in 1998 and $6,158,000 in 1997. Due to the wind-down of the Company's encapsulated cell technology and relocation of the Company's headquarters in October, the 1999 expenses are less than they would have been had these events not occurred. The reduction of $1,555,000, or 25%, from 1997 to 1998 was primarily attributable to a reduction in legal fees, recruiting and relocation expenses, as well as a reduction in employees. Wind-down expenses totaled $6,047,806 for the year ended December 31, 1999; no such expenses were incurred in 1998 and 1997. These expenses relate to the wind-down of the Company's encapsulated cell technology research and the Company's other Rhode Island operations, the transfer of the Company's corporate headquarters to Sunnyvale, California and an accrual for the Company's estimate of the costs of settlement of a 1989 funding agreement with the Rhode Island Partnership for Science and Technology ("RIPSAT"). Interest income for the years ended December 31, 1999, 1998 and 1997 totaled $564,000, $1,254,000 and $1,931,000, respectively. The average cash and investment balances were $10,663,000, $21,795,000 and $33,343,000 in 1999, 1998 and 1997, respectively. The decrease in interest income from 1997 to 1998 to 1999 was attributable to lower average balances. In 1999, interest expense was $335,000, compared with $472,000 in 1998 and $438,000 in 1997. The decrease from 1998 to 1999 was attributable to lower outstanding debt and capital lease balances. The increase from 1997 to 1998 was primarily attributable to capitalization of $210,000 of interest on the new facility in 1997. In October 1997, the Company recognized a gain in the amount of $3,387,000 related to the sale of 50 percent of the Company's interest in Modex Therapeutiques. The net loss in 1999, 1998 and 1997 was $15,709,000, $12,628,000, and $18,114,000, respectively. The loss per share was $0.84, $.69 and $1.08 in 1999, 1998 and 1997, respectively. The increase from 1998 to 1999 is primarily attributable to the elimination of revenue from the Astra Agreement, which was terminated in June 1999, as well as expenses related to the wind-down of the Company's encapsulated cell technology researchand its other Rhode Island operations, the transfer of the Company's corporate headquarters to Sunnyvale, California and an accrual for the Company's estimate of the costs of settlement of a funding agreement with RIPSAT. The decrease from 1997 to 1998 was attributable to a one-time charge of $8,344,000 for acquired research and development related to the purchase of StemCells California, Inc. offset by a $3,387,000 gain on a partial sale of the Company's interest in Modex in 1997. 23
LIQUIDITY AND CAPITAL RESOURCES Since its inception, the Company has financed its operations through the sale of common and preferred stock, the issuance of long-term debt and capitalized lease obligations, revenues from collaborative agreements, research grants and interest income. The Company had unrestricted cash and cash equivalents totaling $4,760,000 at December 31, 1999. Cash and cash equivalents are invested in money market accounts in institutions insured by the FDIC. The Company's liquidity and capital resources have been and will continue to be significantly affected by the Company's relationship with corporate partners. In March 1995, the Company signed a collaborative research and development agreement with AstraZeneca for the development and marketing of certain encapsulated-cell products to treat pain. AstraZeneca made an initial, nonrefundable payment of $5,000,000, included in revenue from collaborative agreements in 1995, a milestone payment of $3,000,000 in 1997 and was to remit up to an additional $13,000,000 subject to achievement of certain development milestones. Under the agreement, the Company was obligated to conduct certain research and development pursuant to a four-year research plan agreed upon by the parties. Over the term of the research plan, the Company originally expected to receive annual payments of $5 million to $7 million from AstraZeneca, which was to approximate the research and development costs incurred by the Company under the plan. Subject to the successful development of such products and obtaining necessary regulatory approvals, AstraZeneca was obligated to conduct all clinical trials of products arising from the collaboration and to seek approval for their sale and use. AstraZeneca had the exclusive worldwide right to market products covered by the agreement. Until the later of either the expiration of all patents included in the licensed technology or a specified fixed term, the Company was entitled to a royalty on the worldwide net sales of such products in return for the marketing license granted to AstraZeneca and the Company's obligation to manufacture and supply products. AstraZeneca had the right to terminate the original agreement beginning April 1, 1998. On June 24, 1999, AstraZeneca informed the Company of the results of AstraZeneca's analysis of the double-blind, placebo-controlled trial of the Company's encapsulated bovine cell implant for the treatment of severe, chronic pain in cancer patients. AstraZeneca determined that, based on criteria it established, the results from the 85-patient trial did not meet the minimum statistical significance for efficacy established as a basis for continuing worldwide trials for the therapy. AstraZeneca therefore indicated that it did not intend to further develop the bovine cell-containing implant therapy and exercised its right to terminate the agreement. (SEE ALSO NOTE 15--"RESEARCH AGREEMENTS" TO THE ACCOMPANYING FINANCIAL STATEMENTS) In the third quarter of 1999, the Company announced restructuring plans for the wind-down of operations relating to its encapsulated cell technology and to focus its resources on the research and development of its proprietary stem cell technology platform. The Company terminated approximately 68 full time employees and, in October 1999, relocated its corporate headquarters to Sunnyvale, California. The Company recorded approximately $5.7 million of wind-down expenses including employee separation and relocation costs during 1999. On December 30, 1999 the Company sold its encapsulated cell technology ("ECT") to Neurotech S.A. for a payment of $3,000,000, royalties on future product sales, and a portion of certain Neurotech revenues from third parties in return for the assignment to Neurotech of intellectual property assets relating to ECT. In addition, the Company retained certain non-exclusive rights to use ECT in combination with its proprietary stem cell technology and in the field of vaccines for prevention and treatment of infectious diseases. The Company received $2,800,000 of the initial payment on January 3, 2000 with a remaining balance of $200,000 placed in escrow, to be received by the Company upon demonstration satisfactory to Neurotech that certain intellectual property is not subject to other claims. As part of the Company's restructuring of its operations and relocation of its corporate headquarters to Sunnyvale, California, the Company identified a significant amount of excess fixed assets. In December 24
of 1999, the Company completed the disposition of those excess fixed assets, from which it received more than $746,000. These proceeds are expected to be used to fund the Company's continuing operations. In July 1999, the Rhode Island Partnership for Science and Technology ("RIPSAT") alleged that the Company was in default under a June, 1989 Funding Agreement (the "Funding Agreement"), and demanded payment of approximately $2.6 million. While the Company believes it was not in default under the Funding Agreement, the Company deemed it best to resolve the dispute without litigation and, on March 3, 2000, entered into a settlement agreement with RIPSAT, the Rhode Island Industrial Recreational Building Authority ("IRBA") and the Rhode Island Industrial Facilities Corporation ("RIIFC"). The Company agreed to pay RIPSAT $1,172,000 in full satisfaction of all obligations of the Company to RIPSAT under the Funding Agreement. At the same time, IRBA agreed to return to the Company the full amount of the Company's debt service reserve ("Reserve Funds"), comprising approximately $610,000 of principal and interest, relating to the bonds the Company has with IRBA and RIIFC. The Reserve Funds were transferred directly to RIPSAT, so the net cash paid by the Company was approximately $562,000. The Company made this payment in March of 2000. The Company's liquidity and capital resources could have also been affected by a claim by Genentech, Inc., arising out of the their collaborative development and licensing agreement relating to the development of products for the treatment of Parkinson's disease; in the event, however, the claim was resolved with no effect on the Company's resources. On May 21, 1998, Genentech exercised its right to terminate the Parkinson's collaboration and demanded that the Company redeem, for approximately $3,100,000, certain shares of the Company's redeemable Common Stock held by Genentech. Genentech's claim was based on provisions in the agreement requiring the Company to redeem, at the price of $10.01 per share, the shares representing the difference between the funds invested by Genentech to acquire such stock and the amount expended by the Company on the terminated program less an additional $1,000,000. In March 2000, the Company and Genentech entered into a Settlement Agreement under which Genentech released the Company from any obligation to redeem any shares of the Company's Common Stock held by Genentech, without cost to the Company. Accordingly, the $5.2 million of redeemable common stock shown as a liability in the Company's December 31, 1999 balance sheet will be transferred to equity in March 2000, and use of the Company's liquidity and capital resources will not be necessary. The Company and Genentech also agreed that all collaborations between them were terminated, and that neither had any rights to the intellectual property of the other. The Company continues to have substantial outstanding obligations in regard to its facilities in Lincoln, Rhode Island, including lease payments and operating costs of approximately $950,000 per year associated with its former research laboratory and corporate headquarters building, and debt service payments and operating costs of approximately $1,000,000 per year with respect to its pilot manufacturing and cell processing facility. The Company is actively seeking to sublease, assign or sell its interests in these facilities, but there can be no assurance that the Company will succeed in these efforts within a reasonable time period; if it does not, this will have a material adverse effect on the Company's liquidity and capital resources. In May 1996, the Company secured an equipment loan facility with a bank (the "Lender") in the amount of $2,000,000 (the "Credit Facility"). On August 5, 1999 the Company made a payment of approximately $752,000 of principal and interest to the Lender to retire the Credit Facility rather than seek a waiver by the Lender of the Company's violation of a loan covenant requiring the Company to maintain unrestricted liquidity in an amount equal to or in excess of $10 million. On April 13, 2000, the Company completed arrangements to sell 1,500 shares of 6% cumulative convertible preferred stock plus a warrant for 75,000 shares of the Company's common stock to a member of its Board of Directors for $1,500,000, on terms more favorable than it was able to obtain from outside investors. The shares are convertible at the option of the holder into common stock at a price to be determined by reference to the price of the Company's common stock for a period approximately from 25
April 12, 2000 through the twentieth trading day following the filing of this Form 10-K. The conversion price may be below the trading market price of the stock at the time of conversion. The holder of the preferred stock has liquidation rights equal to his original investment plus accrued but unpaid dividends. The investor would be entitled to make additional investments in the Company on the same terms as those on which the Company completes offerings of its securities with third parties within 6 months, if any such offerings are completed. If offerings totalling at least $6 million are not completed during the 6 months, the investor has the right to acquire up to 1,500 additional shares of convertible preferred stock at a pre-determined per share. Any unconverted preferred stock is converted, at the applicable conversion price, on April 13, 2002 in the case of the original stock and two years after the first acquisition of any of the additional 1,500 shares, if any are acquired. The warrant expires on April 13, 2005. As a result of this transaction, the Company has adequate resources to fund its operations into the first quarter of 2001. The Company has limited liquidity and capital resources and must obtain significant additional capital resources in the near future in order to sustain its product development efforts. Substantial additional funds will be required to support the Company's research and development programs, for acquisition of technologies and intellectual property rights, for preclinical and clinical testing of its anticipated products, pursuit of regulatory approvals, acquisition of capital equipment, laboratory and office facilities, establishment of production capabilities and for general and administrative expenses. The Company's ability to obtain additional capital will be substantially dependent on its ability to obtain partnering support for its stem cell technology and, in the near term, on its ability to realize proceeds from the sale, assignment or sublease of its facilities in Rhode Island. There can be no assurance that the Company will succeed in any or all of these efforts, and failure to do so will have a material adverse effect on the Company's liquidity and capital resources. Until the Company's operations generate significant revenues from product sales, the Company must rely on cash reserves and proceeds from equity and debt offerings, proceeds from the transfer or sale of its intellectual property rights, equipment or facilities, government grants and funding from collaborative arrangements, if obtainable, to fund its operations. The Company intends to pursue opportunities to obtain additional financing in the future through equity and debt financings, lease agreements related to capital equipment, grants and collaborative research arrangements. The source, timing and availability of any future financing will depend principally upon market conditions, interest rates and, more specifically, on the Company's progress in its exploratory, preclinical and clinical development programs. Lack of necessary funds may require the Company to delay, reduce or eliminate some or all of its research and product development programs or to license its potential products or technologies to third parties. No assurance can be given that funding will be available when needed, if at all, or on terms acceptable to the Company. While the Company's cash requirements may vary, as noted above, the Company currently expects that its existing capital resources and income earned on invested capital will be sufficient to fund its operations into the first quarter of 2001. This situation may change, however, depending on numerous factors. YEAR 2000 The Company tested its material software applications to determine whether each program was prepared to accommodate date information for the year 2000 and beyond, and found them to be year 2000 compliant. The Company also tested the status of its facilities systems such as phones, voice mail, heating/ air conditioning, electricity and security systems and its laboratory and manufacturing equipment, and polled its major suppliers and vendors, to determine if they are year 2000 compliant, again without identifying any problems. Company has not to date encountered any significant year 2000 problems, but is continuing to monitor for potential issues. The costs of testing and monitoring have been and are expected to continue to be immaterial to the Company's operating results, but there can be no assurance that no problem will reveal itself in the future, or that if a problem does occur it will not have an adverse effect on the Company's operations or financial results. 26
ITEM 7A. QUANTITIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK As of the year ended December 31, 1999, the Company did not maintain any investments that were exposed to market risk from changes in interest rates or the fair market value of such investments. Interest rate risk with respect to the Company short and long-term debt is considered to be immaterial. As of the year ended December 31, 1999, the Company did not maintain any hedge positions. 27
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA REPORT OF INDEPENDENT AUDITORS Stockholders and Board of Directors CytoTherapeutics, Inc. We have audited the accompanying consolidated balance sheets of CytoTherapeutics, Inc. as of December 31, 1999 and 1998, and the related consolidated statements of operations, changes in redeemable common stock and stockholders' equity and cash flows for each of the three years in the period ended December 31, 1999. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of CytoTherapeutics, Inc. at December 31, 1999 and 1998, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 1999, in conformity with accounting principles generally accepted in the United States. ERNST & YOUNG LLP Providence, Rhode Island April 14, 2000 28
CYTOTHERAPEUTICS, INC. CONSOLIDATED BALANCE SHEETS DECEMBER 31, ----------------------------- 1999 1998 ------------- ------------- ASSETS Current assets: Cash and cash equivalents................................. $ 4,760,064 $ 7,864,788 Marketable securities..................................... -- 9,520,939 Accrued interest receivable............................... 42,212 206,609 Other current assets...................................... 3,000,000 -- ------------- ------------- Total current assets........................................ 8,970,855 18,434,010 Property, plant and equipment, net.......................... 5,251,376 8,356,009 Other assets, net........................................... 1,858,768 6,075,663 ------------- ------------- Total assets................................................ $ 16,080,999 $ 32,865,682 ============= ============= LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable.......................................... $ 631,315 $ 710,622 Accrued expenses.......................................... 2,905,068 1,020,119 Deferred revenue.......................................... -- 2,500,000 Current maturities of capitalized lease obligations....... 324,167 317,083 Current maturities of long-term debt...................... -- 1,000,000 ------------- ------------- Total current liabilities................................... 3,860,550 5,547,824 Capitalized lease obligations, less current maturities...... 2,937,083 3,261,667 Long-term debt, less current maturities..................... 500,000 Deposits.................................................... 26,000 -- Deferred Rent............................................... 502,353 222,673 Commitments and contingencies Redeemable common stock, $.01 par value; 524,337 shares issued and outstanding at December 31, 1999 and 1998...... 5,248,610 5,248,610 Common stock to be issued................................... -- 187,500 Stockholders' equity: Convertible preferred stock, $.01 par value; 1,000,000 shares authorized; no shares issued and outstanding..... -- -- Common stock, $.01 par value; 45,000,000 shares authorized; 18,635,565 and 17,800,323 shares issued and outstanding at December 31, 1999 and 1998, respectively............................................ 186,355 178,003 Additional paid-in capital................................ 123,917,758 122,861,606 Accumulated deficit....................................... (119,372,710) (103,664,084) Unrealized losses on marketable securities................ -- (5,198) ------------- ------------- Accumulated other comprehensive loss...................... (119,372,710) (103,669,282) ------------- ------------- Deferred compensation..................................... (1,225,000) (1,472,919) ------------- ------------- Total stockholders' equity.................................. 3,506,403 17,897,408 ------------- ------------- Total liabilities and stockholders' equity.................. $ 16,080,999 $ 32,865,682 ============= ============= SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. 29
CYTOTHERAPEUTICS, INC. CONSOLIDATED STATEMENTS OF OPERATIONS YEAR ENDED DECEMBER 31, ------------------------------------------ 1999 1998 1997 ------------ ------------ ------------ Revenue from collaborative agreements............... $ 5,021,707 $ 8,803,163 $ 10,617,443 Operating expenses: Research and development.......................... 9,984,027 17,658,530 18,603,523 Acquired research and development................. -- -- 8,343,684 General and administrative........................ 4,927,303 4,602,758 6,158,410 Encapsulated Cell Therapy Wind down and Corporate Relocation...................................... 6,047,806 -- -- ------------ ------------ ------------ 20,959,136 22,261,288 33,105,617 ------------ ------------ ------------ Loss from operations................................ (15,937,429) (13,458,125) (22,488,174) Other income (expense): Interest income................................... 564,006 1,253,781 1,931,260 Interest expense.................................. (335,203) (472,400) (437,991) Gain on partial sale of Modex..................... -- -- 3,386,808 Loss on sale/leaseback............................ -- -- (342,014) Loss on equity investment......................... -- -- (105,931) Other income (expense)............................ -- 48,914 (57,538) ------------ ------------ ------------ 228,803 830,295 4,374,594 ------------ ------------ ------------ Net loss............................................ $(15,708,626) $(12,627,830) $(18,113,580) ============ ============ ============ Basic and diluted net loss per share................ $ (.84) $ (.69) $ (1.08) ============ ============ ============ Shares used in computing basic and diluted net loss per share......................................... 18,705,838 18,290,548 16,704,144 ============ ============ ============ SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. 30
CYTOTHERAPEUTICS, INC. CONSOLIDATED STATEMENTS OF CHANGES IN REDEEMABLE COMMON STOCK AND STOCKHOLDERS' EQUITY (CONTINUED) REDEEMABLE COMMON STOCK COMMON STOCK ADDITIONAL ---------------------- --------------------- PAID-IN ACCUMULATED SHARES AMOUNT SHARES AMOUNT CAPITAL DEFICIT ------ ----------- ---------- -------- ------------ ------------- Balances, December 31, 1996............. 815,065 $ 8,158,798 15,614,333 $156,144 $107,649,659 $ (72,922,674) Issuance of common stock................ -- -- 307,548 3,074 1,552,432 -- Issuance of common stock under the stock purchase plan......................... -- -- 31,822 319 180,103 -- Deferred compensation recorded in connection with the granting of stock options............................... -- -- -- -- 1,750,000 -- Common stock issued pursuant to employee benefit plan.......................... -- -- 25,588 256 169,196 -- Issuance of common stock--StemCells..... -- -- 1,219,381 12,194 7,381,206 -- Redeemable common stock lapses.......... (257,311) (2,575,688) 257,311 2,573 2,573,115 -- Exercise of stock options............... -- -- 75,237 752 244,427 -- Deferred compensation--amortization and cancellations......................... -- -- (5,000) (50) (27,294) -- Change in unrealized losses on marketable securities................. -- -- -- -- -- -- Change in cumulative translation adjustment............................ -- -- -- -- -- -- Net loss................................ -- -- -- -- -- (18,113,580) Comprehensive loss...................... -------- ----------- ---------- -------- ------------ ------------- Balances, December 31, 1997............. 557,754 $ 5,583,110 17,526,220 $175,262 $121,472,844 $ (91,036,254) OTHER COMPREHENSIVE INCOME --------------------------- UNREALIZED GAINS (LOSSES) CUMULATIVE TOTAL ON MARKETABLE TRANSLATION DEFERRED STOCKHOLDERS' SECURITIES ADJUSTMENTS COMPENSATION EQUITY ------------- ----------- ------------- ------------- Balances, December 31, 1996............. $ 14,760 $(60,416) $ (90,118) $ 34,747,355 Issuance of common stock................ -- -- -- 1,555,506 Issuance of common stock under the stock purchase plan......................... -- -- -- 180,422 Deferred compensation recorded in connection with the granting of stock options............................... -- -- (1,750,000) -- Common stock issued pursuant to employee benefit plan.......................... -- -- -- 169,452 Issuance of common stock--StemCells..... -- -- -- 7,393,400 Redeemable common stock lapses.......... -- -- -- 2,575,688 Exercise of stock options............... -- -- -- 245,179 Deferred compensation--amortization and cancellations......................... -- -- 137,298 109,954 Change in unrealized losses on marketable securities................. (23,637) -- -- (23,637) Change in cumulative translation adjustment............................ -- 60,416 -- 60,416 Net loss................................ -- -- -- (18,113,580) Comprehensive loss...................... (18,076,081) -------- -------- ----------- ------------ Balances, December 31, 1997............. $ (8,877) -- $(1,702,820) $ 28,900,155 SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. 31
CYTOTHERAPEUTICS, INC. CONSOLIDATED STATEMENTS OF CHANGES IN REDEEMABLE COMMON STOCK AND STOCKHOLDERS' EQUITY (CONTINUED) UNREALIZED REDEEMABLE GAINS COMMON STOCK COMMON STOCK ADDITIONAL (LOSSES) ---------------------- --------------------- PAID-IN ACCUMULATED ON MARKETABLE SHARES AMOUNT SHARES AMOUNT CAPITAL DEFICIT SECURITIES ------ ----------- ---------- -------- ------------ ------------- ------------- Issuance of common stock........... -- -- -- -- -- -- -- Issuance of common stock under the stock purchase plan.............. -- -- 43,542 $ 436 $ 83,622 Deferred compensation recorded in connection with the granting of stock options.................... -- -- -- -- -- -- -- Common stock issued pursuant to employee benefit plan............ -- -- 84,812 848 143,025 -- -- Issuance of common stock--StemCells................. -- -- 101,320 1,013 505,587 -- -- Redeemable common stock lapses..... (33,417) (334,500) 33,417 334 334,166 -- -- Exercise of stock options.......... -- -- 11,012 110 1,254 -- -- Deferred compensation--amortization and cancellations................ -- -- -- -- 321,108 -- -- Change in unrealized losses on marketable securities............ -- -- -- -- -- -- 3,679 Net loss........................... -- -- -- -- -- (12,627,830) -- Comprehensive loss................. -------- ----------- ---------- -------- ------------ ------------- -------- Balances, December 31, 1998........ 524,337 $ 5,248,610 17,800,323 $178,003 $122,861,606 $(103,664,084) $ (5,198) ======== =========== ========== ======== ============ ============= ======== TOTAL DEFERRED STOCKHOLDERS' COMPENSATION EQUITY ------------- ------------- Issuance of common stock........... -- -- Issuance of common stock under the stock purchase plan.............. $ 84,058 Deferred compensation recorded in connection with the granting of stock options.................... -- -- Common stock issued pursuant to employee benefit plan............ -- 143,873 Issuance of common stock--StemCells................. -- 506,600 Redeemable common stock lapses..... -- 334,500 Exercise of stock options.......... -- 1,364 Deferred compensation--amortization and cancellations................ 229,901 551,009 Change in unrealized losses on marketable securities............ -- 3,679 Net loss........................... -- (12,627,830) Comprehensive loss................. (12,624,151) ----------- ------------ Balances, December 31, 1998........ $(1,472,919) $ 17,897,408 =========== ============ 32
