DRAFT 3/24/04
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U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-KSB
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 2003
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _________ to _________
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Commission File Number: 000-32603
ARBIOS SYSTEMS, INC.
(Name of small business issuer in its charter)
NEVADA 91-19553323
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
110 NORTH GEORGE BURNS ROAD
SUITE D-4018
LOS ANGELES, CA 90048
(Address of principal executive offices) (Zip Code)
Issuer's Telephone Number: 310-423-7702
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.001
par value
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Securities Exchange Act of 1934 during the past 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 [ ]
Check if disclosure of delinquent filers pursuant to Item 405 of Regulation S-B
is not contained in this form, and no disclosure will be contained, to the best
of the registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB or any amendment to
this Form 10-KSB. [__]
Issuer's revenues for its most recent fiscal year: $ 138,000
The aggregate market value of the voting and non-voting common equity held by
non-affiliates computed by reference to the price at which the common equity was
sold, or the average bid and asked price of such common equity, as of March 23,
2004 was approximately $17,091,194 based the closing sales price reported by the
OTC Bulletin Board on such date.
There were 13,150,598 shares of the Company's common stock outstanding on March
29, 2004.
Transitional Small Business Disclosure Format (check one): YES [ ] NO [X]
DOCUMENTS INCORPORATED BY REFERENCE: None.
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TABLE OF CONTENTS
PART I
1. Description of Business................................................ 1
2. Description of Property................................................ 14
3. Legal Proceedings...................................................... 14
4. Submission of Matters to a Vote of Security Holders.................... 14
PART II
5. Market for Common Equity and Related Stockholder Matters............... 15
6. Management's Discussion and Analysis or Plan of Operation.............. 15
7. Financial Statements................................................... 25
8. Changes In and Disagreements With Accountants on Accounting and
Financial Disclosure................................................... 25
8A. Controls and Procedures................................................ 26
PART III
9. Directors, Executive Officers, Promoters and Control Persons;
Compliance with Section 16(a) of the Exchange Act...................... 26
10. Executive Compensation................................................. 28
11. Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters............................................ 31
12. Certain Relationships and Related Transactions......................... 32
13. Exhibits and Reports on Form 8-K....................................... 33
14. Principal Accountant Fees and Services................................. 35
INTRODUCTORY COMMENT
Throughout this Annual Report on Form 10-KSB, the terms "we," "us," "our,"
and "our company" refer to Arbios Systems, Inc., a Nevada corporation formerly
known as Historical Autographs U.S.A., Inc., and, unless the context indicates
otherwise, also includes our wholly-owned subsidiary, Arbios Technologies, Inc.,
a Delaware corporation.
FORWARD LOOKING STATEMENTS
This annual report contains forward-looking statements within the meaning
of the federal securities laws. These include statements about our expectations,
beliefs, intentions or strategies for the future, which we indicate by words or
phrases such as "anticipate," "expect," "intend," "plan," "will," "we believe,"
"the company believes," "management believes" and similar language. The
forward-looking statements are based on our current expectations and are subject
to certain risks, uncertainties and assumptions, including those set forth in
the discussion under "Description of Business" and "Management's Discussion and
Analysis or Plan of Operation - Factors that May Affect Future Results and
Market Price of Our Stock." Our actual results may differ materially from
results anticipated in these forward-looking statements. We base our
forward-looking statements on information currently available to us, and we
assume no obligation to update them. All subsequent written or oral
forward-looking statements attributable to us or persons acting on our behalf
are expressly qualified in their entirety by "Management's Discussion and
Analysis or Plan of Operation - Factors that May Affect Future Results and
Market Price of Our Stock."
PART I
ITEM 1. DESCRIPTION OF BUSINESS.
COMPANY OVERVIEW
Arbios Systems, Inc. is a Nevada corporation based in Los Angeles,
California. Through our wholly owned subsidiary, Arbios Technologies, Inc.
("ATI"), a Delaware corporation, we seek to develop, manufacture and market
liver assist devices to meet the urgent need for therapy of liver failure. We
currently have two products in development; a novel blood purification therapy
called selective plasma exchange therapy ("SEPET(TM)") and a novel bioartificial
liver device ("LIVERAID(TM)"). Both of our products consist of a single-use
cartridge through which the patient's plasma is circulated to provide various
liver support functions. The SEPET cartridge is designed to remove toxins in the
patient's blood, while the LIVERAID cartridge, which contains sterile pig liver
cells, is designed to artificially provide liver functions.