CYTOTHERAPEUTICS, INC. CONSOLIDATED STATEMENTS OF CHANGES IN REDEEMABLE COMMON STOCK AND STOCKHOLDERS' EQUITY (CONTINUED) UNREALIZED REDEEMABLE GAINS COMMON STOCK COMMON STOCK ADDITIONAL (LOSSES) ---------------------- --------------------- PAID-IN ACCUMULATED ON MARKETABLE SHARES AMOUNT SHARES AMOUNT CAPITAL DEFICIT SECURITIES ------ ----------- ---------- -------- ------------ ------------- ------------- Issuance of common stock........... -- -- 196,213 $ 1,962 $ 318,221 -- -- Issuance of common stock under the stock purchase plan.............. -- -- 57,398 574 41,619 Deferred compensation recorded in connection with the granting of stock options.................... -- -- -- -- -- -- -- Common stock issued pursuant to employee benefit plan............ -- -- 90,798 908 102,502 -- -- Issuance of common stock--StemCells................. -- -- -- -- -- -- -- Redeemable common stock lapses..... -- -- -- -- Exercise of stock options.......... -- -- 490,833 4,908 513,534 -- -- Deferred compensation--amortization and cancellations................ -- -- -- -- 80,276 -- -- Change in unrealized losses on marketable securities............ -- -- -- -- -- -- 5,198 Net loss........................... -- -- -- -- -- (15,708,626) -- Comprehensive loss................. -------- ----------- ---------- -------- ------------ ------------- -------- Balances, December 31, 1999........ 524,337 $ 5,248,610 18,635,565 $186,355 $123,917,758 $(119,372,710) $ -- ======== =========== ========== ======== ============ ============= ======== TOTAL DEFERRED STOCKHOLDERS' COMPENSATION EQUITY ------------- ------------- Issuance of common stock........... -- $ 320,183 Issuance of common stock under the stock purchase plan.............. 42,193 Deferred compensation recorded in connection with the granting of stock options.................... -- -- Common stock issued pursuant to employee benefit plan............ -- 103,410 Issuance of common stock--StemCells................. Redeemable common stock lapses..... Exercise of stock options.......... -- 518,442 Deferred compensation--amortization and cancellations................ 218,748 328,195 Change in unrealized losses on marketable securities............ -- 5,198 Net loss........................... -- (15,708,626) Comprehensive loss................. (15,703,428) ----------- ------------ Balances, December 31, 1999........ $(1,254,171) $ 3,506,403 =========== ============ SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. 33
CYTOTHERAPEUTICS, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS YEAR ENDED DECEMBER 31, ------------------------------------------ 1999 1998 1997 ------------ ------------ ------------ CASH FLOWS FROM OPERATING ACTIVITIES: Net loss............................................ $(15,708,626) $(12,627,830) $(18,113,580) Adjustments to reconcile net loss to net cash used for operating activities: Depreciation and amortization..................... 1,717,975 2,244,146 1,968,234 Acquired research and development................. -- 551,009 8,343,684 Amortization of deferred compensation............. 328,195 -- 109,954 Other non-cash charges............................ 320,183 410,173 105,931 Gain on investment................................ -- -- (3,386,808) Loss on sale of fixed assets...................... 1,117,286 -- 413,856 Loss on sale of intangibles....................... 440,486 Changes in operating assets and liabilities: Accrued interest receivable..................... 164,397 346,577 100,004 Other current assets............................ 276,940 (265,665) (232,604) Accounts payable and accrued expenses........... 1,644,142 (2,378,613) (1,233,501) Deferred rent................................... 279,680 -- -- Deferred revenue................................ (2,500,000) 2,483,856 (1,842,948) ------------ ------------ ------------ Net cash used in operating activities............... (12,489,342) (9,236,347) (13,767,778) CASH FLOWS FROM INVESTING ACTIVITIES: Proceeds from sale of Modex, net of cash disposed... -- -- 2,958,199 Purchases of marketable securities.................. (4,397,676) (18,982,387) (14,182,521) Proceeds from sales of marketable securities........ 13,923,813 22,573,625 23,736,242 Purchases of property, plant and equipment.......... (192,747) (2,153,525) (7,710,126) Proceeds on sale of fixed assets.................... 746,448 -- 8,003,926 Purchase of other investment........................ -- -- (250,000) Acquisition of other assets......................... (552,251) (400,219) (1,599,418) Disposal of other assets............................ 440,485 -- -- Acquisition of StemCells assets..................... -- -- (640,490) Advance to Cognetix................................. -- -- (250,000) Repayment from Cognetix............................. -- -- 250,000 ------------ ------------ ------------ Net cash provided by investing activities........... 9,968,073 1,037,494 10,315,812 CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from issuance of redeemable common stock... -- -- -- Proceeds from issuance of common stock.............. 145,603 227,931 1,905,380 Proceeds from the exercise of stock options and warrants.......................................... 518,442 1,364 245,179 Proceeds from debt financings....................... -- 1,259,300 -- Repayments of debt and lease obligations............ (1,817,500) (1,366,655) (2,496,849) ------------ ------------ ------------ Net cash provided by (used in) financing activities........................................ (1,153,455) 121,940 (346,290) Effect of exchange rate changes on cash and cash equivalents....................................... -- -- (181,627) ------------ ------------ ------------ Decrease in cash and cash equivalents............... (3,104,724) (8,076,913) (3,979,883) Cash and cash equivalents, January 1................ 7,864,788 15,941,701 19,921,584 ------------ ------------ ------------ Cash and cash equivalents, December 31.............. $ 4,760,064 $ 7,864,788 $ 15,941,701 ============ ============ ============ Supplemental disclosure of cash flow information: Interest paid..................................... $ 335,203 $ 444,047 $ 436,461 SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS. 34
CYTOTHERAPEUTICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1999 1. NATURE OF BUSINESS CytoTherapeutics, Inc. (the "Company") is a biopharmaceutical company engaged in the development of novel stem cell therapies designed to treat human diseases and disorders. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES PRINCIPLES OF CONSOLIDATION The consolidated financial statements include accounts of the Company and StemCells California, Inc., a wholly owned subsidiary. Significant intercompany accounts have been eliminated in consolidation. USE OF ESTIMATES The preparation of the consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates. CASH EQUIVALENTS AND MARKETABLE SECURITIES Cash equivalents include funds held in investments with original maturities of three months or less when purchased. The Company's policy regarding selection of investments, pending their use, is to ensure safety, liquidity, and capital preservation while obtaining a reasonable rate of return. Marketable securities consist of investments in agencies of the U.S. government, investment grade corporate notes and money market funds. The fair values for marketable securities are based on quoted market prices. The Company determines the appropriate classification of cash equivalents and marketable securities at the time of purchase and reevaluates such designation as of each balance sheet date. The Company classifies such holdings as available-for-sale securities, which are carried at fair value, with unrealized gains and losses reported as a separate component of stockholders' equity. PROPERTY, PLANT AND EQUIPMENT Property, plant and equipment, including that held under capitalized lease obligations, is stated at cost and depreciated using the straight-line method over the estimated life of the respective asset, as follows: Building and improvements 3--15 years Machinery and equipment 3--10 years Furniture and fixtures 3--10 years PATENT COSTS The Company capitalizes certain patent costs related to patent applications. Accumulated costs are amortized over the estimated economic life of the patents, not to exceed 17 years, using the straight-line method, commencing at the time the patent is issued. Costs related to patent applications are written off to expense at the time such patents are deemed to have no continuing value. At December 31, 1999 and 1998, total costs capitalized were $718,000 and $4,285,000 and the related accumulated amortization were $9,000 35
CYTOTHERAPEUTICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) and $347,000, respectively. Patent expense totaled $539,000, $3,000, and $365,000 in 1999, 1998 and 1997, respectively. In December 1999, the Company sold its Encapsulated Cell Technology ("ECT") to Neurotech, S.A. for an initial payment of $3,000,000, royalties on future product sales, and a portion of certain Neurotech revenues from third parties in return for the assignment to Neurotech of intellectual property assets relating to ECT. In addition, the Company retained certain non-exclusive rights to use ECT in combination with its proprietary stem cell technology and in the field of vaccines for prevention and treatment of infectious diseases. The patent portfolio that was sold had a net book value of $3,180,000. STOCK BASED COMPENSATION The Company grants qualified stock options for a fixed number of shares to employees with an exercise price equal to the fair market value of the shares at the date of grant. The Company accounts for stock option grants in accordance with APB Opinion No. 25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES, and, accordingly, recognizes no compensation expense for qualified stock option grants. For certain non-qualified stock options granted, the Company recognizes as compensation expense the excess of the deemed fair value of the common stock issuable upon exercise of such options over the aggregate exercise price of such options. The compensation is amortized over the vesting period of each option or the recipient's term of employment, if shorter. INCOME TAXES The liability method is used to account for income taxes. Deferred tax assets and liabilities are determined based on differences between financial reporting and income tax bases of assets and liabilities as well as net operating loss carry forwards and are measured using the enacted tax rates and laws that are expected to be in effect when the differences reverse. Deferred tax assets may be reduced by a valuation allowance to reflect the uncertainty associated with their ultimate realization. REVENUE FROM COLLABORATIVE AGREEMENTS Revenues from collaborative agreements are recognized as earned upon either the incurring of reimbursable expenses or the achievement of certain milestones. Payments received in advance of research performed are designated as deferred revenue. NET LOSS PER SHARE Net loss per share is computed using the weighted average number of shares of common stock outstanding. Common equivalent shares from stock options and warrants are excluded, as their effect is antidilutive. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS The Securities Exchange Commission's recently issued Staff Accounting Bulletin No. 101 provides guidance on revenue recognition that may impact the Company's future reporting relative to revenues received from collaborative and similar agreements. 36
CYTOTHERAPEUTICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999 3. SALE OF 6% CUMULATIVE CONVERTIBLE PREFERRED STOCK On April 13, 2000, the Company completed arrangements to sell 1,500 shares of 6% cumulative convertible preferred stock plus a warrant for 75,000 shares of the Company's common stock to a member of its Board of Directors for $1,500,000, on terms more favorable than it was then able to obtain from outside investors. The shares are convertible at the option of the holder into common stock at a price to be determined by reference to the price of the Company's common stock for a period approximately from April 12, 2000 through the twentieth trading day following the filing of this Form 10-K. The conversion price may be below the trading market price of the stock at the time of conversion. The holder of the preferred stock has liquidation rights equal to his original investment plus accrued but unpaid dividends. The investor would be entitled to make additional investments in the Company on the same terms as those on which the Company completes offerings of its securities with third parties within 6 months, if any such offerings are completed. If offerings totalling at least $6 million are not completed during the 6 months, the investor has the right to acquire up to 1,500 additional shares of convertible preferred stock at a pre-determined per share. Any unconverted preferred stock is converted, at the applicable conversion price, on April 13, 2002 in the case of the original stock and two years after the first acquisition of any of the additional 1,500 shares, if any are acquired. The warrant expires on April 13, 2005. 4. WIND-DOWN OF ENCAPSULATED CELL TECHNOLOGY RESEARCH AND DEVELOPMENT PROGRAM Wind-down expenses totaled $6,048,000 for the year ended December 31, 1999; no such expenses were incurred in 1998 and 1997. These expenses relate to the wind-down of the Company's encapsulated cell technology research and development program and the Company's other Rhode Island operations, the transfer of the Company's corporate headquarters to Sunnyvale, California and an accrual for the Company's estimate of the costs of settlement of a 1989 funding agreement with the Rhode Island Partnership for Science and Technology ("RIPSAT") associated with the Company's pilot manufacturing facility. 5. STEMCELLS CALIFORNIA, INC. In September 1997, a merger of a wholly owned subsidiary of the Company and StemCells California, Inc. was completed in the form of a purchase. Through the merger, the Company acquired StemCells for a purchase price totaling approximately $9,475,000, consisting of 1,320,691 shares of the Company's common stock and options and warrants for the purchase of 259,296 common shares at nominal consideration, valued at $7,900,000 in the aggregate, the assumption of certain liabilities of $934,000 and transaction costs of $641,000. The purchase price was allocated, through a valuation, to license agreements valued at $1,131,000 to be amortized over three years and acquired research and development of $8,344,000, which was expensed. As part of the acquisition of StemCells, Richard M. Rose, M.D., became President, Chief Executive Officer and director of the Company and Dr. Irving Weissman became a director of the Company. Upon consummation of the merger, the Company entered into consulting arrangements with the principal scientific founders of StemCells: Dr. Irving Weissman, Dr. Fred H. Gage and Dr. David Anderson. Additionally, in connection with the merger, the Company was granted an option by the former shareholders of StemCells to repurchase 500,000 of the Company's shares of Common Stock exchanged for StemCells shares, upon the occurrence of certain events. To attract and retain Drs. Rose, Weissman, Gage and Anderson, and to expedite the progress of the Company's stem cell program, the Company awarded these individuals options to acquire a total of 37
CYTOTHERAPEUTICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999 5. STEMCELLS CALIFORNIA, INC. (CONTINUED) approximately 1.6 million shares of the Company's common stock, at an exercise price of $5.25 per share, the quoted market price at the grant date; approximately 100,000 of these options were exercisable immediately, 1,031,000 of these options vest and become exercisable only upon the achievement of specified milestones related to the Company's stem cell development program and the remaining 469,000 options vest over eight years. In connection with the 469,000 options issued to a non-employee, Dr. Anderson, the Company recorded deferred compensation of $1,750,000, the fair value of such options at the date of grant, which will be amortized over an eight-year period. If the milestones specified relating to the 1,031,000 option grant are achieved, at that time the Company will record compensation expense for the excess of the quoted market price of the common stock over the exercise price of $5.25 per share for 562,000 options and the fair market value for 469,000 of such options determined using the Black-Scholes method. The Company has also designated a pool of 400,000 options to be granted to persons in a position to make a significant contribution to the success of the stem cell program. Stem cell research will be conducted pursuant to the provisions of an agreement between the Company and Drs. Weissman and Gage providing for a two-year research plan. If the goals of the research plan are accomplished, the Company has agreed to fund continuing stem cell research. Increases in stem cells research funding of not more than 25% a year will be funded by the Company as long as the goals of the research plan are being met. However, the Company will retain the option of (i) ceasing or reducing neural stem cell research even if all research plan goals are met, but will be required to accelerate the vesting of all still-achievable performance based stock options, and (ii) ceasing or reducing non-neural stem cell research even if all plan goals are being met by affording the scientific research founders the opportunity to continue development of the non-neural stem cell research by licensing the technology related to such research to the founders in exchange for a payment to the Company equal to all prior Company funding for such research, plus royalty payments. 6. MODEX In October 1997, the Company completed a series of transactions, which resulted in the establishment of its previously 50%-owned Swiss subsidiary, Modex Therapeutiques, S.A., (Modex) as an independent company. In the transactions, the Company reduced its ownership interest from 50% to approximately 25% in exchange for $4 million cash and elimination of its prior contingent obligation to contribute an additional Sfr 2.4 million (approximately $1.7 million) to Modex in July 1998. In the transactions, all of the put and call arrangements between the Company and other stockholders of Modex were eliminated and the Company forgave $463,000 due from Modex to the Company. The Company recorded a gain on the transactions of $3,387,000. In April 1998, Modex completed an additional equity offering, in which the Company did not participate. This resulted in a reduction in the Company's ownership to less than 20% ownership; therefore, the Company accounts for this investment under the cost method. The pre-existing royalty-bearing Cross License Agreement between the Company and Modex was assigned by the Company to Neurotech S.A., a privately held French company, as part of the sale of the intellectual property assets related to the Company's encapsulated cell therapy technology to Neurotech. Under the terms of the sale to Neurotech, the Company will receive a portion of revenues Neurotech receives from Modex under the Cross License Agreement. 38
CYTOTHERAPEUTICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999 7. MARKETABLE SECURITIES During 1999, the Company sold all of its remaining marketable equitable securities. At December 31, 1999, all of the Company's available funds were held in cash and cash equivalents. The following is a summary of available-for-sale securities held at December 31, 1998: DECEMBER 31, 1998 --------------------------------------------------- GROSS GROSS UNREALIZED UNREALIZED ESTIMATED COST LOSSES GAINS FAIR VALUE ----------- ---------- ---------- ----------- U.S. government securities..................... $ 1,500,994 $1,720 $ (504) $ 1,502,210 U.S. corporate securities...................... 9,225,095 3,244 (9,658) 9,218,681 ----------- ------ -------- ----------- Total debt securities.......................... $10,726,089 $4,964 $(10,162) 10,720,891 =========== ====== ======== Debt securities included in cash and cash equivalents.................................. (1,199,952) =========== Debt securities included in marketable securities................................... $ 9,520,939 =========== 8. PROPERTY, PLANT AND EQUIPMENT Property, plant and equipment consists of the following: DECEMBER 31, ----------------------- 1999 1998 ---------- ---------- Building and improvements............................ $5,666,987 $5,665,077 Machinery and equipment.............................. 3,144,107 9,887,251 Furniture and fixtures............................... 219,260 869,831 ---------- ---------- 9,030,354 16,422,159 Less accumulated depreciation and amortization....... 3,778,978 8,066,150 ---------- ---------- $5,251,376 $8,356,009 ========== ========== Depreciation and amortization expense was $1,436,000, $1,720,000, and $1,778,000 for the years ending December 31, 1999, 1998 and 1997, respectively. As part of the Company's restructuring of its operations, sale of its encapsulated cell technology ("ECT"), and relocation of its corporate headquarters to Sunnyvale, California, the Company identified fixed assets associated with the ECT or otherwise no longer needed. In December of 1999, the Company disposed of these excess fixed assets, realizing proceeds of approximately $746,000. These assets had a net book value of approximately $1,063,000 after a third quarter write-down of $800,000. Certain property, plant and equipment have been acquired under capitalized lease obligations. These assets totaled $5,827,000 and $6,587,000, at December 31, 1999 and 1998, respectively, with related accumulated amortization of $2,747,000 and $2,860,000 at December 31, 1999 and 1998, respectively. 39
CYTOTHERAPEUTICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999 9. OTHER ASSETS Other assets are as follows: DECEMBER 31, ----------------------- 1999 1998 ---------- ---------- Patents, net......................................... $ 708,823 $3,938,755 License agreements, net.............................. 282,750 659,750 Security deposit--building lease..................... 750,000 750,000 Restricted cash...................................... -- 603,467 Deferred financing costs, net........................ 117,195 123,701 ---------- ---------- $1,858,768 $6,075,663 ========== ========== At December 31, 1999 and 1998, accumulated amortization was $857,000 and $818,000, respectively, for patents and license agreements. 10. ACCRUED EXPENSES Accrued expenses are as follows: DECEMBER 31, ----------------------- 1999 1998 ---------- ---------- External services.................................... $2,031,961 $ 412,253 Employee compensation................................ 306,342 262,679 Collaborative research............................... 222,140 196,505 Other................................................ 344,625 148,682 ---------- ---------- $2,905,068 $1,020,119 ========== ========== 11. LEASES The Company has undertaken direct financing transactions with the State of Rhode Island and received proceeds from the issuance of industrial revenue bonds totaling $5,000,000 to finance the construction of its pilot manufacturing facility. The related leases are structured such that lease payments will fully fund all semiannual interest payments and annual principal payments through maturity in August 2014. Fixed interest rates vary with the respective bonds' maturities, ranging from 5.1% to 9.5%. The bonds contain certain restrictive covenants which limit, among other things, the payment of cash dividends and the sale of the related assets. In addition, the Company was required to maintain a debt service reserve until December 1999. On March 3, 2000 the Company entered into a settlement agreement with RIPSAT, the Rhode Island Industrial Recreational Building Authority ("IRBA") and the Rhode Island Industrial Facilities Corporation ("RIIFC"). The Company agreed to pay RIPSAT $1,172,000 in full satisfaction of all obligations of the Company to RIPSAT under the Funding Agreement dated as of June 22, 1989. On execution and delivery of this Agreement, IRBA agreed to return to the Company the full amount of the Company's debt serve reserve ("Reserve Funds"), approximately $610,000 of principal and interest, relating to the bonds the Company has with IRBA and RIIFC. In order to avoid the loss of 40
CYTOTHERAPEUTICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999 11. LEASES (CONTINUED) interest on the Reserve Funds due to early termination of certain investments, the parties agreed that the Company would render a net payment to RIPSAT in the amount of approximately $562,000. In 1997, the Company completed construction of a new headquarters and laboratory facility. In November 1997, the Company entered into sale and leaseback agreements with a real estate investment trust. Under the terms of these agreements, the Company sold its new facility for $8,000,000, incurring a $342,000 loss on the sale. The Company simultaneously entered into a fifteen-year lease for the facility. The lease agreement calls for minimum rent of $750,000 for the first five years, $937,500 for years six to ten, $1,171,900 for years eleven to fourteen and $1,465,000 in year fifteen, with a $750,000 security deposit held for the term of the lease. The Company is recognizing rent expense on a straight line basis. At December 31, 1999, the Company has incurred $426,790 in deferred rent expense. Future minimum capitalized lease obligations with non-cancelable terms in excess of one year at December 31, 1999, are as follows: 2000........................................................ $ 606,268 2001........................................................ 589,217 2002........................................................ 519,719 2003........................................................ 436,909 2004........................................................ 425,713 Thereafter.................................................. 2,577,826 ---------- Total minimum lease payments................................ 5,302,407 Less amounts representing interest.......................... 2,041,157 ---------- Present value of minimum lease payments..................... 3,261,250 Less current maturities..................................... 324,167 ---------- Capitalized lease obligations, less current maturities...... $2,937,083 ========== Rent expense for the years ended December 31, 1999, 1998 and 1997, was $947,000, $1,052,000 and $499,000, respectively. 12. LONG-TERM DEBT Long-term debt is as follows: DECEMBER 31, ----------------------- 1999 1998 ---------- ---------- Term note payable, interest at the prime rate plus 1/2% (8.75% at December 31, 1998), principal payments commence in August 1998, due ratably through May 2000; secured by certain equipment (prepaid during 1999).............................. $ -- $1,500,000 Current maturities of long-term debt................. -- 1,000,000 ---------- ---------- Long-term debt, less current maturities.............. -- $ $500,000 ========== ========== 41
CYTOTHERAPEUTICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999 13. REDEEMABLE COMMON STOCK In November 1996, the Company signed certain collaborative development and licensing agreements with Genentech, Inc, including one under which Genentech purchased 829,171 shares of redeemable common stock for $8.3 million to fund development of products to treat Parkinson's disease. The Agreement also provided that Genentech had the right, at its discretion, to terminate the Parkinson's program at specified milestones in the program, and that if the program were terminated, Genentech had the right to require the Company to repurchase from Genentech the shares of the Company's common stock having a value equal to the amount by which the $8.3 million exceeded the expenses incurred by the Company in connection with such studies by more than $1 million, based upon the share price paid by Genentech. Accordingly, the common stock is classified as redeemable common stock until such time as the related funds are expended. At December 31, 1998, $3,051,000 had been spent on the collaboration with Genentech and, accordingly, the Company has reclassified those common shares and related value to stockholders' equity. On May 21, 1998, Genentech exercised its right to terminate the collaboration and negotiations ensued with respect to the amount of redeemable common stock to be redeemed in accordance with the agreement and the method of such redemption. In March 2000, the Company reached a settlement of this matter with Genentech. Under the settlement agreement, Genentech released the Company from any obligation to redeem any shares of the Company's Common Stock held by Genentech. Accordingly, the Company will reclassify the amount currently recorded as Redeemable Common Stock ($5,248,000) to Stockholders' Equity in March 2000. The Company and Genentech also agreed that all of the agreements between them were terminated and that neither had any claim to the intellectual property of the other. 14. COMMON STOCK TO BE ISSUED In 1998, the Company entered into an agreement with a Company advisor, under which the advisor prepared a strategic and business overview and provided related implementation support for the Company. The advisor agreed to accept cash and the Company's common stock as partial payment for its services. In 1999, the Company issued the $187,500 of common stock due to the advisor. 15. STOCKHOLDERS' EQUITY STOCK OPTION AND EMPLOYEE STOCK PURCHASE PLANS The Company has adopted several stock plans that provide for the issuance of incentive and nonqualified stock options, performance awards and stock appreciation rights, at prices to be determined by the Board of Directors, as well as the purchase of Common Stock under an employee stock purchase plan at a discount to the market price. In the case of incentive stock options, such price will not be less than the fair market value on the date of grant. Options generally vest ratably over four years and are exercisable for ten years from the date of grant or within three months of termination. At December 31, 1999, the Company had reserved 2,603,736 shares of common stock for the exercise of stock options. 42
CYTOTHERAPEUTICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999 15. STOCKHOLDERS' EQUITY (CONTINUED) The following table presents the combined activity of the Company's stock option plans (exclusive of the plans noted below) for the years ended December 31: 1999 1998 1997 -------------------------- --------------------------- -------------------------- WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE --------- -------------- ---------- -------------- --------- -------------- Outstanding at January 1...... 1,654,126 $3.62 2,446,573 $7.48 2,423,025 $8.34 Granted....................... 536,078 1.08 1,174,118 1.70 679,074 5.33 Exercised..................... (604,362) 1.50 (11,012) .12 (82,737) 2.96 Canceled...................... (646,507) 5.31 (1,955,553) 7.08 (572,789) 9.21 --------- ----- ---------- ----- --------- ----- Outstanding at December 31.... 939,335 $2.65 1,654,126 $3.62 2,446,573 $7.48 ========= ===== ========== ===== ========= ===== Options exercisable at December 31................. 594,216 $3.44 1,108,936 $4.33 1,338,163 $7.79 ========= ===== ========== ===== ========= ===== In addition to the options noted above, in conjunction with the StemCells California merger, StemCells California options originally issued under a prior StemCells California options plan were exchanged for options to purchase 250,344 shares of the Company's common stock at $.01 per share; 75,384 of these options are exercisable at December 31, 1997, 96,750 of these options vest and become exercisable only upon achievement of specified milestones, and the remaining 78,210 options vest over three years from the date of grant. Additionally, the Company adopted the 1997 CytoTherapeutics, Inc. StemCells California Research Stock Option Plan (the StemCells California Research Plan) whereby an additional 2,000,000 shares of Common Stock have been reserved. During 1997, the Company awarded options under the StemCells Research Plan to purchase 1.6 million shares of the Company's common stock to the Chief Executive Officer and scientific founders of StemCells at an exercise price of $5.25 per share; approximately 100,000 of these options are exercisable immediately, 1,031,000 of these options vest and become exercisable only upon achievement of specified milestones and the remaining 469,000 options vest over eight years. FAS 123 DISCLOSURES The Company has adopted the disclosure provisions only of Statement of Financial Accounting Standards No. 123, ACCOUNTING FOR STOCK-BASED COMPENSATION ("FAS 123") and accounts for its stock option plans in accordance with the provisions of APB 25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES. 43
CYTOTHERAPEUTICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999 15. STOCKHOLDERS' EQUITY (CONTINUED) The following table presents weighted average price and life information about significant option groups outstanding at December 31, 1999: OPTIONS OUTSTANDING OPTIONS EXERCISABLE ------------------------------------ ---------------------- WEIGHTED AVERAGE WEIGHTED WEIGHTED REMAINING AVERAGE AVERAGE RANGE OF NUMBER CONTRACTUAL EXERCISE NUMBER EXERCISE EXERCISE PRICES OUTSTANDING LIFE (YRS.) PRICE EXERCISABLE PRICE - ------------------------------------------------ ----------- ----------- -------- ----------- -------- Less than $5.00................................. 755,398 8.50 $1.12 411,945 $ 1.02 $5.01--$10.00................................... 90,687 4.56 6.55 89,021 6.55 Greater than $10.00............................. 93,250 2.54 11.18 93,250 11.18 ------- ------- 939,335 594,216 ======= ======= Pursuant to the requirements of FAS 123, the following are the pro forma net loss and net loss per share amounts for 1999, 1998, and 1997, as if the compensation cost for the option plans and the stock purchase plan had been determined based on the fair value at the grant date for grants in 1999, 1998, and 1997, consistent with the provisions of FAS 123: 1999 1998 1997 --------------------------- --------------------------- --------------------------- AS REPORTED PRO FORMA AS REPORTED PRO FORMA AS REPORTED PRO FORMA ------------ ------------ ------------ ------------ ------------ ------------ Net loss............. $(15,708,626) $(15,764,569) $(12,627,830) $(14,919,389) $(18,113,580) $(19,924,437) Net loss per share... $(.84) $(.84) $(.69) $(.82) $(1.08) $(1.19) The weighted average fair value per share of options granted during 1999, 1998 and 1997 was $.88, $.82 and $3.40, respectively. The fair value of options and shares issued pursuant to the stock purchase plan at the date of grant were estimated using the Black-Scholes model with the following weighted average assumptions: OPTIONS STOCK PURCHASE PLAN ------------------------------------ ------------------------------------ 1999 1998 1997 1999 1998 1997 -------- -------- -------- -------- -------- -------- Expected life (years)........................ 5 5 5 5 .5 .5 Interest rate................................ 5.5% 5.2% 6.2% 5.0% 4.64% 5.5% Volatility................................... 96.7% 63.5% 59.0% 96.7% 63.5% 59.0% The Company has never declared nor paid dividends on any of its capital stock and does not expect to do so in the foreseeable future. The effects on 1999, 1998 and 1997 pro forma net loss and net loss per share of expensing the estimated fair value of stock options and shares issued pursuant to the stock purchase plan are not necessarily representative of the effects on reporting the results of operations for future years as the period presented includes only four, three or two years, respectively, of option grants under the Company's plans. As required by FAS 123, the Company has used the Black-Scholes model for option valuation, which method may not accurately value the options described. 44
CYTOTHERAPEUTICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999 15. STOCKHOLDERS' EQUITY (CONTINUED) STOCK WARRANTS In conjunction with StemCells California merger, the Company exchanged StemCells California warrants for warrants to purchase 8,952 shares of Company common stock at $4.71 per share. In conjunction with various equipment leasing agreements, the Company has outstanding warrants to purchase 31,545 shares of common stock at prices ranging from $4.00 to $9.00 per share. The warrants expire through October 2000. In connection with a public offering of common stock in April 1995, the Company issued warrants to purchase 434,500 shares of common stock at $8 per share. The warrants are nontransferable and expire in April 2000, subject to certain required exercise provisions. In addition to the foregoing rights, the holder of such warrants has the right, in the event the Company issues additional shares of common stock or other securities convertible into common stock, to purchase at the then market price of such common stock, sufficient additional shares of common stock to maintain the warrant holder's percentage ownership of the Company's common stock at 15%. This right, subject to certain conditions and limitations, expires in April 2000. COMMON STOCK RESERVED The Company has reserved 6,461,846 shares of common stock for the exercise of options, warrants and other contingent issuances of common stock. 16. RESEARCH AGREEMENTS In November 1997, StemCells California, Inc., a wholly owned subsidiary of the Company, signed a Research Funding and Option Agreement with The Scripps Research Institute ("Scripps") relating to certain stem cell research. Under the terms of the Agreement, StemCells agreed to fund research in the total amount of approximately $931,000 at Scripps over a period of three years. StemCells paid Scripps approximately $77,000 in 1997, $307,000 in 1998, and $309,000 in 1999. In addition, the Company agreed to issue to Scripps 4,837 shares of the Company's common stock and a stock option to purchase 9,674 shares of the Company's Common Stock with an exercise price of $.01 per share upon the achievement of specified milestones. Under the Agreement, StemCells has an option for an exclusive license to the inventions resulting from the sponsored research, subject to the payment of royalties and certain other amounts, and is obligated to make payments totaling $425,000 for achievement of certain milestones. In April 1997, the Company entered into an agreement with Neurospheres, Ltd., which superseded all previous licensing agreements and settled a dispute with Neurospheres. Under the terms of the settlement, the Company has an exclusive royalty bearing license for growth-factor responsive stem cells for transplantation. Neurospheres had an option to acquire co-exclusive rights but did not exercise by the April 1998 deadline. The Company retains exclusive rights for transplantation. The parties have no further research obligations to each other. In February 1997, CytoTherapeutics and Cognetix, Inc. entered into a Collaboration and Development Agreement related to the Company's former encapsulated cell technology. As part of the agreement with Cognetix, the Company purchased $250,000 of Cognetix preferred stock and, subject to certain milestones, was obligated to purchase as much as $1,500,000 of additional Cognetix stock over the next 45
CYTOTHERAPEUTICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999 16. RESEARCH AGREEMENTS (CONTINUED) year. In July 1997, the Company loaned $250,000 to Cognetix which was repaid with interest in October 1997. In October 1998, the Company sold the $250,000 of preferred stock back to Cognetix for $298,914. Under the terms of one of those agreements, Genentech purchased 829,171 shares of redeemable common stock for $8.3 million to fund development of products to treat Parkinson's disease. Genentech had the right, at its discretion, to terminate the Parkinson's program at specified milestones in the program. The Agreement also provided that if the Parkinson's program were terminated and the funds of the Company received from the sale of stock to Genentech pursuant to the Parkinson's agreement exceeded the expenses incurred by the Company in connection with such studies by more than $1 million, Genentech had the right to require the Company to repurchase from Genentech shares of the Company's common stock having a value equal to the over funding, based upon the share price paid by Genentech. As such, the common stock purchased by Genentech has been classified as redeemable common stock until the funds are expended on the program. On May 21, 1998, Genentech exercised its right to terminate the collaboration and negotiations ensued with respect to the amount of redeemable common stock to be redeemed in accordance with the agreement and the method of such redemption. In March 2000 the Company announced the settlement of this matter with Genentech. (SEE NOTE 18--"SUBSEQUENT EVENTS" RELATING TO THE SETTLEMENT OF AND TERMINATION OF THE GENENTECH AGREEMENTS.) In March 1995, the Company signed a collaborative research and development agreement with AstraZeneca for the development and marketing of certain encapsulated-cell products to treat pain. AstraZeneca made an initial, nonrefundable payment of $5,000,000, included in revenue from collaborative agreements in 1995, a milestone payment of $3,000,000 in 1997 and was to remit up to an additional $13,000,000 subject to achievement of certain development milestones. Under the agreement, the Company was obligated to conduct certain research and development pursuant to a four-year research plan agreed upon by the parties. Over the term of the research plan, the Company originally expected to receive annual payments of $5 million to $7 million from AstraZeneca, which was to approximate the research and development costs incurred by the Company under the plan. Subject to the successful development of such products and obtaining necessary regulatory approvals, AstraZeneca was obligated to conduct all clinical trials of products arising from the collaboration and to seek approval for their sale and use. AstraZeneca had the exclusive worldwide right to market products covered by the agreement. Until the later of either the expiration of all patents included in the licensed technology or a specified fixed term, the Company was entitled to a royalty on the worldwide net sales of such products in return for the marketing license granted to AstraZeneca and the Company's obligation to manufacture and supply products. AstraZeneca had the right to terminate the original agreement beginning April 1, 1998. On June 24, 1999, AstraZeneca informed the Company of the results of AstraZeneca's analysis of the double-blind, placebo-controlled trial of the Company's encapsulated bovine cell implant for the treatment of severe, chronic pain in cancer patients. AstraZeneca determined that, based on criteria it established, the results from the 85-patient trial did not meet the minimum statistical significance for efficacy established as a basis for continuing worldwide trials for the therapy. AstraZeneca therefore indicated that it did not intend to further develop the bovine cell-containing implant therapy and executed its right to terminate the agreement. The Company has entered into other collaborative research agreements whereby the Company funds specific research programs. Pursuant to such agreements, the Company is typically granted rights to the related intellectual property or an option to obtain such rights on terms to be agreed, in exchange for 46
CYTOTHERAPEUTICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999 16. RESEARCH AGREEMENTS (CONTINUED) research funding and specified royalties on any resulting product revenue. The Company's principal academic collaborations had been with Brown University and Dr. Aebischer and Centre Hospitalier Universitaire Vaudois in Switzerland. However, with the termination of the Company's Encapsulated Cell Technology program and its focusing on the stem cell field, its principal academic collaborations are now with the Scripps Institute and the Oregon Health Science University. Research and development expenses incurred under these collaborations amounted to approximately $868,000, $1,259,000, and $1,326,000 for the years ended December 31, 1999, 1998 and 1997, respectively. 17. INCOME TAXES Due to net losses incurred by the Company in each year since inception, no provision for income taxes has been recorded. At December 31, 1999, the Company had tax net operating loss carry forwards of $96,195,000 and research and development tax credit carry forwards of $4,035,000 which expire at various times through 2019. Due to the "change in ownership" provisions of the Tax Reform Act of 1986, the Company's utilization of its net operating loss carry forwards and tax credits may be subject to annual limitation in future periods. Significant components of the Company's deferred tax assets and liabilities are as follows: DECEMBER 31, --------------------------- 1999 1998 ------------ ------------ Deferred tax assets: Capitalized research and development costs................ $ 4,331,000 $ 28,124,000 Net operating losses...................................... 38,478,000 10,786,000 Research and development credits.......................... 4,035,000 3,646,000 Other..................................................... 928,000 235,000 ------------ ------------ 47,772,000 42,791,000 Deferred tax liabilities: Patents................................................... (246,000) (1,537,000) ------------ ------------ 47,526,000 41,254,000 Valuation allowance....................................... (47,526,000) (41,254,000) ------------ ------------ Net deferred tax assets..................................... $ -- $ -- ============ ============ Since there is uncertainty relating to the ultimate use of the loss carry forwards and tax credits, a valuation allowance has been recognized at December 31, 1999 and 1998, to fully offset the Company's deferred tax assets. The valuation allowance increased $6,272,000 in 1999, due primarily to the increases in net operating loss carry forwards and tax credits offset by reduction in capitalized research and development costs . 18. EMPLOYEE RETIREMENT PLAN The Company has a qualified defined contribution plan covering substantially all employees. Participants are allowed to contribute a fixed percentage of their annual compensation to the plan and the Company may match a percentage of that contribution. The Company matches 50% of employee 47
CYTOTHERAPEUTICS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1999 18. EMPLOYEE RETIREMENT PLAN (CONTINUED) contributions, up to 6% of employee compensation, with the Company's common stock. The related expense was $103,000, $146,000, and $169,000 for the years ended December 31, 1999, 1998 and 1997, respectively. 19. CONTINGENCIES The Company is routinely involved in arbitration, litigation and other matters as part of the ordinary course of its business. While the resolution of any matter may have an impact on the Company's financial results for a particular reporting period, management believes the ultimate disposition of these matters will not have a materially adverse effect on the Company's consolidated financial position or results of operations. 20. SUBSEQUENT EVENTS On April 13, 2000, the Company completed arrangements to sell 1,500 shares of 6% cumulative convertible preferred stock plus a warrant for 75,000 shares of the Company's common stock to a member of its Board of Directors for $1,500,000, on terms more favorable than it was then able to obtain from outside investors. (SEE NOTE 3--"SALE OF 6% CUMULATIVE CONVERTIBLE PREFERRED STOCK.") 48
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT, PROMOTERS AND CONTROL DIRECTORS AND EXECUTIVE OFFICERS The sections entitled "Election of Directors" and "Executive Officer" in the Company's definitive proxy statement for its 2000 Annual Meeting of Shareholders are hereby incorporated by reference. ITEM 11. EXECUTIVE COMPENSATION The section entitled "Executive Compensation" in the Company's definitive proxy statement for its 2000 Annual Meeting of Shareholders is hereby incorporated by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The section entitled "Share Ownership" in the Company's definitive proxy statement for its 2000 Annual Meeting of Shareholders is hereby incorporated by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The section entitled "Certain Relationships and Related Transactions" in the Company's definitive proxy statement for its 2000 Annual Meeting of Shareholders is hereby incorporated by reference. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) Documents filed as part of this Form 10-K. (1) Financial Statement Schedules: Schedules not included herein are omitted because they are not applicable or the required information appears in the Financial Statements or Notes thereto. (2) Exhibits. EXHIBIT NO. TITLE OR DESCRIPTION ----------- -------------------- 3.1* Restated Certificate of Incorporation of the Registrant. 3.2++ Amended and Restated By-Laws of the Registrant. 4.1* Specimen Common Stock Certificate. 4.2++++ Form of Warrant Certificate issued to a certain purchaser of the Registrant's Common Stock in April 1995. 10.4* Amendment to Registration Rights dated as of February 14, 1992 among the Registrant and certain of its stockholders. 10.15* Form of at-will Employment Agreement between the Registrant and most of its employees. 10.20* Form of Agreement for Consulting Services between the Registrant and members of its Scientific Advisory Board. 10.21* Form of Nondisclosure Agreement between the Registrant and its Contractors. 49
EXHIBIT NO. TITLE OR DESCRIPTION ----------- -------------------- 10.28* Master Lease and Warrant Agreement dated April 23, 1991 between the Registrant and PacifiCorp Credit, Inc. 10.29* 1988 Stock Option Plan. 10.30* 1992 Equity Incentive Plan. 10.31* 1992 Stock Option Plan for Non-Employee Directors. 10.32* 1992 Employee Stock Purchase Plan. 10.41**!!!! Development and Supply Agreement dated December 1993 between Registrant and AKZO Faser AG. 10.43##** Research Agreement dated as of February 1, 1994 between Genentech, Inc. and Registrant. 10.44##** Research Agreement dated as of March 16, 1994 between NeuroSpheres, Ltd. and Registrant. 10.47++ Term Loan Agreement dated as of September 30, 1994 between The First National Bank of Boston and Registrant. 10.48++ Lease Agreement between the Registrant and Rhode Island Industrial Facilities Corporation, dated as of August 1, 1992. 10.49++ First Amendment to Lease Agreement between Registrant and The Rhode Island Industrial Facilities Corporation dated as of September 15, 1994. 10.50++ Supplementary Agreement dated as of July 1, 1994 between Akzo Nobel Faser AG and the Registrant. 10.51**++++ Development, Marketing and License Agreement, dated as of March 30, 1995 between Registrant and Astra AB. 10.52++++ Form of Unit Purchase Agreement to be executed by the purchasers of the Common Stock and Warrants offered in April 1995. 10.53+++ Form of Common Stock Purchase Agreement to be executed among the Registrant and certain purchasers of the Registrant's Common Stock. 10.54!** Research and Commercialization Agreement dated as of September 4, 1995 among the Company, Dr. Patrick Aebischer and Canton of Vaud, Switzerland. 10.57!! Convertible loan agreement dated as of July 10, 1996 between the Company and Modex Therapeutiques SA. 10.58### Lease Agreement dated as of November 21, 1997 by and between Hub RI Properties Trust, as Landlord, and CytoTherapeutics, Inc., as Tenant. 10.59!! Modex Therapeutiques SA stockholders voting agreement dated as of July 10, 1996 among Modex, the Company, the Societe Financiere Valoria SA and the other stockholders listed therein. 10.60!! CTI individual stockholders option agreement dated as of July 10, 1996 among the Company and the individuals listed therein. 10.61!! CTI Valoria option agreement dated of July 10, 1996 between the Company and the Societe Financiere Valoria SA. 10.64!!! Term Loan Agreement dated as of October 22, 1996 between The First National Bank of Boston and the Registrant. 10.65*** Agreement and Plan of Merger dated as of August 13, 1997 among StemCells, Inc., the Registrant and CTI Acquisition Corp. 10.67*** Consulting Agreement dated as of September 25, 1997 between Dr. Irving Weissman and the Registrant. 10.68### Letter Agreement among each of Dr. Irving Weissman and Dr. Fred H. Gage and the Registrant. 10.69** Amended and Restated Cross License Agreement dated as of October 29, 1997 between Modex Therapeutiques SA and the Registrant. 10.70### Letter Agreement dated as of September 30, 1997 between Dr. Seth Rudnick and the Registrant. 10.71**** StemCells, Inc. 1996 Stock Option Plan. 50
EXHIBIT NO. TITLE OR DESCRIPTION ----------- -------------------- 10.72**** 1997 StemCells Research Stock Option Plan (the "1997 Plan"). 10.73**** Form of Performance-Based Incentive Option Agreement issued under the 1997 Plan. 10.74### Employment Agreement dated as of September 25, 1997 between Dr. Richard M. Rose and the Registrant. 10.75### Employment agreement dated as of April 17, 1997, between John S. McBride and the Registrant. 10.78### Loan Agreement dated as of May 15, 1996 between Fleet National Bank and the Registrant, together with the related Promissory Note executed by the Registrant, and an amendatory agreement dated as of May 15, 1997. 10.79'*> Rights Agreement, dated as of July 27, 1998 between Bank Boston, N.A. as Rights Agent and the Registrant.* 10.80Section** Employment Agreement dated as of June 8, 1998 between Philip K. Yachmetz and the Registrant. 10.81Section** Consulting Services Agreement dated as of July 27, 1998, as amended December 19, 1998 between Dr. John J. Schwartz and the Registrant. 10.82Section** Letter Agreement dated as of December 19, 1998 between John J. Schwartz and the Registrant. 10.83Section** License Agreement dated as of October 27, 1998 between The Scripps Research Institute and the Registrant. 10.84Section** License Agreement dated as of October 27, 1998 between The Scripps Research Institute and the Registrant. 10.85Section** License Agreement dated as of November 20, 1998 between The Scripps Research Institute and the Registrant. 10.87SectionSection** Purchase Agreement and License Agreement dated as of December 29, 1999 between Neurotech S.A. and the Registrant. 10.88** License Agreement dated as of June 1999 between The Scripps Research Institute and the Registrant. 10.89** License Agreement dated as of June 1999 between The Scripps Research Institute and the Registrant. 10.90 Employment Agreement dated as of June 8, 1998, as amended and restated as of June 8, 1999, between Philip K. Yachmetz and the Registrant. 10.91 Letter Agreement dated as of July 1, 1999 between John J. Schwartz and the Registrant. 10.92 Severance Agreement dated as of April 2, 1999 between John McBride and the Registrant. 10.93 Severance Agreement dated as of August 30, 1999 between Moses Goddard, M.D. and the Registrant. 10.94 Employment Agreement dated as of November 17, 1999 between George W. Dunbar Jr. and the Registrant. 10.95 Agreement dated as of November 17, 1999 between iCEO, LLC and the Registrant. 21 Subsidiaries of the Registrant. 23.1 Consent of Ernst & Young LLP, Independent Auditors. 27 Financial Data Schedule for fiscal year ended December 31, 1999. 99 Cautionary Factors Relevant to Forward-Looking Information. 51
- ------------------------ ++ Previously filed with the Commission as Exhibits to, and incorporated herein by reference to, the Registrant's Registration Statement on Form S-1, File No. 33-85494. +++ Previously filed with the Commission as Exhibits to, and incorporated herein by reference to, the Registrant's Registration Statement on Form S-3, File No. 33-97272. ++++ Previously filed with the Commission as Exhibits to, and incorporated herein by reference to, the Registrant's Registration Statement on Form S-1, File No. 33-91228. * Previously filed with the Commission as Exhibits to, and incorporated herein by reference to, Registration Statement on Form S-1, File No. 33-45739. # Previously filed with the Commission as Exhibits to, and incorporated herein by reference to, the Registrant's Annual Report on Form 10-K for fiscal year ended December 31, 1992 and filed March 30, 1993. ** Confidential treatment requested as to certain portions. The term "confidential treatment" and the mark "**" as used throughout the indicated Exhibits mean that material has been omitted and separately filed with the Commission. ## Previously filed with the Commission as Exhibits to, and incorporated herein by reference to, the Registrant's Quarterly Report on Form 10-Q for the quarter ended March 31, 1994 and filed on May 14, 1994. + Previously filed with the Commission as Exhibits to, and incorporated herein by reference to, the Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 1993 and filed on March 30, 1994. ! Previously filed with the Commission as an Exhibit to and incorporated by reference to, the Registrant's Quarterly Report on Form 10-Q for the quarter ended March 31, 1996. !! Previously filed with the Commission as an Exhibit to and incorporated by reference to, the Registrant's Quarterly Report on Form 10-Q for the quarter ended September 30, 1996. !!! Previously filed with the Commission as an Exhibit to, and incorporated herein by reference to, the Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 1996 and filed on March 31, 1997. !!!! Previously filed with the Commission as an Exhibit to, and incorporated herein by reference to, the Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 1995. *** Previously filed with the Commission as Exhibits to, and incorporated herein by reference to, the Registrant's Quarterly Report on Form 10-Q for the quarter ended September 30, 1997 and filed on November 14, 1997. **** Previously filed with the Commission as Exhibits to, and incorporated herein by reference to, the Registrant's Registration Statement on Form S-8, File No. 333-37313. ### Previously filed with the Commission as an Exhibit to, and incorporated herein by reference to, the Registrant's annual report on Form 10-K for the fiscal year ended December 31, 1997 and filed on March 30, 1998. [*] Previously filed with the Commission as an Exhibit to, and incorporated herein by reference to, the Registrant's current report on Form 8-K filed on August 3, 1998. Section Previously filed with the Commission as an Exhibit to, and incorporated herein by reference to, the Registrant's annual report on Form 10-K for the fiscal year ended December 31, 1998 and filed on March 31, 1999. SectionSection Previously filed with the Commission as an Exhibit to, and incorporated herein by reference to, the Registrant's current report on Form 8K on January 14, 2000. (b) Current Reports on Form 8-K. None 52
SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on behalf by the undersigned, thereunto duly authorized. CYTOTHERAPEUTICS, INC. BY: /S/ GEORGE W. DUNBAR, JR. ----------------------------------------- George W. Dunbar, Jr. ACTING PRESIDENT AND CHIEF EXECUTIVE OFFICER Dated: April 14, 2000 Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. SIGNATURE CAPACITY DATE --------- -------- ---- Acting President And Chief GEORGE W. DUNBAR Executive Officer, And Acting ------------------------------------------- Chief Financial Officer April 14, 2000 George W. Dunbar, Jr. (principal executive officer) MARK J. LEVIN Director ------------------------------------------- April 14, 2000 Mark J. Levin DONALD KENNEDY, PH.D. Director ------------------------------------------- April 14, 2000 Donald Kennedy, Ph.D. JOHN J. SCHWARTZ, PH.D. Director, Chairman of the Board ------------------------------------------- April 14, 2000 John J. Schwartz, Ph.D. IRVING L. WEISSMAN, M.D. Director ------------------------------------------- April 14, 2000 Irving L. Weissman, M.D. 53
EXHIBIT 99 CAUTIONARY FACTORS RELEVANT TO FORWARD-LOOKING INFORMATION CYTOTHERAPEUTICS, INC. (THE "COMPANY" OR "WE" OR "US") WISHES TO CAUTION READERS THAT THE FOLLOWING IMPORTANT FACTORS, AMONG OTHERS, IN SOME CASES HAVE AFFECTED AND IN THE FUTURE COULD AFFECT THE COMPANY'S RESULTS AND COULD CAUSE ACTUAL RESULTS AND THE NEEDS AND FINANCIAL CONDITION OF THE COMPANY TO VARY MATERIALLY FROM FORWARD-LOOKING STATEMENTS MADE BY THE COMPANY ON THE BASIS OF MANAGEMENT'S CURRENT EXPECTATIONS. THE BUSINESS IN WHICH THE COMPANY IS ENGAGED IS DEPENDENT ON UNPROVEN TECHNOLOGY, RAPIDLY CHANGING, EXTREMELY COMPETITIVE AND INVOLVES A HIGH DEGREE OF RISK, AND ACCURACY WITH RESPECT TO FORWARD-LOOKING STATEMENTS IS DIFFICULT. Investment in CytoTherapeutics involves a high degree of risk. Some of the following risks relate principally to our business and the industry in which we operate. Other risks relate principally to the securities market and ownership of our stock. The risks described below are not the only ones facing us. Additional risks, not now known to us or that we currently believe to be immaterial, may also adversely affect our business. Our business, financial condition or results of operation could be materially or adversely affected by any of these risks. The trading price of our stock could decline due to any of these risks, and investors may lose all or part of their investment. OUR TECHNOLOGY IS AT AN EARLY STAGE OF DEVELOPMENT. Our stem cells technology is at the early pre-clinical stage and has not yet led to the development of any proposed product. There can be no assurance that our stem cell technology will lead to the development of any proposed product or that any product that may be developed in the future in our stem cell programs will (i) survive and persist in the desired location, (ii) provide the intended therapeutic benefits, (iii) properly differentiate and integrate into existing tissue in the desired manner, or (iv) not cause side effects. Results obtained in early pre-clinical research may not be indicative of the results that will be obtained in later stages of pre-clinical or clinical research. Issues we do not now face because the technology is at an early stage may become relevant in the future. For example, we neither have nor need marketing, sales or distribution capabilities. When and if we develop a product or products, we will need to develop such capabilities or acquire them through licensing or other relationships with partners. There can be no assurance that we will be able either to develop adequate capabilities in-house or to enter into technically and financially acceptable relationships to acquire them. Since stem cells represent a novel form of therapy, there can be no assurance that any products we may develop will be accepted in the marketplace. Moreover, the use of such novel technology could expose us to product liability claims; we cannot be certain that we will be able to obtain adequate liability insurance on commercially reasonable terms or otherwise protect ourselves from such claims. WE HAVE LIMITED LIQUIDITY AND CAPITAL RESOURCES AND MUST OBTAIN SIGNIFICANT CAPITAL RESOURCES IN ORDER TO SUSTAIN OUR RESEARCH AND DEVELOPMENT EFFORTS. We have limited liquidity and capital resources and must obtain substantial additional capital in order to sustain research and development efforts. Substantial additional funds will be required to support our research and development programs, for acquisition of technology and intellectual property rights, and, to the extent we decide to undertake these activities ourselves, for pre-clinical and clinical testing of our anticipated products, pursuit of regulatory approvals, establishment of production capabilities and general administrative expenses. We intend to pursue our needed capital resources through equity and debt financings, corporate alliances, grants and collaborative research arrangements. Our ability to complete any such arrangements successfully will depend upon market conditions and, more specifically, on our progress in our research and development efforts. There can be no assurance that we will obtain the necessary capital resources from any such sources. Lack of necessary funds may require us to delay, reduce or eliminate some or all of 54
our research and development programs or to license our technology or any potential products resulting therefrom to third parties. There can be no assurance that funding will be available to us when needed, if at all, or on terms acceptable to us. WE MAY NEED TO OBTAIN A PARTNER OR PARTNERS TO SUPPORT OUR STEM CELL DEVELOPMENT EFFORTS. Equity and other funds alone may not be sufficient to fund the cost of developing our stem cell technologies and we may be dependent on our ability to reach appropriate partnering arrangements providing support for our stem cell discovery and development efforts. While we have engaged, and expect to continue to engage, in discussions regarding such arrangements, we have not reached any agreement regarding any such arrangement and there can be no assurance that we will be able to obtain any such agreement on terms acceptable to us, if at all. WE HAVE A HISTORY OF OPERATING LOSSES AND THERE CAN BE NO ASSURANCE THAT WE WILL DEVELOP PRODUCTS, OBTAIN PRODUCT REVENUES OR BECOME PROFITABLE. Substantially all of our revenues to date have been derived from, and, for the foreseeable future, substantially all of our revenues are expected to be derived from, cooperative agreements, research grants and income earned on invested funds. We have incurred substantial operating losses in the past; as the financial statements in this Form 10K indicate, we incurred a net loss of approximately $4.568 million in the fourth quarter of 1999, resulting in our holding approximately $4.76 million in cash and cash equivalents at the end of 1999. The Company will continue to incur substantial operating losses in the future in order to conduct our research and development activities and, if those are successful, to fund clinical trials and other expenses. There can be no assurance that we will develop any product candidates, achieve revenues from any product sales or become profitable. WE HAVE SUBSTANTIAL OBLIGATIONS AND POTENTIAL OBLIGATIONS RESULTING FROM THE CONDUCT OF OUR FORMER ENCAPSULATED CELL THERAPY BUSINESS. We continue to have substantial obligations in regard to our former encapsulated cell therapy facilities and administrative offices in Rhode Island, including lease payments and operating costs of approximately $950,000 per year associated with our former Science and Administration Facility ("SAF") in Lincoln, Rhode Island, and debt service payments and operating costs of approximately $1,000,000 per year with respect to our former encapsulated cell therapy pilot manufacturing facility, also located in Lincoln, Rhode Island. We are currently seeking to sublease the SAF and to sell the pilot manufacturing facility, but there can be no assurance that we will succeed in these efforts. Failure in these efforts within a reasonable time period could have a material adverse effect on our liquidity and capital resources and adversely affect our ability to fund further development of our stem cell technology. THERE CAN BE NO ASSURANCE THAT WE WILL REALIZE ANY FURTHER REVENUE FROM THE SALE OF OUR ENCAPSULATED CELL TECHNOLOGY. In December 1999, we sold our encapsulated cell therapy technology to Neurotech S.A. While the sale provides for the possibility of our receiving royalty and other payments from Neurotech, there can be no assurance that any such payments will be received and we do not anticipate receiving any material payments from Neurotech in the near future, if at all. FOUNDERS OF STEMCELLS CALIFORNIA, INC. HAVE THE RIGHT TO CONTROL OUR STEM CELL RESEARCH AND TO REACQUIRE OUR STEM CELL TECHNOLOGY UNDER CERTAIN CIRCUMSTANCES. The agreement by which CytoTherapeutics acquired StemCells California in September 1997, provides for our stem cell research to be conducted pursuant to the provisions of an agreement between CytoTherapeutics and Drs. Irving Weissman and Fred Gage, founders of StemCells California, pursuant to a research plan. For so long as the goals of the research plan are accomplished, the stem cell research will continue to be conducted under an extension of such research plan approved by a Research Committee consisting of two persons chosen by Drs. Gage and Weissman, two chosen by CytoTherapeutics, and a fifth 55
member appointed by Drs. Gage and Weissman, subject to the reasonable approval of CytoTherapeutics. Increases in stem cell research funding of not more than 25% a year approved by the Committee must be funded by CytoTherapeutics as long as the goals of the research plan are being met, provided, however, that CytoTherapeutics will retain the option of ceasing or reducing neural stem cell research even if all research plan goals are being met by accelerating the vesting of all still-achievable performance-based options granted to Drs. Weissman and Gage in connection with the acquisition of StemCells. If we cease or reduce non-neural stem cell research although all research plan goals are being met, however, Drs. Weissman and Gage would have the right to continue development of the non-neural stem cell research by licensing the technology related to such research to the founders in exchange for a payment to CytoTherapeutics equal to all funding for such research, plus royalty payments, which might not reflect fair market value for such technology at such time. PATENT PROTECTION FOR OUR TECHNOLOGY IS IMPORTANT BUT UNCERTAIN. Patent protection for products such as those we propose to develop is highly uncertain and involves complex factual and legal questions. There can be no assurance that any of our current or future patent rights will not be challenged, invalidated or circumvented, or that the rights granted under any such patent will provide competitive advantages to us. Because the first person or entity to discover and obtain a valid patent to a particular stem or progenitor cell may effectively block all others, it will be important to our development efforts for us or our collaborators to be the first to discover any stem cell that we are seeking; failure to do so could have a materially adverse effect on the Company. Proprietary trade secrets and unpatented know-how are also important to our research and development activities. We cannot be certain that others will not develop the same or similar technologies on their own, or that we will be able to protect our trade secrets and unpatented know-how and to keep them secret. WE MAY NEED TO OBTAIN LICENSES TO THIRD PARTY PATENTS. A number of pharmaceutical companies, biotechnology and other companies, universities and research institutions have filed patent applications or have been issued patents related to cell therapy and other technologies potentially relevant to or required by our potential products. We cannot predict which, if any, of any such applications will issue as patents or the claims that might be allowed. We are aware that a number of entities have filed applications relating to stem and/or progenitor cells. We cannot predict the effect of existing patent applications and patents on our technology or any future products we may develop. We may be required to seek licenses from others in order to commercialize our technology. There can be no assurance that we will be able to obtain such licenses on acceptable terms, if at all, or that the patents underlying any such licenses will be valid and enforceable. DEVELOPMENT OF OUR TECHNOLOGY WILL BE SUBJECT TO EXTENSIVE GOVERNMENT REGULATION. Our research and development efforts, as well as any future clinical trials, and the manufacturing and marketing of any products we may develop, will be subject to extensive regulation by governmental authorities in the United States and other countries. The process of obtaining FDA and other required regulatory approvals is lengthy, expensive and uncertain. There can be no assurance that we or our collaborators will be able to obtain the necessary approvals to commence or continue clinical testing or to manufacture or market our potential products in reasonable anticipated time frames, if at all. In addition, the United States Congress and other legislative bodies may enact regulatory reforms or restrictions on the development of new therapies that could adversely affect the regulatory environment in which we operate or the development of any products we may develop. DEVELOPMENT OF OUR STEM CELL TECHNOLOGY MAY BE MATERIALLY ADVERSELY AFFECTED BY REGULATORY CONCERNS REGARDING CELL THERAPY. 56
Regulatory concerns regarding the risk of cell transplantation could lead to restrictions on the testing or use of cells as human therapeutics, which could materially adversely affect our stem cell development programs and the Company itself and could prevent us from developing, producing, licensing or selling products or make the cost of developing or producing products prohibitively high. ACQUISITION OF NEEDED CELLS AND OTHER MATERIALS MAY BE DIFFICULT. There can be no assurance that the Company will successfully identify or develop reliable and ethical sources of the cells required for its potential products and obtain such cells in quantity and quality sufficient to satisfy the commercial requirements of its potential products. WE ARE SIGNIFICANTLY DEPENDENT ON A LIMITED NUMBER OF KEY PERSONNEL. We are highly dependent on the principal members of our management and scientific staff and certain of our outside consultants. Loss of the services of any of these individuals could have a material adverse effect on our operations. In addition, our operations are dependent upon our ability to attract and retain additional qualified scientific and management personnel. There can be no assurance the Company will be able to attract and retain such personnel on acceptable terms given the competition among pharmaceutical, biotechnology and health care companies, universities and research institutions for experienced personnel. WE MAY BE SIGNIFICANTLY DEPENDENT ON THIRD PARTIES. In order to successfully develop and commercialize our technology, we may need to enter into a wide variety of arrangements with corporate sponsors, pharmaceutical companies, universities, research groups and others. There is no assurance that will be able to establish and maintain such arrangements on terms acceptable to us, or to successfully perform our obligations under such arrangements. If any of our collaborators terminates its relationship with us or fails to perform its obligations in a timely manner, the development or commercialization of our technology and any product candidates we may develop may be adversely affected. WE MAY NOT BE ABLE TO KEEP PACE WITH TECHNOLOGICAL CHANGE OR WITH THE ADVANCES OF OUR COMPETITORS. Competitors of the Company are numerous and include major pharmaceutical and chemical companies, biotechnology companies, universities and other research institutions. In addition, we have competitors with substantially greater capital resources, experience in obtaining regulatory approvals and, in the case of commercial entities, experience in manufacturing and marketing pharmaceutical products, than we do. There can be no assurance that our competitors will not succeed in developing technologies and products that are more effective than those being developed by CytoTherapeutics or that would render our technology and products obsolete or non-competitive. HEALTHCARE INSURERS AND OTHER ORGANIZATIONS MAY NOT PAY FOR OUR PRODUCTS OR MAY IMPOSE LIMITS ON REIMBURSEMENTS. In both domestic and foreign markets, sales of potential products is likely to depend in part upon the availability and amounts of reimbursement from third party health care payor organizations, including government agencies, private health care insurers and other health care payors such as health maintenance organizations and self-insured employee plans. There is considerable pressure to reduce the cost of therapeutic products. There can be no assurance that reimbursement will be provided by such payors at all or without substantial delay, or, if such reimbursement is provided, that the approved reimbursement amounts will provide sufficient funds to enable us to sell products we may develop on a profitable basis. Changes in reimbursement policy could also adversely affect the willingness of pharmaceutical companies to collaborate with the Company on the development of our stem cell technology. 57
OUR QUARTERLY OPERATING RESULTS MAY FLUCTUATE. Our operating results have varied, and may in the future continue to vary, significantly from quarter to quarter due to a variety of factors. These factors include the receipt of one-time license or milestone payments under collaborative agreements, costs associated with termination of our encapsulated cell therapy business, variation in the level of expenses related to our research and development efforts, receipt of grants or other support for our research and development efforts, and other factors. Quarterly comparisons of our financial results are not necessarily meaningful and should not be relied upon as an indication of future performance. These fluctuations may cause the price of our stock to fluctuate, perhaps substantially. OUR STOCK PRICE MAY BE VOLATILE. The market price for our Common Stock has been volatile and could decline below the offering price for the shares. We believe that the following factors, among other things, have caused the market price for our Common Stock to fluctuate substantially, and that they will continue to do so in the future: - The results of scientific developments by us or our competitors; - The formation or termination of corporate alliances; - Determinations regarding our patent rights and the patent rights of others; and - Variations in our quarterly operating results. The stock market has recently experienced extreme price and volume fluctuations. These fluctuations have especially affected the market price of the stock of many high technology and health care-related companies. Such fluctuations have often been unrelated to the operating performance of these companies. Nonetheless, these broad market fluctuations may negatively affect the market price of our Common Stock. EVENTS WITH RESPECT TO OUR SHARE CAPITAL COULD CAUSE THE PRICE OF OUR COMMON STOCK TO DECLINE. Sales of substantial amounts of our Common Stock on the open market, or the availability of such shares for sale, could adversely affect the price of our Common Stock. In particular, as of March 20, 2000, stock options to purchase approximately 965,160 shares of Common Stock were outstanding, at an average exercise price of approximately $2.281 per share (subject to adjustment in certain circumstances); of this total, options covering approximately 395,811 shares are currently exercisable at an average exercise price of approximately $3.456 per share. 58
Exhibit 10.88 LICENSE AGREEMENT This License Agreement is entered into and made effective as of this ____day of June, 1999, by and between THE SCRIPPS RESEARCH INSTITUTE, a California nonprofit public benefit corporation ("Scripps") located at 10550 North Torrey Pines Road, La Jolla, California 92037, and STEMCELLS, INC., a California corporation ("Licensee") with offices at 701 George Washington Highway, Lincoln, Rhode Island 02865, a wholly-owned subsidiary of CytoTherapeutics, Inc. ("CTI"), with respect to the facts set forth below. RECITALS A. Scripps and Licensee have entered into a Research Funding and Option Agreement effective as of November 14, 1997 (the "Research Agreement"), pursuant to which Licensee agreed to fund certain research conducted in Dr. Nora Sarvetnick's laboratory at Scripps (the "Research Program"). B. Scripps is engaged in fundamental scientific biomedical and biochemical research, including research relating to pancreatic stem and progenitor cells, as more particularly described herein. C. Licensee is engaged in research and development of stem and progenitor cells for the diagnosis, treatment and prophylaxis of diseases and other conditions in humans and animals. D. Scripps has disclosed to Licensee certain technology described in that certain invention disclosure, a copy of which is attached hereto as Exhibit A and incorporated herein by reference (the "Invention(s)") E. Scripps has the exclusive right to grant a license to the technology described in Exhibit A, subject to certain rights of the U.S. Government to use such technology for its own purposes, resulting from the receipt by Scripps of certain funding from the U. S. Government. F. Scripps desires to grant to Licensee, and Licensee wishes to acquire, an exclusive worldwide right and license to the technology described in the Exhibit A and to certain patent rights and know-how of Scripps with respect thereto, subject to the terms and conditions set forth herein, with a view to developing and marketing products within the Field (as defined below). AGREEMENT NOW, THEREFORE, in consideration of the mutual covenants and conditions set forth herein, Scripps and Licensee hereby agree as follows: 1. Definitions. Capitalized terms shall have the meaning set forth below. 1
1.1 Affiliate. The term "Affiliate" shall mean any entity which directly or indirectly controls, is controlled by or is under common control with Licensee. The term "control" as used herein means the possession of the power to direct or cause direction of the management and the policies of an entity, whether through the ownership of a majority of the outstanding voting securities or by contract or otherwise. 1.2 Confidential Information. The term "Confidential Information" shall mean any and all proprietary or confidential information of Scripps or Licensee which may be exchanged between the parties at any time and from time to time during the term of this Agreement. Information shall not be considered confidential to the extent that it: (a) Is publicly disclosed through no fault of any party hereto, either before or after it becomes known to the receiving party; or (b) Was known to the receiving party prior to the date of this Agreement, which knowledge was acquired independently and not from another party hereto (or such party's employees); or (c) Is subsequently disclosed to the receiving party in good faith by a third party who has a right to make such disclosure; or (d) Has been published by a third party as a matter of right. 1.3 Field. The term "Field" shall mean all medical applications of the Scripps Patent Rights and Scripps Technology in humans and animals. 1.4 Licensed Product. The term "Licensed Product" shall mean a product, the manufacture, sale or use of which would but for the license granted herein, infringe a Valid Claim in the country for which such product is sold. Without limiting the foregoing, Licensed Product shall also include a product the manufacture, sale or use of a particular product would but for the license granted herein infringe a Valid Claim in the United States and at least two (2) Major Countries, in such case irrespective of where such product is made, sold or used and irrespective of whether such product is covered by a Valid Claim in the country where sold. 1.5 Major Countries. The term "Major Countries" shall mean France, Germany, Italy and the United Kingdom. 1.6 Net Sales. The term "Net Sales" shall mean the total amount invoiced to third parties on sales of Licensed Products by Licensee, its Affiliates, or Sublicensees, for which royalties are due under Article 3 below, less the following reasonable and customary deductions to the extent applicable to such invoiced amounts: (i) all trade, cash and quantity credits, discounts, refunds or government rebates; (ii) amounts for claims, allowances or credits for returns, retroactive price reductions, or chargebacks; (iii) packaging, handling fees and prepaid freight, sales taxes, duties and other governmental charges (including value added tax); and (iv) provisions for uncollectible accounts determined in accordance with reasonable accounting practices, consistently applied to all 2
products of the selling party; provided, however, that in the case of Patient-Specific Licensed Products, "Net Sales" shall equal thirty percent (30%) of the foregoing amounts (after the deductions described in (i) through (iv) above). For purposes of the foregoing, it is understood that Net Sales shall include only the amount invoiced for materials consisting of Licensed Products (less the foregoing deductions and adjustments) and shall not include charges related to services (other than cell separation and expansion) performed in connection with the sale of such Licensed Products; accordingly, Net Sales shall not include, without limitation, charges for apheresis, reinfusion, surgical procedures, hospital stays or the like. For the removal of doubt, Net Sales shall not include sales by Licensee to its Affiliates for resale, provided that if Licensee sells a Licensed Product to an Affiliate for resale, Net Sales shall include the amounts invoiced by such Affiliate to third parties on the resale of such Licensed Product. In the event that Licensee grants a sublicense hereunder, and receives payments based upon the Sublicensee's sales of Licensed Products, Licensee may upon approval by Scripps, which approval shall not be unreasonably withheld, substitute the definition of "Net Sales," used by the Sublicensee to calculate payments to Licensee in place of the foregoing definition of "Net Sales" for purposes of calculating royalties payable to Scripps on such Sublicensee's sales. 1.7 Patient-Specific Licensed Product. The term "Patient-Specific Licensed Product shall mean a Licensed Product that includes either (i) autologous cells from the patient; or (ii) nonautologous cells that otherwise are not intended for use in all patients (such as Licensed Products that are fetal cells expressing an HLA-type compatible with the particular patient but not optimally compatible with patients who have a different HLA type). 1.8 Scripps Patent Rights. The term "Scripps Patent Rights" shall mean all rights resulting from: (a) all worldwide patent and patent applications claiming the Scripps Technology described in Exhibit A hereto (the "Existing Patents"); and (b) all divisions, continuations, continuations-in-part, patents of addition, and substitutions of the Existing Patents, together with all registrations, reissues, reexaminations or extensions of any kind with respect to any of the foregoing patents to the extent the same claim Scripps Technology. From time to time during the term of this Agreement the parties agree to record and update on Exhibit B all patents and patent applications within the Scripps Patent Rights In the event that Scripps and Licensee are joint owners of an invention by reason of the fact that personnel of both Scripps and Licensee are joint inventors of such invention, it is understood that the Scripps Patent Rights include only Scripps' rights as a joint owner of the patent applications and patents that claim such joint invention. 1.9 Scripps Technology. The term "Scripps Technology" shall mean so much of the technology as is proprietary to Scripps that was developed in performance of the Research Program and in the disclosure provided to Licensee pursuant to Section 3.2 or 3.3 of the Research 3
Agreement, a copy of which is attached as Exhibit A hereto and incorporated herein by reference, together with materials, information and know-how related thereto from the Research Program as described Exhibit A whether or not the same is eligible for protection under the patent laws of the United States or elsewhere, and whether or not any such processes and technology, or information related thereto, would be enforceable as a trade secret or the copying of which would be enjoined or restrained by a court as constituting unfair competition. 1.10 Sublicensee. The term "Sublicensee" shall mean any non-Affiliate third party to whom Licensee has granted the right to manufacture and sell Licensed Products, with respect to Licensed Products made and sold by such third party. 1.11 Valid Claim. The term "Valid Claim" shall mean a claim of an issued and unexpired patent or a claim of a pending patent application within the Scripps Patent Rights which has not been held unpatentable, invalid or unenforceable by a court or other government agency of competent jurisdiction and has not been admitted to be invalid or unenforceable through reissue, reexamination, disclaimer or otherwise; provided, however, that if the holding of such court or agency is later reversed by a court or agency with overriding authority, the claim shall be reinstated as a Valid Claim with respect to Net Sales made after the date of such reversal. Notwithstanding the foregoing provisions of this Section 1.11, if a claim of a pending patent application within the Scripps Patent Rights has not issued as a claim of an issued patent within the Scripps Patent Rights, within five (5) years after the filing date from which such claim takes priority, such pending claim shall not be a Valid Claim for purposes of this Agreement. 2. License Terms and Conditions. 2.1 Grant of License. (a) Scripps hereby grants to Licensee an exclusive, worldwide license, including the right to sublicense, to: make, use, sell, import, export or otherwise distribute Licensed Products; practice any method, process or procedure, and otherwise exploit the Scripps Patent Rights; and to have any of the foregoing performed on its behalf by a third party, in each case solely within the Field, subject to the terms of this Agreement. (b) Scripps hereby grants to Licensee a non-exclusive, worldwide license, including the right to sublicense to and under the Scripps Technology for the purpose of exercising its rights and licenses under the Scripps Patent Rights. 2.2 Royalties. In consideration for the exclusive license granted pursuant to Section 2.1 hereof, Licensee shall pay to Scripps a continuing royalty the following percentages of Net Sales of each Licensed Product by Licensee, its Affiliates and Sublicensees: (i) two percent (2%) of Net Sales in Patent Countries and (ii) one percent (1%) in Non-Patent Countries. For purposes of calculating royalties due hereunder, a "Patent Country" shall mean, with respect to a particular Licensed Product, a country in which at the time of the sale of such Licensed Product in such country, the manufacture, use or sale of such Licensed Product would infringe a Valid Claim in 4
such country; and a "Non-Patent Country" shall mean, with respect to such Licensed Product, a country which a the time of sale of such Licensed Product in such country is not a Patent Country. 2.3 Milestone Payments. As additional consideration for the exclusive license granted pursuant to Section 2.1 hereof, Licensee agrees to pay to Scripps upon the first occurrence of each milestone specified below for the first Licensed Product to meet such milestone: MILESTONES PAYMENT ---------- ------- 1. First initiation of Phase II Trials for the first $50,000 Licensed Product. 2. First initiation of Phase III Trials for the first $125,000 Licensed Product. 3. First receipt of government approval to $250,000 market and distribute the first Licensed Product in the United States or the first Major Country. For purposes of the foregoing milestones, "Phase II Trials" shall mean that portion of the clinical studies for the FDA submission and approval process which provides for the initial trials of a Licensed Product for the purposes of determining the efficacious therapeutic dose range and evaluating safety in the proposed therapeutic indication as more fully defined in 21 C.F.R. ss. 312.21(b), or a similar clinical study in a country other than the United States; and "Phase III Trials" shall mean that portion of the clinical studies for the FDA submission and approval process which provides for trials of a Licensed Product on sufficient numbers of patients to establish the safety and efficacy of such Licensed Product to support regulatory approval in the proposed application as more fully defined in 21 C.F.R. ss. 3122.21(c), or similar clinical study in a country other than the United States. 2.4 Combination Products. 2.4.1 Definition of Combination Product. As used herein, the term "Combination Product" shall mean a Licensed Product which cannot be manufactured, used or sold without infringing Scripps Patent Rights licensed hereunder in the country where sold which is sold with another product, component or service for which no royalty would be due hereunder if sold separately. 2.4.2 Royalty Payable on Combination Products. The royalty payable on Combination Products shall be the royalty rate set forth in Section 2.2 above based on a pro rata portion of Net Sales of Combination Products in accordance with the following formula: A X= - 5
A + B, where X = the pro rata portion of Net Sales attributable to Scripps Patent Rights or other Scripps Technology licensed herein (expressed as a percentage), and A = the fair market value of the Licensed Product component, and B = the fair market value of all other components (product, component or service) in the Combination Product. The fair market values described above shall be determined by the parties hereto in good faith. Notwithstanding the foregoing, in the event that there is no separate fair market values of the Licensed Product and such other product(s), component(s) and/or services(s), then the Net Sales shall be as reasonably allocated by Licensee between such Licensed Product and such other product(s), component(s) and/or service(s), based upon their relative importance and proprietary position, subject to the consent of Scripps, which consent shall not be unreasonably withheld. 2. 5 Multiple Royalties. If Licensee, its Affiliate or Sublicensee is required to pay a non-Affiliate third party amounts with respect to a Licensed Product under agreements for patent rights or other technologies which Licensee, its Affiliate or Sublicensee, in its reasonable judgment, determines are necessary or desirable to license or acquire with respect to such Licensed Product, Licensee may deduct such amount owing to such non-Affiliate third parties (prior to any reductions) from the royalty owing to Scripps for the sale of such Licensed Product pursuant to Section 2.2 above. Notwithstanding the foregoing provisions of this Section 2.5, in no event shall the royalties due to Scripps pursuant to Section 2.2 above be so reduced to less than fifty percent (50%) of the amount that would otherwise be due Scripps thereunder. 2.6 Quarterly Payments. 2.6.1 Sales by Licensee. With regard to Net Sales made by Licensee or its Affiliates, royalties shall be payable by Licensee quarterly, within sixty (60) days after the end of each calendar quarter, based upon the Net Sales of Licensed Products during such preceding calendar quarter, commencing with the calendar quarter in which the first commercial sale of any Licensed Product is made. 2.6.2 Sales by Sublicensees. With regard to Net Sales made by Sublicensees of Licensee or its Affiliates, royalties shall be payable by Licensee quarterly, within ninety (90) days after the end of each calendar quarter, based upon the Net Sales of Licensed Products by such Sublicensee during such preceding calendar quarter, commencing with the calendar quarter in which the first commercial sale of any Licensed Product is made by such Sublicensee. 2. 7 Term of License. Unless terminated sooner in accordance with the provisions of this Agreement, the term of this license shall expire when the last of the royalty obligations set forth has expired (i.e., until expiration, revocation or invalidation of the last patent or the abandonment of the 6
last application within the Scripps Patent Rights, whichever is later). Notwithstanding the foregoing, if applicable government regulations require a shorter term and/or a shorter term of exclusivity than provided for herein, then the term of this License Agreement shall be so shortened or this License Agreement shall be amended to provide for a non-exclusive license, and, in such event, the parties shall negotiate in good faith to reduce appropriately the royalties payable as set forth under the section heading "Royalties" hereof. Notwithstanding anything herein to the contrary, Licensee's license under Section 2.l(b) with respect to the Scripps Technology shall survive the expiration, (but not an earlier termination, except as provided in Section 8.6 below) of this Agreement. 2.8 Sublicense. Licensee shall have the sole and exclusive right to grant sublicenses to any party with respect to the rights conferred upon Licensee under this Agreement, provided, however, that any such sublicense shall be subject in all respects to the restrictions, exceptions, royalty obligations, reports, termination provisions, and other provisions contained in this Agreement. Without limiting the foregoing, Licensee agrees to provide Scripps a copy of each such sublicense agreement within thirty (30) days of the execution thereof. Licensee shall pay Scripps, or cause its Affiliate or Sublicensee to pay Scripps, the same royalties on all Net Sales of such Affiliate or Sublicensee the same as if said Net Sales had been made by Licensee. Each Affiliate and Sublicensee shall report its Net Sales to Scripps through Licensee, which Net Sales shall be aggregated with any Net Sales of Licensee for purposes of determining the Net Sales upon which royalties are to be paid to Scripps. 2.9 Reports. Licensee shall furnish to Scripps at the same time as each royalty payment is made by Licensee, a detailed written report of Net Sales of the Licensed Products and the royalty due and payable thereon, including a description of any offsets or credits deducted therefrom, on a product-by-product and country-by-country basis, for the calendar quarter upon which the royalty payment is based. 2.10 Records. Licensee shall keep, and cause its Affiliates and Sublicensees to keep, full, complete and proper records and accounts of all sales of Licensed Products in sufficient detail to enable the royalties payable on Net Sales of each Licensed Product to be determined. Scripps shall have the right to appoint an independent certified public accounting firm approved by Licensee, which approval shall not be unreasonably withheld, to audit the records of Licensee, its Affiliates and Sublicensees as necessary to verify the royalties payable pursuant to this Agreement. Licensee, its Affiliates and Sublicensees shall pay to Scripps an amount equal to any additional royalties to which Scripps is entitled as disclosed by the audit, plus interest thereon at the rate of one and one-half percent (1.5%) per month. Such audit shall be at Scripps' expense; provided, however, that if the audit discloses that Scripps was underpaid royalties with respect to the period covered by the audit by at least five percent (5%), then Licensee, its Affiliates or Sublicensee, as the case may be, shall reimburse Scripps for all reasonable out-of-pocket audit costs. Scripps may exercise its right of audit as to each of Licensee, its Affiliates or Sublicensees no more frequently than once in any calendar year. The accounting firm shall disclose to Scripps only information relating to the accuracy of the royalty payments. Licensee, its Affiliates and Sublicensees shall preserve and maintain all such records required for audit for a period of three (3) years after the calendar quarter to which the record applies. 7
2.11 Foreign Sales. The remittance of royalties payable on sales outside the United States shall be payable to Scripps in United States Dollar equivalents at the official rate of exchange of the currency of the country from which the royalties are payable, as quoted in the Wall Street Journal for the last business day of the calendar quarter in which the royalties are payable. If the transfer of or the conversion into the United States Dollar equivalents of any such remittance in any such instance is not lawful or possible, the payment of such part of the royalties as is necessary shall be made by the deposit thereof, in the currency of the county where the sale was made on which the royalty was based to the credit and account of Scripps or its nominee in any commercial bank or trust company of Scripps' choice located in that country, prompt written notice of which shall be given by Licensee to Scripps and except as set forth in Section 2.10 above, Licensee shall have no further obligation with respect to such royalties. 2.12 Foreign Taxes. Any tax required to be withheld by Licensee under the laws of any foreign country for the accounts of Scripps shall be promptly paid by Licensee for and on behalf of Scripps to the appropriate governmental authority, and Licensee shall use its best efforts to furnish Scripps with proof of payment of such tax together with official or other appropriate evidence issued by the applicable government authority. Any such tax actually paid on Scripps' behalf shall be deducted from royalty payments due Scripps hereunder. 2.13 Single Payments. The parties hereto acknowledge that the parties may enter into multiple license agreements with respect to technologies arising out of the Research Agreement, including this Agreement (collectively, the "Scripps License Agreements") pursuant to which Licensee will owe royalties and milestone payments. Notwithstanding anything herein to the contrary, with respect to any unit of Licensed Product only a single royalty shall be due to Scripps at the highest applicable rate for such unit regardless if such Licensed Product is covered by more than one Valid Claim or would be a Licensed Product under more than one Scripps License Agreement. (For example, if a product sold by Licensee is a Licensed Product under this Agreement for which Licensee owes Scripps a royalty of 2% of Net Sales and Licensee would otherwise owe Scripps a royalty of 1% of Net Sales of such product under another Scripps License Agreement, Licensee's royalty obligation to Scripps shall be fulfilled by paying Scripps 2% of Net Sales with respect to sales of such License Product.) Likewise, with respect to the milestone payments under Section 2.3 above, once such milestone payment has been paid for a Licensed Product under any Scripps License Agreement then Licensee's obligation to pay such milestone shall be deemed to be fulfilled with respect to all Scripps License Agreement, regardless of whether the product for which such a milestone payment was paid was a "Licensed Product" for purposes of a particular Scripps License Agreement or not. (For example, if a Licensee initiates Phase II Trials for a product, which product falls within the definition of "Licensed Product" under this Agreement and pays Scripps the corresponding $50,000 payment, Licensee shall have no further obligation to pay any amounts to Scripps with respect to any other product under any Scripps License Agreement upon the initiation of Phase II Trials for a Licensed Product whether or not the product for which Licensee initially paid such milestone payment is a Licensed Product for purposes of any other Scripps License Agreement.) 3. Patent Matters. 8
3.1 Patent Prosecution and Maintenance. From and after the date of this Agreement, the provisions of this Section 3 shall control the prosecution and maintenance of any patent or patent application included within Scripps Patent Rights. Subject to the requirements, limitations and conditions set forth in this Agreement, Scripps shall direct and control (i) the preparation, filing and prosecution of the United States and foreign patent applications within Scripps Patent Rights (including any interferences and foreign oppositions) and (ii) maintain the patents issuing therefrom. Scripps shall select the patent attorney, subject to Licensee's written approval, which approval shall not be unreasonably withheld. Both parties hereto agree that Scripps may, at its sole discretion, utilize Scripps' Office of Patent Counsel in lieu of outside counsel for patent prosecution and maintenance described herein, and the fees and expenses incurred by Scripps with respect to work done by such Office of Patent Counsel shall be paid as set forth below. Licensee shall have full rights of consultation with the patent attorney so selected on all matters relating to Scripps Patent Rights. Scripps shall use its best efforts to implement all reasonable requests made by Licensee with regard to the preparation, filing, prosecution and/or maintenance of the patent applications and/or patents within Scripps Patent Rights. 3.2 Information to Licensee. Scripps agrees to use reasonable efforts to (i) keep Licensee informed as to the filing, prosecution and maintenance of patents and patent applications within the Scripps Patent Rights, (ii) furnish to Licensee copies of documents relevant to any such filing, prosecution and maintenance and (iii) allow Licensee reasonable opportunity to comment on documents filed with any patent office which would affect the Scripps Patent Rights or Licensee' rights hereunder. 3.3 Patent Costs. Licensee acknowledges and agrees that Scripps does not have independent funding to cover patent costs, and that the license granted hereunder is in part in consideration for Licensee's assumption of patent costs and expenses as described herein. Licensee shall pay for all expenses incurred by Scripps pursuant to Section 3.1 hereof. In addition, Licensee agrees to reimburse Scripps for all patent costs and expenses paid or incurred by Scripps to date inconnection with Scripps Patent Rights licensed hereunder. Licensee agrees to pay all such past and future patent expenses directly or to reimburse Scripps for the payment of such expenses within sixty (60) days after Licensee receives an itemized invoice therefor. In the event Licensee elects to discontinue payment for the filing, prosecution and/or maintenance of any patent application and/or patent within Scripps Patent Rights, any such patent application or patent shall be excluded from the definition of Scripps Patent Rights and from the scope of the license granted under this Agreement, and all rights relating thereto shall revert to Scripps and may be freely licensed by Scripps. Licensee shall give Scripps at least sixty (60) days' prior written notice of such election. No such notice shall have any effect on Licensee's obligations to pay expenses incurred up to the effective date of such election. 3.4 Ownership. Subject to any joint or mutual ownership of Licensee by virtue of joint inventorship of inventions covered therein, the patent applications filed and patent applications obtained by Scripps pursuant to Section 3.1 hereof shall be owned solely by Scripps, assigned to Scripps and deemed a part of Scripps Patent Rights. 9
3.5 Scripps Right to Pursue Patent. If at any time during the term of this Agreement, Licensee's rights with respect to Scripps Patent Rights are terminated, Scripps shall have the right to take whatever action Scripps deems appropriate to obtain or maintain the corresponding patent protection at its own expense. If Scripps pursues patents under this Section 3.5, Licensee agrees to cooperate fully, including by providing, at no charge to Scripps, all appropriate technical data and executing all necessary legal documents. 3.6 Prosecution by Licensee. If Scripps elects not to file, prosecute or maintain any patent application or patent within the Scripps Patent Rights or pay any fee related thereto, in any country Scripps shall promptly notify Licensee of such election, but in no case later than sixty (60) prior to any required action relating to the filing, prosecution or maintenance of such patent application or patent. In such event, if Licensee elects to take over the filing, prosecution and/or maintenance of one or more patents or patent applications within the Scripps Patent Rights, Licensee shall have the right, at its option, to control the filing, prosecution and/or maintenance of any such patent applications or patents within the Scripps Patent Rights at its own expense. In which case Licensee shall keep Scripps reasonably informed on matters regarding such filing, prosecution and maintenance. 3.7 Infringement. 3 .7.1 Enforcement. If either party determines that a third party is making, using or selling a product that may infringe the Scripps Patent Rights, that party shall notify the other party in writing. (a) Licensee shall have the first right (itself or through others), at its sole option, to bring suit to enforce the Scripps Patent Rights, and/or to defend any declaratory judgment action with respect thereto, in each case with respect to the manufacture, sale or use of a product within the Field; provided, however, that Licensee shall keep Scripps reasonably informed as to the defense and/or settlement of such action. Scripps shall have the right to participate in any such action with counsel of its own choice at its own expense. (b) In the event Licensee elects not to initiate an action to enforce the Scripps Patent Rights against a commercially significant infringement by a third party within the Field, within one (1) year of a request by Scripps to do so, (or within such shorter period which may be required to preserve the legal rights of Scripps under the laws of the relevant government), Scripps may initiate such action at its expense with Licensee's prior written consent, which consent shall not be unreasonably withheld. Licensee shall have the right to participate in any such action with counsel of its own choice at its own expense. (c) All recoveries received by a party from an action to enforce the Scripps Patent Rights shall be first applied to reimburse the controlling party's and then the non-controlling party's unreimbursed expenses, including without limitation, reasonable attorney's fees and court costs. Any remainder shall, to the extent the same pertains to an infringement of the Scripps Patent Rights, be divided seventy percent (70%) to Licensee and thirty percent (30%) to Scripps. 10
3.7.2 Defense. If Licensee, its Affiliate, Sublicensee, distributor or other customer is sued by a third party charging infringement of patent rights that dominate a claim of the Scripps Patent Rights or that cover other Related Material with respect to the manufacture, use, distribution or sale of a Licensed Product, Licensee will promptly notify Scripps. As between the parties to this Agreement, Licensee will be entitled to control the defense in any such action(s) and withhold one-half (1/2) of the royalties related to such Licensed Product otherwise payable to Scripps and use the withheld royalties to reimburse the legal defense costs, attorneys' fees and liability incurred in such infringement suit(s). Notwithstanding the foregoing, Licensee agrees to withhold only that portion of such royalties as may reasonably be necessary to reimburse amounts in accordance with this Section 3.7.2. If Licensee is required to pay a royalty to a third party to make and/or sell a Licensed Product as a result of a final judgment or settlement, such amounts may be deducted from the running royalties payable to Scripps hereunder in relation to such Licensed Product; provided that such royalties shall not be so reduced by more than fifty percent (50%). Subject to the provisions of Section 4.3 below, Licensee agrees to indemnify and hold Scripps harmless from any costs, expenses or liability arising out of all such infringements or charges of infringement. 3.7.3 Cooperation. In any suit, action or other proceeding in connection with enforcement and/or defense of the Scripps Patent Rights, each party hereto agrees to cooperate fully, including without limitation by joining as a party plaintiff and executing such documents as the other party may reasonably request. Without limiting the foregoing, upon the request of and, at the expense of a party controlling any suit, action or other proceeding pursuant to this Article 3, the other party shall make available at reasonable times and under appropriate conditions all relevant personnel, records, papers, information, samples, specimens and other similar materials in such other party's possession. 3.7.4 No Implied Obligations. Except as expressly provided in this Section 3.7, neither party has any obligation to bring or prosecute actions or suits against any third party for patent infringement. 4. Obligations Related to Commercialization. 4.1 Commercial Development Obligation. In order to maintain the license granted hereunder in force, Licensee shall use reasonable efforts and due diligence to develop Scripps Technology and Scripps Patent Rights which are licensed hereunder into commercially viable Licensed Products, as promptly as is reasonably and commercially feasible, and thereafter to produce and sell reasonable quantities of Licensed Products. Licensee shall keep Scripps generally informed as to Licensee's progress in such development, production and sale, including its efforts, if any, to sublicense Scripps Technology and Scripps Patent Rights, and Licensee shall deliver to Scripps an annual written report and such other reports as Scripps may reasonably request. The parties hereto acknowledge and agree that achievement of mutually agreeable milestones shall be evidence of compliance by Licensee with its commercial development obligations hereunder. Notwithstanding the foregoing, if Licensee believes that it cannot, within the exercise of prudent and reasonable business judgment, perform any mutually agreed upon milestones within the time period required therefor, Licensee may request an extension of time for the performance date to a date that Licensee believes to be reasonable and prudent and Scripps shall agree to any requested 11
extension which is not more than one (l) year in length from the originally required date and will not unreasonably withhold consent to requests for longer extensions. In the event Scripps has a reasonable basis to believe that Licensee is not using reasonable efforts and due diligence as required hereunder, upon notice by Scripps to Licensee which specifies the basis for such belief, Scripps and Licensee shall negotiate in good faith to attempt to mutually resolve the issue. In the event Scripps and Licensee cannot agree upon any matter related to Licensee's commercial development obligations, the parties agree to utilize arbitration pursuant to Section 10.2 hereof in order to resolve the matter. If the arbitrator determines that Licensee has not complied with its obligations hereunder, and such default is not cured within sixty (60) days after the arbitrator's decision, Scripps may terminate Licensee's rights under this Agreement. 4.2 Governmental Approvals and Marketing of Licensed Products. Licensee shall be responsible for obtaining all necessary governmental approvals for the development, production, distribution, sale and use of any Licensed Product, at Licensee's expense, including, without limitation, any safety studies. Licensee shall have sole responsibility for any warning labels, packaging and instructions as to the use of Licensed Products and for the quality control for any Licensed Product. 4.3 Indemnity. Licensee hereby agrees to indemnify, defend and hold harmless Scripps and any parent, subsidiary or other affiliated entity and their trustees, officers, employees, scientists and agents from and against any liability or expense arising from any product liability claim asserted by any party as to any Licensed Product or any claims arising from the use of any Scripps Patent Rights or Scripps Technology pursuant to this Agreement. Such indemnity and defense obligation shall apply to any product liability or other claims, including without limitation, personal injury, death or property damage, made by employees, subcontractors, sublicensees, or agents of Licensee, as well as any member of the general public. Notwithstanding the foregoing, Licensee's obligation to provide indemnification under this Section 4.3 shall be subject to each party seeking indemnification hereunder (i) promptly notify Licensee in writing of any claim, suit or proceeding with respect to which the party intends to claim such indemnification, (ii) give Licensee sole control of the defense and/or settlement thereof, and (iii) provide Licensee, at Licensee's expense, with reasonable assistance and full information with respect to such claim, suit or proceeding. Licensee shall not settle any claim, suit or proceeding subject to this Section 4.3 or otherwise consent to an adverse judgment in such claim, suit or proceeding if the same materially diminishes the rights or interests of the indemnified party without the express written consent of such party. Licensee shall have no obligation for any claim, suit or proceeding if the party seeking indemnification makes any settlement regarding such claim, suit or proceeding without the prior written consent of Licensee, which consent shall not be unreasonably withheld. Licensee shall use its best efforts to have Scripps and any parent, subsidiary or other affiliated entity and their trustees, officers, employees, scientists and agents named as additional insured parties on any product liability insurance policies maintained by Licensee, its Affiliates and sublicensees applicable to Licensed Products. 4.4 Patent Marking. To the extent required by applicable law, Licensee shall mark all Licensed Products or their containers in accordance with the applicable patent marking laws. 12
4.5 No Use of Name. Except as required by law, the use of the name "The Scripps Research Institute", " Scripps", or any variation thereof in connection with the advertising or sale of Licensed Products is expressly prohibited. 4.6 U.S. Manufacture. To the extent required by applicable United States laws, if at all, Licensee agrees that Licensed Products will be manufactured in the United States, or its territories, subject to such waivers as may be required, or obtained, if at all, from the United States Department of Health and Human Services, or its designee. 4.7 Foreign Registration. Licensee agrees to register this Agreement with any foreign governmental agency which requires such registration, and Licensee shall pay all costs and legal fees in connection therewith. In addition, Licensee shall assure that all foreign laws affecting this Agreement or the sale of Licensed Products are fully satisfied. 5. Limited Warranty. Scripps hereby represents and warrants that subject to the rights of the United States Government (i) it has sole right and power to enter into this Agreement and grant the rights and licenses granted herein; (ii) Scripps is and shall be the owner of the entire right, title, and interest in and to the Scripps Patent Rights; (iii) Scripps has not previously granted and will not grant any rights in the Scripps Patent Rights that are inconsistent with the rights and licenses granted to Licensee herein; and (iv) to the best of its knowledge, there are no claims of third parties that would call into question the rights of Scripps to grant to Licensee the rights contemplated hereunder. EXCEPT AS PROVIDED IN THIS SECTION 5, NEITHER PARTY MAKES ANY WARRANTIES OR CONDITIONS (EXPRESS, IMPLIED, STATUTORY OR OTHERWISE) WITH RESPECT TO THE SUBJECT MATTER HEREOF. SPECIFICALLY, SCRIPPS MAKES NO OTHER WARRANTIES CONCERNING SCRIPPS PATENT RIGHTS OR SCRIPPS TECHNOLOGY COVERED BY THIS AGREEMENT, INCLUDING WITHOUT LIMITATION, ANY EXPRESS OR IMPLIED WARRANTY OF MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE AS TO SCRIPPS PATENT RIGHTS, SCRIPPS TECHNOLOGY OR ANY LICENSED PRODUCT. SCRIPPS MAKES NO WARRANTY OR REPRESENTATION AS TO THE VALIDITY OR SCOPE OF SCRIPPS PATENT RIGHTS, OR THAT ANY LICENSED PRODUCT WILL BE FREE FROM AN INFRINGEMENT ON PATENTS OR OTHER INTELLECTUAL PROPERTY RIGHTS OF THIRD PARTIES, OR THAT NO THIRD PARTIES ARE IN ANY WAY INFRINGING SCRIPPS PATENT RIGHTS OR SCRIPPS TECHNOLOGY COVERED BY THIS AGREEMENT. 6. Interests in Intellectual Property Rights. 6.1 Preservation of Title. Scripps shall retain full ownership and title to Scripps Technology, and Scripps Patent Rights licensed hereunder and shall use its reasonable best efforts to preserve and maintain such full ownership and title, subject to Licensee fully performing all of its obligations under this Agreement. 6.2 Royalty-free License to Improvements. Licensee hereby grants to Scripps a non-exclusive, royalty-free license to any improvement to Scripps Technology developed by Licensee 13
during the term of this Agreement, to use for Scripps own non-commercial research purposes or grant to other nonprofit institutions for their non-commercial research purposes. 6.3 Governmental Interest. Licensee and Scripps acknowledge that Scripps has received, and expects to continue to receive, funding from the United States Government in support of Scripps' research activities. Licensee and Scripps acknowledge and agree that their respective rights and obligations pursuant to this Agreement shall be subject to Scripps' obligations and the rights of the United States Government, if any, which arise or result from Scripps' receipt of research support from the United States Government, including without limitation, the grant by Scripps to the United States a non-exclusive, irrevocable, royalty-free license to Scripps Technology and Scripps Patent Rights licensed hereunder for governmental purposes. 6.4 Reservation of Rights. Scripps reserves the right to use for any non-commercial research purposes and the right to allow other nonprofit institutions to use for any non-commercial research purposes any Scripps Technology and Scripps Patent Rights licensed hereunder, without Scripps or such other institutions being obligated to pay Licensee any royalties or other compensation. 7. Confidentiality and Publication. 7.1 Treatment of Confidential Information. The parties agree that during the term of this Agreement and for ten ( 10) years thereafter, a party receiving Confidential Information of the other party will (i) maintain in confidence such Confidential Information to the same extent such party maintains its own proprietary industrial information, (ii) not disclose such Confidential Information to any third party without prior written consent of the other party and (iii) not use such Confidential Information for any purpose except those permitted by this Agreement. 7.2 Permitted Usage. Notwithstanding the provisions of Section 7.1 above, the receiving party may use or disclose Confidential Information of the disclosing party to the extent necessary to exercise its rights hereunder (including commercialization and/or sublicensing of Scripps Patent Rights and Scripps Technology) or fulfill its obligations and/or duties hereunder and in filing for, prosecuting or maintaining any proprietary rights, prosecuting or defending litigation, complying with applicable governmental regulations and/or submitting information to tax or other governmental authorities; provided that if the receiving party is required by law to make any public disclosures of Confidential Information of the disclosing party, to the extent it may legally do so, it will give reasonable advance notice to the disclosing party of such disclosure and will use its reasonable efforts to secure confidential treatment of Confidential Information prior to its disclosure (whether through protective orders or otherwise). 7.3 Publications. Licensee agrees that Scripps shall have a right to publish in accordance with its general policies and subject to Section 6.2 of the Research Agreement. 7.4 Publicity. Except as otherwise provided herein or required by law, no party shall originate any publication, news release or other public announcement, written or oral, whether in the public press, stockholders' reports, or otherwise, relating to this Agreement or to any sublicense 14
hereunder, or to the performance hereunder or any such agreements, without the prior written approval of the other party, which approval shall not be unreasonably withheld. Scientific publications published in accordance with Section 7.3 of this Agreement shall not be construed as publicity governed by this Section 7.4. 8. Term and Termination. 8.1 Term. Unless terminated sooner in accordance with the terms set forth herein, this Agreement, and the license granted hereunder, shall terminate as provided in Section 2.7 hereof. 8.2 Termination Upon Default. Any one or more of the following events shall constitute an event of default hereunder: (i) the failure of a party to pay any amounts when due hereunder and the expiration of thirty (30) days after receipt of a written notice requesting the payment of such amount; (ii) the failure of a party to perform any material obligation required of its to be performed hereunder, and the failure to cure within sixty (60) days after receipt of notice from the other party specifying in reasonable detail the nature of such default. Upon the occurrence of any event of default, the non-defaulting party may deliver to the defaulting party written notice of intent to terminate, such termination to be effective upon the date set forth in such notice. Such termination rights shall be in addition to and not in substitution for any other remedies that may be available to the non-defaulting party. Termination pursuant to this Section 8.2 shall not relieve the defaulting party from liability and damages to the other party for breach of this Agreement. Waiver by either party of a single default or a succession of defaults shall not deprive such party of any right to terminate this Agreement arising by reason of any subsequent default. Notwithstanding the foregoing provisions of this Section 8.2, if the party alleged to be in default of this Agreement disputes in good faith such default within the applicable cure period, the other party's right to terminate shall be stayed until it has been determined in accordance with Section 10.2 below of this Agreement that the party alleged to be in default was actually in default and such defaulting party fails to comply with its obligations hereunder within the applicable cure period. 8.3 Termination Upon Bankruptcy or Insolvency. This Agreement may be terminated by Scripps giving written notice of termination to Licensee upon the filing of bankruptcy or bankruptcy of Licensee or the appointment of a receiver of any of Licensee's assets, or the making by Licensee of any assignment for the benefit of creditors, or the institution of any proceedings against Licensee under any bankruptcy law which proceeding is not dismissed with prejudice within ninety (90) days from its initiation. Termination shall be effective upon the date specified in such notice. 8.4 Termination by Licensee. Any provision herein notwithstanding, Licensee may terminate this Agreement, in its entirety or as to any particular patent or patent application within the Scripps Patent Rights, or as to any particular Licensed Product, at any time by giving Scripps at least ninety (90) days prior written notice. From and after the effective date of a termination under this Section 8.4 with respect to a particular patent or application, such patent(s) and patent 15
application(s) in the particular country shall cease to be within the Scripps Patent Rights for all purposes of this Agreement, and all rights and obligations of Licensee with respect to such patent(s) and patent application(s) shall terminate. From and after the effective date of a termination under this Section 8.3 with respect to a particular Licensed Product, the license granted under Section 2.1 above shall terminate with respect to such Licensed Product, and the same shall cease to be a Licensed Product for all purposes of this Agreement. Upon a termination of this Agreement in its entirety under this Section 8.4, all rights and obligations of the parties shall terminate, except as provided in Section 8.5 below. 8.5 Rights Upon Expiration. Neither party shall have any further rights or obligations upon the expiration of this Agreement upon its regularly scheduled expiration date with respect to this Agreement, other than the obligation of Licensee to make any and all reports and payments for the final quarter period. Provided, however, that upon such expiration, each party shall be required to continue to abide by its non-use and non-disclosure obligations as described in Section 7.1, and Licensee shall continue to maintain records under Section 2.10 and abide by its obligation to indemnify Scripps as described in Section 4.3 and by its obligations under Section 6.2 hereof. 8.6 Rights Upon Termination. 8.6.1 Accrued Obligations. Termination of this Agreement for any reason shall not release either party hereto from any liability which at the time of such termination has already accrued to the other party. 8.6.2 Inventory. In the event this Agreement is terminated for any reason, Licensee shall provide Scripps with a written inventory of all Licensed Products that Licensee and its Affiliates have in process of manufacture, in use or in stock and Licensee and its Affiliates shall have the right to sell or otherwise dispose of such Licensed Products for a period not to exceed six (6) months from the effective date of such termination, all subject to the payment to Scripps royalties and provision of reports pursuant to this Agreement. 8.6.3 Sublicenses. Upon termination of this Agreement by Scripps for any reason, any sublicense granted by Licensee hereunder shall survive, provided that upon request by Scripps, such Sublicensee promptly agrees in writing to be bound by the applicable terms of this Agreement. 8.6.4 Survival. Sections 2.10, 4.3, 6.2, 7.1 and 10 shall survive any termination of this Agreement. Except as otherwise provided in this Section 8, all rights and obligations of the parties under this Agreement shall terminate upon termination of this Agreement. 9. Assignment; Successors. 9.1 Assignment. Neither this Agreement nor any rights granted hereunder may be assigned or transferred by Licensee except (i) to an Affiliate of Licensee or (ii) to a successor in interest to all or substantially all of the business assets of Licensee, whether by way of a merger, consolidation, sale of all or substantially all of Licensee's assets, change of control or similar transaction, without the prior written consent of Scripps. 16
9.2 Binding Upon Successors and Assigns. Subject to the limitations on assignment herein, this Agreement shall be binding upon and inure to the benefit of any successors in interest and assigns of Scripps and Licensee. Any such successor or assignee of Licensee's interest shall expressly assume in writing the performance of all the terms and conditions of this Agreement to be performed by Licensee. 10. General Provisions. 10.1 Independent Contractors. The relationship between Scripps and Licensee is that of independent contractors. Scripps and Licensee are not joint venturers, partners, principal and agent, master and servant, employer or employee, and have no other relationship other than independent contracting parties. Scripps and Licensee shall have no power to bind or obligate each other in any manner, other than as is expressly set forth in this Agreement. 10.2 Arbitration. Any controversy or claim arising out of or relating to this Agreement, or the breach thereof, shall be settled by binding arbitration in accordance with the Commercial Arbitration Rules of the American Arbitration Association ("AAA"), and the procedures set forth below. In the event of any inconsistency between the Rules of AAA and the procedures set forth below, the procedures set forth below shall control. Judgment upon the award rendered by the arbitrators may be enforced in any court having jurisdiction thereof. 10.2.1 Location. The location of the arbitration shall be in the County of San Diego in the State of California. 10.2.2 Selection of Arbitrators. The arbitration shall be conducted by a panel of three neutral arbitrators who are independent and disinterested with respect to the parties, this Agreement, and the outcome of the arbitration. Each party shall appoint one neutral arbitrator, and these two arbitrators so selected by the parties shall then select the third arbitrator. If one party has given written notice to the other party as to the identity of the arbitrator appointed by the party, and the party thereafter makes a written demand on the other party to appoint its designated arbitrator within the next ten days, and the other party fails to appoint its designated arbitrator within ten days after receiving said written demand, then the arbitrator who has already been designated shall appoint the other two arbitrators. 10.2.3 Discovery. Unless the parties mutually agree in writing to some additional and specific pre-hearing discovery, the only pre-hearing discovery shall be (a) reasonably limited production of relevant and non-privileged documents, and (b) the identification of witnesses to be called at the hearing, which identification shall give the witness's name, general qualifications and position, and a brief statement as to the general scope of the testimony to be given by the witness. The arbitrators shall decide any disputes and shall control the process concerning these pre-hearing discovery matters. Pursuant to the Rules of AAA, the parties may subpoena witnesses and documents for presentation at the hearing. 17
10.2.4 Case Management. Prompt resolution of any dispute is important to both parties; and the parties agree that the arbitration of any dispute shall be conducted expeditiously. The arbitrators are instructed and directed to assume case management initiative and control over the arbitration process (including scheduling of events, pre-hearing discovery and activities, and the conduct of the hearing), in order to complete the arbitration as expeditiously as is reasonably practical for obtaining a just resolution of the dispute. 10.2.5 Remedies. The arbitrators may grant any legal or equitable remedy or relief that the arbitrators deem just and equitable, to the same extent that remedies or relief could be granted by a state or federal court, provided however, that no punitive damages may be awarded. No court action may be maintained seeking punitive damages. The decision of any two of the three arbitrators appointed shall be binding upon the parties. 10.2.6 Expenses. The expenses of the arbitration, including the arbitrators' fees, expert witness fees, and attorney's fees, may be awarded to the prevailing party, in the discretion of the arbitrators, or may be apportioned between the parties in any manner deemed appropriate by the arbitrators. Unless and until the arbitrators decide that one party is to pay for all (or a share) of such expenses, both parties shall share equally in the payment of the arbitrators' fees as and when billed by the arbitrators. 10.2.7 Confidentiality. Except as set forth below, the parties shall keep confidential the fact of the arbitration, the dispute being arbitrated, and the decision of the arbitrators. Notwithstanding the foregoing, the parties may disclose information about the arbitration to persons who have a need to know, such as directors, trustees, management employees, witnesses, experts, investors, attorneys, lenders, insurers, and others who may be directly affected. Additionally, if a party has stock which is publicly traded, the party may make such disclosures as are required by applicable securities laws. Further, if a party is expressly asked by a third party about the dispute or the arbitration, the party may disclose and acknowledge in general and limited terms that there is a dispute with the other party which is being (or has been) arbitrated. Once the arbitration award has become final, if the arbitration award is not promptly satisfied, then these confidentiality provisions shall no longer be applicable. 10.3 Entire Agreement Modification. This Agreement sets forth the entire agreement and understanding between the parties as to the subject matter hereof. There shall be no amendments or modifications to this Agreement, except by a written document which is signed by both parties. It is understood that the Research Agreement is separate and independent from this Agreement and termination of either agreement shall not operate to terminate or otherwise effect the rights and obligations of the parties under the other agreement. 10.4 California Law. This Agreement shall be construed and enforced in accordance with the laws of the State of California. 10. 5 Limitation of Liability. NEITHER PARTY SHALL BE LIABLE TO THE OTHER PARTY OR ANY THIRD PARTY FOR ANY SPECIAL, CONSEQUENTIAL, EXEMPLARY OR INCIDENTAL DAMAGES (INCLUDING LOST OR ANTICIPATED 18
REVENUES OR PROFITS RELATING TO THE SAME), ARISING FROM ANY CLAIM RELATING TO THIS AGREEMENT, WHETHER SUCH CLAIM IS BASED ON CONTRACT, TORT (INCLUDING NEGLIGENCE) OR OTHERWISE, EVEN IF AN AUTHORIZED REPRESENTATIVE OF SUCH PARTY IS ADVISED OF THE POSSIBILITY OR LIKELIHOOD OF SAME. 10.6 No Implied Obligations. Licensee's sole obligation to exploit the Scripps Patent Rights and Scripps Technology is as set forth in Section 4.1. Nothing in this Agreement shall be deemed to require Licensee to otherwise exploit the Scripps Patent Rights or Scripps Technology nor prevent Licensee from commercializing products similar to or competitive with a Licensed Product. 10.7 Headings. The headings for each article and section in this Agreement have been inserted for convenience of reference only and are not intended to limit or expand on the meaning of the language contained in the particular article or section. 10.8 Severability. Should any one or more of the provisions of this Agreement be held invalid or unenforceable by a court of competent jurisdiction, it shall be considered severed from this Agreement and shall not serve to invalidate the remaining provisions thereof. The parties shall make a good faith effort to replace any invalid or unenforceable provision with a valid and enforceable one such that the objectives contemplated by them when entering this Agreement may be realized. 10.9 No Waiver. Any delay in enforcing a party's rights under this Agreement or any waiver as to a particular default or other matter shall not constitute a waiver of such party's rights to the future enforcement of its rights under this Agreement, excepting only as to an express written and signed waiver as to a particular matter for a particular period of time. 10.10 Name. Whenever there has been an assignment by Licensee as permitted by this Agreement, the term "Licensee" as used in this Agreement shall also include and refer to, if appropriate, such assignee. 10.11 Notices. Any notices required by this Agreement shall be in writing, shall specifically refer to this Agreement and shall be sent by registered or certified airmail, postage prepaid, or by telefax, telex or cable, charges prepaid, or by overnight courier, postage prepaid and shall be forwarded to the respective addresses set forth below unless subsequently changed by written notice to the other party: For Scripps The Scripps Research Institute 10550 North Torrey Pines Road, TPC-9 La Jolla, California 92037 Attn: Director, Technology Development Fax No.: (619) 784-9910 For Licensee: StemCells, Inc. 19
701 George Washington Highway Lincoln, Rhode Island 02865 Attn: Research Director Fax No.: (401) 333-0684 with a copy to: CytoTherapeutics, Inc. 701 George Washington Highway Lincoln, Rhode Island 02865 Attn: General Counsel Fax No.: (401) 334-9152 Notice shall be deemed delivered upon the earlier of (i) when received, (ii) three (3) days after deposit into the mail, or (iii) the date notice is sent via telefax, telex or cable, (iv) the day immediately following delivery to overnight courier (except Sunday and holidays). 20
10.12 Compliance with U. S. Laws. Nothing contained in this Agreement shall require or permit Scripps or Licensee to do any act inconsistent with the requirements of any United States law, regulation or executive order as the same may be in effect from time to time. IN WITNESS WHEREOF, the parties have executed this Agreement by their duly authorized representatives as of the date set forth above. SCRIPPS: LICENSEE: THE SCRIPPS RESEARCH INSTITUTE STEMCELLS, INC. By: _______________________________ By: _______________________________ Name: _____________________________ Philip K. Yachmetz Title: ____________________________ Senior Vice President 21
EXHIBIT 10.90 EMPLOYMENT AGREEMENT THIS EMPLOYMENT AGREEMENT is made as of this 8th day of June, 1998 (the "Effective Date"), as amended and restated as of June 8, 1999, by and between CytoTherapeutics, Inc., a Delaware corporation ("Employer") having its principal place of business at 701 George Washington Highway, Lincoln, Rhode Island 02865 and PHILIP K. YACHMETZ ("Employee") with a principal residence at 7 North Koewing Place, West Orange, New Jersey 07052-4014, collectively referred to as the "parties." RECITALS Whereas Employer desires to employ Employee at its Lincoln, Rhode Island Facility and Employee desires to be so employed, The parties enter this Agreement to set forth the terms and conditions of Employee's employment by Employer, to address certain matters related to Employee's employment with Employer, and Employee's loyalty and commitment to Employer. NOW THEREFORE, in consideration of these promises and the parties' material covenants, representations, and warranties made herein, the parties agree as follows: STATEMENT OF AGREEMENT SECTION 1. EMPLOYMENT a. Position. Employer wishes to employ and Employee hereby accepts the position of Senior Vice President - Business Development, General Counsel and Secretary for the term of this Agreement. Employee shall report directly to Employer's Chief Executive Officer. Such employment shall be at a primary work location in the Northeastern United States (subject to such travel as the Employer may reasonably request). b. Employee's Commitment. Employee shall consider his employment by Employer as his principal employment, shall devote his full business time and attention to his duties and responsibilities under this Agreement, and shall perform them to the best of his abilities. While subject to any provision of this Agreement, Employee shall maintain loyalty to Employer, and shall take no action that would directly or indirectly promote any competitor or injure Employer's interests. Subject to the foregoing, employee may engage in other charitable or business activities to the extent that they do not interfere or create a conflict with his obligations under this Agreement; provided that Employee first discloses any such activities to Employer, and that Employee's continued participation in any such activity shall be subject to Employer's ongoing approval, which may be withheld at Employer's sole discretion.
c. Duties. Employee's primary duties and responsibilities as Senior Vice President - Business Development, General Counsel and Secretary shall be to: (1) Direct and oversee all legal matters pertaining to CTI, including contractual relationships, general corporate and securities matters, patent, copyright and the coordination of any legal matters handled by outside counsel. (2) Direct the research and analysis of such business opportunities, strategic partnerships, alliances and collaborations, including the establishment and recommendation of strategic initiatives as directed by the Employer's CEO from time to time; responsible for implementation of such strategic initiatives of Senior Management as directed by the Employer's CEO from time to time, including the negotiation of agreements related to external alliances, direct the policies and programs related to corporate licensing objectives for the acquisition of licensing opportunities and techniques. (3) Serve as corporate secretary of the Company and its subsidiaries. SECTION 2. COMPENSATION, BENEFITS AND EXPENSES a. Salary. Subject to Subsection 2b, Employer shall pay Employee as salary of Two Hundred Fifty Thousand dollars ($250,000.00) annually, payable in accordance with Employer's payroll practices in effect from time to time. b. Bonus. (1) Employee shall receive a "sign on" bonus of Fifteen Thousand Dollars ($15,000) payable, $10,000 in cash and $5,000 in registered shares of Employer's common stock (3,906 shares), calculated at the price per share of $1.28 per share, the closing price of the Employer's common stock as quoted on the Nasdaq stock exchange for the Effective Date of Employment. (2) In addition, Employee shall be eligible (in the sole discretion of the Employer) to receive performance related bonuses at the end of each calendar year, including 1998, in a percentage amount of base salary similar to that for which other members of the Employer's senior management are eligible or are awarded under guidelines in effect at such time. Employee's bonus shall be based on (i) the reduction in comparable outside legal fees versus the base period of January 1, 1998 through June 30, 1998, (ii) the level of cash funding received by Employer from business development transactions with third parties in which Employee is materially involved, and (iii) the attainment of other specific performance objectives mutually agreed with Employer's Chief Executive Officer. The payment and amount of any such bonus shall be determined in the sole discretion of the Employer and its Board of Directors. c. Stock Options and Grants. (i) Through the Employer's 1992 Equity Incentive Plan (the "Incentive Plan") and subject to the terms and conditions set forth herein, Employee is hereby granted, as of the Effective Date of this Agreement, an option to acquire 75,000 shares of the common stock of the Employer at a strike price, subject to -2-
the approval of the Employer's Board of Directors, of $1.281 per share, or such other strike price as may be specified by the Board of Directors (the "Time-Based Option"). The time-based option will vest as follows: (A) 30,000 of the shares will vest on the Effective Date, and (B) the remaining 45,000 shares shall vest at the rate of 3,000 shares per month on each monthly anniversary of the Effective Date so long as Employee continues to be employed hereunder. Employee shall have one (1) year from the last such vesting date within which to exercise such option (e.g.: September 10, 2000). The expiration of the Initial Term of this Agreement shall not effect the validity, the vesting schedule or the exercise period of such Time-Based Option granted Employee. (ii) Through the Incentive Plan, upon the approval of the Employer's Board of Directors, Employee is hereby granted a second option to acquire 12,000 shares of the common stock of the Employer at a strike price equal to the closing price for the Employer's Common Stock on the date of the approval of this grant by the Company's Board (the "Time-Based Option II"). The Time-Based Option II will vest at the rate of 1,500 shares per month on the 1st day of each month commencing with September 1, 1999 and ending with April 1, 2000. Employee shall have one (1) year from the Termination Date of this Agreement to exercise the option to purchase the shares subject to the Time-Based Option and the Time-Based Option II (e.g.: April 1, 2001. The compensation set forth in Sections 2a, 2b and 2c may be increased from time to time at the will and discretion of Employer. d. Relocation. As soon as reasonably practicable following the Effective Date, Employee will establish his principal office at the Company's offices in Lincoln, Rhode Island and a temporary residence within driving distance of such office. The Employer shall pay or reimburse Employee up to an amount not to exceed $2,500 per month for all costs of such temporary housing and related expenses, including, but not limited to, apartment rent and security deposit, furniture rental, utilities, cable television, basic telephone service and similar expenses, for the term of this Agreement and for such additional period while Employee is still rendering services to the Employer pursuant to Section 4.a.(1) (collectively the "Temporary Residence Period"). Employer shall also during the Temporary Residence Period pay or reimburse Employee for two (2) round trip airfares per month to the New Jersey/New York area for use by Employee or his daughter. Until such time as Employee has established his temporary residence in Rhode Island, Employer shall reimburse Employee for hotel, travel, meal and related costs to and from New Jersey. The cost of Employee's temporary housing and the cost of the two (2) round trips airfares set forth above are hereinafter collectively referred to as the "Temporary Relocation Expenses." e. Benefits. Employee will be entitled to participate in any and all employee benefit plans from time to time in effect for senior management of the Employer generally, including, but not limited to, medical, dental and hospitalization plans, retirement and 401(k) savings plans, life insurance and accidental death plans, disability plans, etc., except to the extent that such plans provide duplicative benefits or a lower level of benefits than that specifically provided Employee herein. Additionally, Employee shall be entitled to participation similar to that provided other members of Employer's senior management in -3-
any supplemental stock or option grants, stock appreciation rights awards, phantom stock rights, "golden parachute" or "golden handcuff" policies of the Employer in effect as of the Effective Date or adopted by Employer thereafter for the general benefit of its senior management. Employee's participation shall be subject to (i) the terms of the applicable plan documents, (ii) generally applicable policies of the Employer, and (iii) the discretion of the Board of Directors of the Employer and plan administrators, as provided for or contemplated by such plan. Employee will be entitled to four (4) weeks' vacation for the period ending on the first anniversary of this Agreement and two (2) weeks' vacation for the period from the first anniversary of this Agreement through the Termination Date. Employer will provide Employee with a leased automobile at a cost to be approved by Employer's CEO, cover the cost of up to three (3) state bar memberships per year and the cost of professional association memberships consistent with Employer's policy for its senior management. f. Withholdings, "Gross Up" of Compensation. (i) Employer shall withhold from any amounts payable as compensation all federal, state, municipal, or other taxes as are required by any law, regulation, or ruling. (ii) Employer shall "gross up" any and all Temporary Relocation Expenses paid or reimbursed to Employee during the Temporary Residence Period by 36% in order to offset any and all income tax liability to Employee for the payment or reimbursement of these expenses by Employer. (iii) In addition, in the event Employee sustains an increased state income tax liability due to the payment of state income taxes in both Rhode Island and New Jersey versus Employee's paying only New Jersey state income tax, then Employer shall "gross up" the compensation paid to Employee hereunder in order to reimburse and offset any and all incremental increase in Employee's state income tax liability. g. Business Expenses. Employer shall reimburse Employee for expenses reasonably incurred in the course of his employment, in accordance with Employer's policies in effect from time to time. SECTION 3. TERM a. Initial Term. The term of Employee's employment shall commence on the Effective Date and shall expire on October 31, 1999 (the "Term"), after which the provisions of Section 4 shall apply. For purposes of this Agreement, the "Termination Date" shall mean October 31, 1999 or the effective date of an early termination pursuant to section 3.b below. b. Early Termination. Notwithstanding any other provision of this Agreement, Employee's employment shall terminate at any time, as follows: (1) Employer may terminate your employment upon thirty (30) days written notice to Employee in the event you become disabled during your employment through any illness, injury, accident or condition of either a physical or psychological nature and, as a result, you are unable to perform substantially all of your duties and responsibilities hereunder for ninety (90) consecutive days during -4-
the Initial Term. In that event, the Employer shall pay Employee the severance set forth in Section 4. (2) Employee's employment may also be terminated by Employer at any time without prior notice upon a showing of "reasonable cause." Should Employee be terminated by Employer for "reasonable cause," no severance pay will be paid to Employee nor will his health insurance benefits be continued by Employer at its expense for any period of time as addressed in Section 4 of this Agreement. "Reasonable cause" shall be defined for the purposes of this Agreement as being: (a) any act of fraud, embezzelement or other material dishonesty by Employee with respect to the Employer which is proven to be directly detrimental to Employer's best interest; (b) Employee's willful failure to perform material duties and responsibilities described in Section 1 (c) above, after receiving notice and a reasonable opportunity to cure; (c) Employee's conviction of, or plea of nolo contendre to, any act that constitutes a felony under the laws of the state of Rhode Island or the United States; or (d) Employee's material breach of Section 5 of this Agreement. (3) Employee may terminate his employment with immediate effect at any time "with cause" upon written notice to Employer, in which event the provisions of Section 4 shall apply. The following shall constitute "with cause" for the puposes of this Agreement: (a) material breach by Employer of any provision of this Agreement, includng without limitation any material diminution of Employee's position, authorities or responsibilities from that contemplated hereby or as in effect by practice during the Term of this Agreement, or (b) a Change of Control, being defined as the execution of agreements, the consummation of an agreed transaction or the pending consummation of a tender offer which will result in (i) a consolidation or merger in which the Employer is not the surviving corporation, or (ii) a transaction or series of transactions that result in acquisition of fifty percent (50%) or more of the Employer's outstanding Common Stock by a single person or entity or a group of persons or entities acting in concert, or (iii) the sale or transfer of all or substantially all of the Employer's assets. SECTION 4. SEVERANCE a. Severance Payments and Benefits. Upon the expiration of the Term or upon the early termination of the Term pursuant to Sections 3.b.(1) or 3.b.(3), Employee shall receive the following Severance Payments and Benefits from Employer: (1) A payment equal to nine (9) month's of Employee's regular salary as of the date of the Termination Date, such lump sum shall be payable at Employee's sole election in either a lump sum on the Termination Date or in periodic payments specified by Employee. In the event the early termination is pursuant to Section 3.b.(1), such lump sum payment and related benefits hereunder shall be deemed to be made as compensation for Employee's past services to Employer. -5-
(2) Employer will pay to Employee the balance of any accrued and unused vacation earned by Employee through the Termination Date. (3) Employer will pay any accrued but unpaid bonus, if any, under Section 2.b.(2) for the period ending with the Termination Date or any prior fiscal period, if any, or any such other bonus, if any, which may be agreed between Employer and Employee or to which Employee may become entitled to prior to the Termination Date. (4) Employer will continue to pay or reimburse Employee for the Temporary Relocation Expenses pursuant to Section 2.d for the period through the Termination Date and for any residual notice period occasioned by the termination provisions of those obligations which extends beyond the Termination Date. Such payment or reimbursement shall continue to be subject to the "gross up" provisions of Section 2.f.(ii) until final such payment shall be made. (5) Employer will pay for the first twelve (12) months of Employee's COBRA coverage or, if such COBRA is unavailable, Employer shall pay to Employee the cash value of such twelve (12) months of COBRA coverage. (6) Employer will also "gross up" the ordinary and severance compensation paid to Employee hereunder in order to reimburse and offset any and all incremental increase in Employee's state income tax liability pursuant to the provisions of Section 2.f.(iii) hereof. (7) To facilitate the consulting obligations of Employee under Section 4.a.(8) below, Employee will be permitted to retain possession of the Sony Vaio desktop and portable computer equipment, and related equipment (monitor, printer, fax machine, etc.), assigned to Employee as of the Termination Date. Employee may retain such equipment upon the expiration of his consulting obligations hereunder. (8) For the period of November 1, 1999 through April 30, 2000, Employer shall pay Employee Two Thousand Five Hundred Dollars ($2,500) per month as a retainer, payable within the first ten (10) days of each month, for up to twelve (12) hours per month of business development, management, legal and related consulting services to be rendered by Employee with respect to Employer's business. Subject to Employee's availability, additional consulting services may be provided to Employer at the rate of $1,500 per day. b. Reference Letter Upon Separation of Employment. Employer agrees to provide Employee with a letter of recommendation upon Employee's separation of -6-
employment, granted that Employee's separation of employment from Employer is for any reason other than "reasonable cause." SECTION 5. CONFIDENTIALITY a. Confidential Information. "Confidential Information" means information in whatever form, including information that is written, electronically stored, orally transmitted, or memorized, that is of commercial value to Employer and that was created, discovered, developed, or otherwise becomes known to Employee, or in which property rights are held, assigned to, or otherwise acquired by or conveyed to Employer, including any Employee Invention (as subsequently defined) or idea, knowledge, know-how, process, system, method, technique research and development, technology, software, technical information, trade secret, as defined in state statute, trademark, copyrighted material, reports, records, documentation, data, customer or supplier lists, tax or financial information, business or marketing plans, strategy or forecast. Confidential Information does not include information that is or becomes generally known within Employer's industry through no act or omission by Employee, provided, however, that the compilation, manipulation, or other exploitation of generally known information may constitute Confidential Information. b. Employee Invention. "Employee Invention" means any idea, invention, software, technique, modification, process, improvement, or similar item, whether or not reduced to writing or stored electronically or otherwise, and whether or not protectible by patent, trademark, copyright, or other intellectual property law, that is crated, conceived, or developed by Employee or under his direction, whether solely or with others, during or after his employment by Employer, that relates in any way to, or is useful in any manner in, the business now or then conducted or proposed to be conducted by Employer or which is based upon or otherwise derives from or makes use of the Confidential Information. c. Ownership; Disclosure. Any Confidential Information, whether or not developed by Employee, shall at all times be Employer's exclusive property. Employee shall promptly disclose any Employee Invention to Employer in writing. d. Restrictions. During the term of this Agreement, and for ten (10) years thereafter, Employee shall not, without Employer's prior written consent: (1) Use any Confidential Information for the benefit of himself of any other party other than Employer or disclose it to any other person or entity; (2) Remove any Confidential Information or other documentation, device, plan or other record or evidence pertaining to Employer's business from Employer's premises, except when specifically authorized to do so in pursuit of Employer's business; or e. Purpose. The parties acknowledge and agree that the Confidential Information is a valuable business asset, and that this Section is necessary to protect Employer's legitimate business interests. -7-
SECTION 6. ADDITIONAL REPRESENTATIONS AND WARRANTIES In addition to his other representation and warranties set forth in this Agreement, Employee further represents and warrants as follows: a. Employee's performance of this Agreement shall not breach any agreement to which he is or was a party that requires him to hold any information in confidence or in trust; b. Employee has not and shall not breach any such Agreement; c. Employee shall not bring to Employer or use in connection with his employment any confidential or proprietary information belonging to another entity without first delivering a written release of that information to Employer; and d. Employee has provided Employer with an original or true copy of any employment, non-competition, confidential or proprietary information, or similar agreement to which he is or has been a party which is now in effect or which may be in effect during the term of this Agreement. SECTION 7. REMEDIES a. Irreparable Harm. The parties acknowledge and agree that irreparable harm would result in the event of a breach or threat of a breach by Employee of Section 5 or the making of any untrue representation or warranty by Employee in this Agreement. Therefore, in such an event, and notwithstanding any other provision of this Agreement: (1) Employer shall be entitled to a restraining order, order of specific performance, or other injunctive relief, without showing actual damage and without bond or other security; and (2) Employer's obligation to make any payment or provide any benefit under this Agreement, including without limitation any severance benefits, shall immediately cease. b. Remedies Not Exclusive. Employer's remedies under this Section are not exclusive, and shall not prejudice or prohibit any other rights or remedies under this Agreement or otherwise. To the extent required to be enforceable by applicable law, the cessation of Employer's obligation to make payments or continue benefits under this Section shall be deemed to be in the nature of liquidated damages and not a penalty. c. Cessation of Payments. In the event Employer obtains relief as provided in this Section, or in the event of Employee's breach of Section 5 or the making of any untrue representation or warranty by Employee in this Agreement, Employer's obligation -8-
to make any payment or provide any benefit under this Agreement, including any severance benefits, shall immediately cease. SECTION 8. LEGAL COUNSEL a. Understanding, Voluntary Agreement. Employee represents and warrants that he has been afforded a reasonable opportunity to review this Agreement, to understand its terms, and to discuss it with an attorney of his choice, and that he knowingly and voluntarily enters this Agreement. b. Waiver of Separate Representation. To the extent Employee has not engaged separate legal counsel to represent him in connection with this Agreement, the parties acknowledge an agree that their respective interest in this Agreement are in conflict, that they have the right to retain independent counsel, that they have been fully informed about this right and conflicts of interest that arise from retaining the same legal counsel to represent both of them, and that this Section constitutes written disclosure of these conflicts. The parties further affirm that they are waiving separate representation freely, voluntarily, and with full knowledge of the effect of this waiver. NO party shall at any time claim that this Agreement is void or unenforceable in any respect because of the lack of use of independent counsel, or that the legal counsel who prepared this Agreement acted improperly in doing so. SECTION 9. CONFIDENTIAL AGREEMENT This Agreement is confidential, Employee and Employer shall keep its provisions confidential and shall not disclose them to anyone, including any past, present, or prospective employee of Employer; provided, that this Section shall not prohibit Employee from discussing this Agreement in confidential communications with his family members, attorneys, accountants, or other professional advisors, provided that the provisions of Section 5 shall at all times apply to communications with any such persons, and provided Employer may disclose the terms of this Agreement to the extent it is required by federal or state law, rule or regulation. SECTION 10. MISCELLANEOUS PROVISIONS a. Waivers. No assent, express or implied, by any party to any breach or default under this Agreement shall constitute a waiver of or assent to any breach or default of any other provision of this Agreement or any breach or default of the same provision on any other occasion. b. Entire Agreement, Modification. This Agreement constitutes the entire agreement of the parties concerning its subject matter and supersedes all other oral or written understandings, discussions, and agreements, and may be modified only in a writing signed by both parties. -9-
c. Binding Effect; No Third Party Beneficiaries This Agreement shall bind and benefit the parties and their respective heirs, devisees, beneficiaries, grantees, donees, legal representatives, successors, and assigns. Nothing in this Agreement shall be construed to confer any rights or benefits on third parties. d. Assignment. Neither party may assign its interest in this Agreement without the other's prior written consent; provided that Employer may assign its interest to another entity which controls, is controlled by, or is under common control with Employer. e. Severability. If any provision of this Agreement, including the restriction on time and geographic area contained in the Covenant Not to Compete and Confidential Information provisions of this Agreement, is found in binding arbitration or by a court or other tribunal of competent jurisdiction to be invalid or unenforceable, the attempt shall first be made to read that provision in such a way to make it valid and enforceable in light of the parties' apparent intent as evidenced by this Agreement. If such a reading is impossible, the tribunal having jurisdiction may revise the provision in any reasonable manner, to the extent necessary to make it binding and enforceable. If no such revision is possible, the offending provision shall be deemed stricken from the Agreement, and every other provision shall remain in full force and effect. f. Forum. All lawsuits, actions, and other proceedings arising from this Agreement or the transactions it contemplates shall be prosecuted in the appropriate court in New Jersey and all parties agree to both subject matter and in personam jurisdiction in that forum. g. Governing Law. This Agreement shall be governed by and construed under the laws of the State of Rhode Island. h. Legal Counsel. The parties acknowledge that they have read and fully understand the contents of this Agreement and execute it after having had an opportunity to consult with legal counsel. IN WITNESS WHEREOF, the partied have executed this Agreement to be effective as specified above. PHILIP K. YACHMETZ CYTOTHERAPEUTICS, INC. BY: _____________________________ BY: __________________________ Philip K. Yachmetz Richard M. Rose, MD President & CEO -10-
EXHIBIT 10.91 CYTOTHERAPEUTICS, INC. 701 GEORGE WASHINGTON HIGHWAY LINCOLN, RHODE ISLAND 02865 As of July 1, 1999 John Schwartz 110 Atherton Avenue Atherton, California 94027 Dear John: This letter will confirm our agreement with respect to the amendment, with effect from July 1, 1999, of your Letter Agreement with CytoTherapeutics, Inc. (the "Company"), dated December 19, 1999 (the "Agreement"). Section 2. "Compensation; Time Commitment" shall be modified such that subsection 2.a.(iii) shall read: "(iii) One Hundred Thirty Two Thousand Dollars ($132,000) per year, plus a fee of One Thousand Five Hundred Dollars ($1,500) per Board meeting or Committee meeting (if held at a date and time separate from the Board meeting) where you are physically present, plus Five Hundred Dollars ($500) per Board meeting or Committee meeting (if held at a date and time separate from the Board meeting) held by conference call, payable quarterly in arrears (this cash compensation plus any other compensation provided for herein shall be referred to as the "Compensation"). " Section 2. " Compensation; Time Commitment" shall be further modified such that Subsection b. shall read: "b. As Chairman of the Board of Directors, you will be expected to devote no less than thirty (30) business days per calendar quarter to the performance of your duties and responsibilities collectively under this Agreement and the Consulting Agreement (hereinafter "Duties and Responsibilities"). In the event you devote more than thirty (30) days in any calendar quarter to the performance of your
John J. Schwartz July 1, 1999 Page 2 Duties and Responsibilities, you shall, within thirty (30) days of the end of the calendar quarter, provide an accounting to the President and Chief Executive Officer of the Company detailing the actual time spent during such preceding calendar quarter. After review and approval by the President and Chief Executive Officer of the Company you will be promptly further compensated for additional days exceeding thirty (30) in any calendar quarter at the rate of One Thousand Five Hundred Dollars ($1,500) per day. All such additional payments made shall be promptly reported by the President and Chief Executive Officer to the Compensation Committee of the Board (the "Compensation Committee") for subsequent ratification by such Compensation Committee, such ratification not to delay the payment of any such additional payments." Except as specifically modified hereby, all other terms and conditions of the Agreement remain in full force and effect If the foregoing is acceptable to you, please sign the enclosed copy of this letter in the space provided below and return it to me, whereupon this letter and such copy will constitute a binding amendment of the Agreement between you and the Company on the basis set forth above as of the date first above written. Sincerely yours, CYTOTHERAPEUTICS, INC. By: __________________________________ Richard M. Rose, M.D. President & Accepted and Agreed: Chief Executive Officer _______________________________ John J. Schwartz Date: ___________________ Page 2 of 2
EXHIBIT 10.93 CYTOTHERAPEUTICS, INC. 701 George Washington Highway Lincoln, RI 02865 401-288-1000 August 30, 1999 Moses Goddard, MD 155 Pelletier Lane Tiverton, RI 02878 Dear Moses: As we have discussed, we have determined that it is in our mutual best interests to effect a voluntary end to your employment with CytoTherapeutics, Inc. ("CTI" or the "Company"). If accepted by you, this letter will confirm that you hereby resign as Vice President, Chief Technical Officer--Cell Encapsulation & General Manager Cell Encapsulation, Director and employee of CTI and from all other positions you hold in CTI and its Affiliates (as defined herein), effective as of August 31, 1999. It is understood that CTI will take actions in reliance on your resignation and that it shall become irrevocable on the effective date of this Agreement. In consideration of your resignation from your employment with CTI effective on August 31, 1999, CTI is offering you the severance package set forth below. If you accept it, this letter will constitute the agreement between you and CTI concerning your severance arrangements, as follows: 1. During the period from the date of this letter, written above, through August 31, 1999 you will continue to be employed by the Company at your current rate of pay. 2. (a) CTI will provide you on or before August 31, 1999 with a lump-sum payment equal to (i) two months salary at your final base rate of pay, plus (ii) the amount payable to you under the Company severance policy currently in effect calculated through October 31, 1999, provided that you also shall receive a pro-rated portion of the amount payable per year of service under the severance policy for the partial year of service ended October 31, 1999, plus (iii) all vacation time earned but not used through and including August 31, 1999, reduced by the amount of any Company loan or loans outstanding under the Company's 401(k) Plan. You agree that from August 31, 1999 through October 31, 1999 (the "Transitional Period"), at the Company's request, you will provide up to ten (10) days of consulting services relating to the Company's encapsulated -1-
cell therapy technology and transactions related thereto at no cost to the Company. If the time commitment required of you during the Transitional Period exceeds ten (10) days, you shall be compensated at the rate of $1,000 per day. After the Transitional Period you agree to remain available, at the request of the Company, for consulting services relating to the Company's encapsulated cell therapy technology and transactions related thereto for which you will be compensated at the rate of $1,500 per day, plus expenses. (b) In addition to the above, upon the approval of the Company's Board of Directors, you will receive an option to acquire 18, 000 shares of the common stock of the Company, at a strike price equal to the price per share of the Company's common stock of the date of the approval of the grant by the Company's Board of Directors. This time-based option will vest at a rate of 1,500 shares per month on the first day of each month for the twelve months commencing with November 1, 1999, provided that you continue to remain available for the consulting services discussed above. The Company may terminate the consulting arrangement on no less than sixty (60) days written notice to you. Any options which remain unvested as of the termination date cited in the Company's notice to you shall expire as of such date. You shall have six (6) months from the last vesting date of options under this grant within which to exercise such option. 3. During the Transitional Period, the Company will continue your participation in those Company employee benefit plans and which you are currently a participant, to the extent permitted by the terms of those plans and generally applicable Company policies. Except for the options granted to you under Section 2.(b) above, stock options granted to you and not yet expired, exercised, canceled or otherwise become unexercisable shall continue to vest through August 31, 1999, but not thereafter. In addition, subject to approval by the Company's Board of Directors, the exercise period for all of the options previously granted to you which shall have vested as of August 31, 1999 shall be extended to February 28, 2000 (the "Exercise Period Extension"), provided, however, that all such options shall be exercisable only for so long as you continue to comply with your obligations under this Agreement, including, without limitation, your obligations under paragraph 9 of this Agreement. I will strongly recommend approval of the Exercise Period Extension at a meeting of the Board of Directors to be held prior to August 31, 1999. 4. To the extent permitted by the terms of the Company's group health and dental plans and by its health and dental plan insurers or providers, as applicable, the Company will continue your participation and that of your eligible dependents in its group health and dental plan to the same extent as you and they currently participate and will pay the premium costs of such participation to the same extent currently paid, from August 31, 1999 through the earlier of (i) November 30, 1999 or (ii) the date you commence other employment and become eligible for coverage under the plans of your new employer. If the Company is unable to provide the continuations contemplated in the first sentence of this section, you may exercise your right to continue your coverage and that of your eligible dependents in the Company's group health and dental plan under the federal law known as COBRA, provided you are eligible to do so, and, if you are eligible and so elect, then, until the earlier of November 30, 1999 or the date you cease to be eligible for continuation under COBRA, -2-
the Company will pay the premium costs of your coverage and that of your eligible dependents. Alternatively, the Company may satisfy its obligations to you under this paragraph by paying to you on October 31, 1999 a lump sum amount equal to the cost to the Company of your previous month's group health plan insurance coverage, and, shall so satisfy its obligation to you in the event that the Company has no group health plan willing to provide COBRA coverage to you on terms comparable to those in effect on the date of this agreement. Coverage under all other benefit plans of the Company, including, without limitation, the Company's group life insurance plan, shall cease as of August 31, 1999. 5. The Company will pay for the costs of the four month outplacement services program to be rendered to you by Executive Destinations in accordance with their agreement with the Company. 6. All payments by the Company under this Agreement will be reduced by all taxes and other amounts that the Company is required to withhold under applicable law and all other deductions authorized by you. 7. In signing this agreement, you acknowledge that, on receipt by you of the payments to be provided you in accordance with Sections 1 and 2 hereof, you will have received payment in full of any and all sums which are now, or might hereafter have become, owing to you from CTI, whether for services rendered by you during your employment with CTI or otherwise, including without limitation any and all salary, vacation pay, severance pay and bonuses. 8. You agree that you will not disclose this agreement or any of its terms or provisions, directly or by implication, except to members of your immediate family and to your legal and tax advisors, and then only on condition that they agree not to further disclose this agreement or any of its terms or provisions to others. 9. You agree that you will not disparage CTI or any of its Affiliates or any of their directors, trustees, officers or employees; and that you will not otherwise do or say anything that could disrupt the good morale of the employees of CTI and its Affiliates or otherwise harm the interests or reputation of CTI or any of its Affiliates. "Affiliates" means all persons and entities directly or indirectly controlling, controlled by or under common control with CTI, where control may be by management authority, equity interest, trusteeship, membership or otherwise. Affiliates of CTI include, without limitation, StemCells, Inc. 10. In signing this agreement, you give CTI assurance that on or prior to August 31, 1999 you will return to CTI any and all documents, materials and information related to the business, whether present or otherwise, of CTI and its Affiliates, and all keys and other property of CTI and its Affiliates in your possession or control (other than the cellular telephone previously provided to you by the Company, which you may retain, subject to your paying all service charges therefor after August 31, 1999). Recognizing that your employment with CTI will have been terminated, you -3-
agree that after August 31, 1999 you will not, for any purpose, attempt to access or use any computer or computer network or system of CTI or any of its Affiliates, including without limitation their electronic mail system(s). Notwithstanding the above, during the period that you are consulting with the Company pursuant to Paragraph 2(a), you shall continue to have access to, and are allowed to maintain copies of, documents, materials and information related to the Company's business and shall continue to have access to the Company's premises. 11. You have signed an agreement with the Company dealing with, among other matters, confidentiality, inventions and noncompetition (the "Employee Agreement"). You agree to meet all of your obligations under the Employee Agreement, both during the remainder of your employment with the Company and following termination of your employment, in accordance with the terms of the Employee Agreement; provided, however, that if you meet all of your obligations under this agreement, then the Company will relieve you of those obligations of the Employee Agreement which prohibit your competition with the Company. 12. You agree to cooperate with CTI at any time within three years hereafter with respect to all matters arising during or related to your employment, including but not limited to all matters in connection with any governmental investigation, litigation or regulatory or other proceeding which may have arisen or which may arise following the signing of this agreement. CTI shall reimburse you for any reasonable, documented lodging, travel or similar normally reimbursable out-of-pocket expenses incurred by you in fulfilling your obligations under this paragraph. 13. In order to be certain that this agreement will resolve any and all concerns that you might have, CTI requests that you carefully consider its terms, including the release of claims set forth below and, in that regard, encourages you to seek the advice of an attorney before signing this agreement. 14. This Agreement and the exhibits hereto constitutes the entire agreement between you and CTI and supersedes any and all prior and contemporaneous communications, agreements and understandings, whether written or oral, with respect to your employment by CTI, the termination of that employment and all matters pertaining thereto, excluding only the Employee Agreement (modified as provided above), the parties' obligations under CTI's 1992 Equity Incentive Plan, any other obligations which you may have to CTI or any of its Affiliates with respect to confidential information, non-competition, assignment of intellectual property or the like under contract or applicable law. In signing this Agreement, you represent and affirm that you have not relied on any promises or representations, written or oral, express or implied, by anyone connected with CTI or any of its Affiliates that are not set forth expressly in this Agreement. 15. You agree that this agreement shall be in complete and final settlement of any and all causes of action, rights or claims that you have had in the past, now have, or might now have, in any way related to, connected with or arising out of your employment by the Company or service as a director of the Company or the termination thereof or pursuant to Title VII of the Civil Rights -4-
Act, the Americans with Disabilities Act, the Age Discrimination in Employment Act, or any other federal, state or local employment law, regulation or other requirement and you, on your own behalf and on behalf of your heirs, executors, administrators, personal representatives and assigns, hereby release and forever discharge CTI and its Affiliates and all of their respective past and present directors, shareholders, officers, employees, agents, successors and assigns and all others connected with any of them, both individually and in their official capacities, from any and all such causes of action, rights or claims. Nothing contained herein shall modify or eliminate any right you may have to indemnification as a result of your status as executive officer or director of the Company or your rights to enforce the provisions of this Agreement or your rights as a stockholder in the Company. 16. In signing this agreement, you give CTI assurance that you have signed it voluntarily and with a full understanding of its terms and that you have had sufficient opportunity to consider this agreement before signing it. This Agreement, including the release of claims contained in the Section immediately above, contains binding legal obligations. This Agreement may be amended only by a writing signed by you and an expressly authorized representative of CTI. If the terms of this agreement are acceptable to you, please sign, date and return it to me within twenty-one days of the date you receive it. You may revoke this agreement at any time during the seven-day period immediately following the date of your signing. If you do not do so, then, at the expiration of that seven-day period, this letter will take effect as a legally binding agreement between you and CTI (and each party's successors and assigns) on the basis set forth above, to be enforced under and construed in accordance with the laws of the State of Rhode Island without regard to the conflict of law principles thereof. The enclosed copy of this letter, which you should also sign and date, is for your records. Sincerely, Philip K. Yachmetz, Esquire Senior Vice President, Business Development and General Counsel Accepted and agreed: Signature: __________________________________ Moses Goddard Date: ______________________________________ -5-
Date: ______________________________________ -6-
EXHIBIT 10.95 525 Del Rey Avenue, Suite C Sunnyvale, CA 94086 CytoTherapeutics November 17, 1999 Mr. George Dunbar Dear George: On behalf of StemCells, Inc. (the "Company"), I am pleased to invite you to join the Company as Acting President of StemCells, Inc. reporting to the Company's Board of Directors. The effective date of your employment will be November 8, 1999. The terms of this offer of employment are as follows: 1. Compensation. Your Base Salary will be $6,730.77 biweekly ($175,000 per year) subject to review and adjustment from time to time. Your salary will begin as of the effective date of employment. 2. Responsibilities. Your responsibilities as Acting President will be to perform such services as are customarily performed by the President of a biotechnology company, as requested by the Board from time to time. Specific responsibilities will be to provide the management and leadership role on behalf of the Board to accelerate the timely and cost effective exit from its parent's Rhode Island operations, and to establish consolidated corporate headquarters around the existing Sunnyvale, California facility. The priorities in Rhode Island include the early sale and disposition of the Lincoln, Rhode Island ECT pilot plant, leasing the existing science and administration facility, appropriate partnering of the ECT technology, and the sorting out with the State of Rhode Island any dispute that might exist regarding their initial "seed loan" to the Company's parent, CytoTherapeutics, Inc. The corporate relocation priorities are to initiate the minimum infrastructure necessary to manage the ongoing scientific and medical infrastructure necessary to manage the ongoing scientific and medical activities with limited disruption and to ensure all public company obligations are being met. Attention to other business development and shareholder drivers will be discussed and reviewed at the discretion of the Board. It is understood by the parties that the terms of this letter, including any provisions for compensation, stock options and benefits, all have to do with this interim position, and that if you were to become a permanent officer the terms and conditions would first be renegotiated. 3. Stock Options. Subject to the approval of the Board of Directors of CytoTherapeutics, you will be granted the following shares of CytoTherapeutics' stock at a price equal to the fair market value at the time of your countersigning this letter:
Mr. George Dunbar November 17, 1999 Page 2 of 3 o A stock option for 4,000 shares each month. In its absolute discretion, each quarter the Board of Directors will also consider an additional grant of up to 3,000 additional options if, it deems the services provided by you to be truly outstanding. 4. At Will Employment. You should be aware that your employment with the Company is for no specified period and constitutes "at-will" employment. As a result, you are free to terminate your employment at any time, for any reason or for no reason. Similarly, the Company is free to terminate your employment at any time, for any reason or for no reason. In the event of termination of your employment, you will not be entitled to any payments, benefits, damages or compensation. 5. Employment Agreement. As a condition of accepting this offer of employment, you will be required to complete, sign and return the Company's standard form of Employment Agreement. 6. Immigration Laws. For the purposes of federal immigration laws, you will be required to provide to the Company documentary evidence of your identity and eligibility for employment in the United States. Such documentation must be provided within 3 (three) business days of the effective date of your employment, or your employment relationship with the Company may be terminated. 7. General. This offer letter, the Employment Agreement and the Employee Stock Option Agreement, when signed by you, sets forth the terms of your employment with the Company and supersedes any and all prior representations and agreements, whether written or oral. This agreement can only be amended in a written document signed by you and an officer of the Company. This agreement will be governed by California law. We look forward to you joining the Company. If the foregoing terms are agreeable, please indicate your acceptance by signing both enclosed copies of this letter in the space below, keeping one copy for your files and returning one copy to me. Sincerely, ___________________________ John Schwartz Chairman of the Board CytoTherapeutics, Inc. AGREED AND ACCEPTED:
Mr. George Dunbar November 17, 1999 Page 3 of 3 _____________________________________ This _____ day of November, 1999 enc: Offer Letter Copy Employee Information Agreement I-9 Form
525 Del Rey Avenue, Suite ^ Sunnyvale, CA 94086 CytoTherapeutics EXHIBIT 10.96 November 17, 1999 Dr. Kenneth D. Coleman President/CEO Mr. David Powell Chairman iCEO, L.L.C. Re: Mr. George Dunbar Dear Ken and David: CTI would very much like to engage George Dunbar to serve as Acting President of StemCells, Inc., a subsidiary of CTI, on the following terms: 1. We would expect George to sign our normal Employment Offer letter and Employment Agreement, substantially in the form attached. 2. The Acting President's responsibilities will be to perform such services as are customarily performed by the President of a biotechnology company, as requested by the Board from time to time. Specific responsibilities will be to provide the management and leadership role on behalf of the Board to accelerate the timely and cost effective exit from its parent's Rhode Island operations, and to consolidate corporate headquarters around the existing Sunnyvale, California facility. The priorities in Rhode Island include the early sale and disposition of the Lincoln, Rhode Island ECT pilot plant, leasing the existing science and administration facility, appropriate partnering of the ECT technology, and the sorting out with the State of Rhode Island any dispute that might exist regarding their initial "seed loan" to CTI. The corporate relocation priorities are to initiate the minimum infrastructure necessary to manage the ongoing scientific and medical infrastructure necessary to manage the ongoing scientific and medical activities with limited disruption and to ensure all CTI's public company obligations are being met. Attention to other business development and shareholder drivers will be discussed and reviewed at the discretion of the Board. CTI acknowledges and understands that iCEO, L.L.C. cannot and does not guarantee that CTI will obtain funding that it deems acceptable or adequate as a result of the Acting President's performance of services. 3. George would begin as of November 7, 1999, and, of course, would commit to the time necessary to carry out his responsibilities, as you said. We would, as you also note, want to meet with you and George as necessary to discuss any issues that arise in connection with this appointment. George's employment will
Dr. Kenneth D. Coleman CONFIDENTIAL November 1, 1999 Page 2 of 3 be at will, continuing until terminated by either him or us, neither party having any obligation to give the other party advance notice, as reflected in the enclosed engagement letter. 4. We will pay at the total annual rate of $250,000 so long as George is in our employ as Acting President. We will pay iCEO, L.L.C. that part of the total rate that you direct. The remainder will constitute George's salary; we will also pay the employer's share of payroll taxes, and withhold taxes and other amounts as appropriate, on the amounts paid to George. George will be paid on the same schedule as all CTI employees, which is currently every two weeks, and iCEO will bill us for its share on the 15th and the last day of the month for the prior period, amounts to be due on receipt. 5. We will grant options to purchase a total of 8,000 shares of CTI stock every month; every three months, the CTI Board of Directors will also consider an additional grant of up to a total of 6,000 additional options if, in its absolute discretion, it deems the services provided by George are truly outstanding. The shares will be divided between George and iCEO as you direct in your reply to this letter. The strike price for all options will be the price of the shares at the close of business on the date of grant, which will occur at CTI's first Board meeting in November, 1999. 6. We will reimburse George promptly for his reasonable expenses incurred on behalf of StemCells. We will, of course, require that he follow normal business practices with respect to receipts and advance authorization where required. 7. I have left space below for you to let us know how the monetary payment and the options should be divided up. We will use that information to complete the engagement letter, and send you a copy of the completed package once the remaining documents are fully executed. 8. CTI agrees that if, within 120 days following the termination of George's employment as Acting President of StemCells, it or StemCells should engage George on a permanent basis rather than as Acting President, it will pay iCEO, L.L.C. an amount equal to one third of his first year's targeted cash compensation, including base salary and bonus, in such permanent position. 9. It is understood by all parties that the terms of this agreement, as well as the Employment Offer letter and Employment Agreement, all have to do with an interim position, and that if George were to become CEO of CTI on a permanent basis the terms and conditions would first be renegotiated. It is further understood that George has certain consulting agreements which have been disclosed and which are listed in Exhibit B to the Employment Agreement, and it is agreed that in light of the interim nature of this appointment, he is entitled to continue to provide services under those agreements so long as their performance does not interfere in any way with his carrying out of his responsibilities toward StemCells or its parent. It is also understood and agreed that George is free to interview with other companies during his appointment as Acting President, again so long as this does not interfere in any way with his
Dr. Kenneth D. Coleman CONFIDENTIAL November 1, 1999 Page 3 of 3 carrying out of his responsibilities toward StemCells or its parent. Moreover, if at any time during the duration of his appointment as Acting President of StemCells George should be dissatisfied with his compensation because he finds his responsibilities significantly different from what he now believes they will be, he and you should feel free to meet with the Chairman of the Board of CTI to discuss the problem and how it could be ameliorated. I believe this obviates the need for Exhibit A to your letter, but if I have omitted anything of importance, please let me know. Sincerely, John Schwartz Chairman of the Board Enclosures Accepted, with the condition that $6,250 per month of the annual amount of $250,000 referred to in paragraph 4 (i.e., thirty percent) above be paid to iCEO, L.L.C., and fifty percent of the options for 8,000 shares of CTI stock (i.e., 4,000 shares) per month and fifty percent of any additional options granted as set out in paragraph 5 above, be granted to iCEO Diversified Stock Fund. ____________________________ by: iCEO, L.L.C.