Arbios Systems, Inc. was originally incorporated in February 1999 as
Historical Autographs U.S.A., Inc. ("HAUSA"). HAUSA was an e-commerce based
company engaged in the business of acquiring and marketing historical documents,
such as letters, photographs and signatures of political and military figures,
inventors, Nobel Prize winners, entertainers, musicians, composers, authors,
artists, and well-known athletes. HAUSA's e-commerce business was not
successful. Since its inception through June 30, 2003, it generated less than
$200,000 of revenues, while incurring a cumulative loss of approximately
$45,000. Accordingly, HAUSA sought other business opportunities, including the
acquisition of ATI.
On October 30, 2003, HAUSA completed a reorganization (the
"Reorganization") in which HAUSA, through its wholly-owned subsidiary, acquired
all of the outstanding shares of ATI in exchange for 11,930,598 shares of our
common stock. As a result of the Reorganization, ATI became the wholly-owned
subsidiary of HAUSA. Shortly thereafter, HAUSA changed its name to "Arbios
Systems, Inc." In the Reorganization, HAUSA also replaced its officers and
directors with those of ATI. Following the Reorganization, we closed HAUSA's
offices, ceased HAUSA'a e-commerce business, and moved HAUSA's offices to our
current offices in Los Angeles, California. We currently do not plan to conduct
any business other than operations heretofore conducted by ATI.
1
PRODUCT OVERVIEW
LIVERAID(TM) is a single-use cartridge that contains pig liver cells,
certain sorbents, and specially designed porous tubes. When a patient's blood is
pumped through the cartridge, substances normally metabolized by the liver and
accumulated in the blood during liver failure move across the porous tubes into
two compartments, one of which is filled with pig liver cells and the other that
incorporates chemical particles (sorbents) capable of removing toxins that cause
liver failure. At the same time, substances produced by pig liver cells move
across the porous wall into the blood compartment. As a result of these two
processes (provision of whole liver functions by the pig liver cells and removal
of toxins by the sorbents), the levels of pathological and normal blood
components move toward normal ranges.
SEPET(TM) is a single-use cartridge that contains specially designed
porous tubes. When patient's blood is pumped through these tubes, substances
normally metabolized by the liver and accumulated in the blood during liver
failure move across the porous wall and are discarded. As a result of this blood
purification (detoxification) process, the levels of pathological blood
components move toward normal ranges.
In order to provide LIVERAID(TM) or SEPET therapy, each of the cartridges
is placed on a blood perfusion apparatus (such as a dialysis machine) that is
attached to the patient's blood circulation system. At the end of the treatments
with either of our products, the disposable cartridges are discarded, and new
cartridges are used for the next therapy.
BACKGROUND OF ARBIOS TECHNOLOGIES, INC.
ATI was formed in August of 2000 by Drs. A. A. Demetriou and J. Rozga, two
leaders in the field of artificial liver therapy. As employees of Cedars-Sinai
Medical Center, Drs. A. A. Demetriou and J. Rozga previously developed a first
generation bioartificial liver that was licensed by Cedars-Sinai Medical Center
in 1994 to W.R. Grace & Co. and then subsequently transferred to other entities.
However, this first generation device and has not yet been approved for
marketing. ATI was organized by its founders for the purpose of developing more
advanced and effective liver support therapies than the first-generation
bioartificial liver that was originally licensed to W.R. Grace & Co.
To date, ATI has been funded the research and development of its two
products through funds derived from the sale of approximately $5,485,000 of its
equity securities and $304,000 of Small Business Innovation Research (SBIR)
grants that have been awarded to ATI by the United States Small Business
Administration. We intend to apply for additional SBIR grants to fund a portion
of our research expenditures. However, whether or not we receive additional SBIR
grants, we will have to raise substantial additional funds to fund our future
clinical development expenses and our on-going working capital needs. See "Item
6, Management's Discussion and Analysis or Plan of Operation--Factors Associated
with our Business."
Our offices and laboratories (and those of ATI) are located at
Cedars-Sinai Medical Center, Los Angeles, California. Under our lease agreement
and other arrangements with Cedars-Sinai, we have access to all of the key
development resources of that leading medical center (e.g., animal facility,
surgical core facility, clinical laboratory and others). Cedars-Sinai Medical
Center will be considered as the primary clinical testing site.
We have also entered into various agreements with Spectrum Laboratories,
Inc. ("Spectrum Labs"), including research and development agreements and
manufacturing agreements. Spectrum is expected to be the manufacturer of the
cartridges to be used in both liver assist devices. Spectrum Labs is a company
that specializes in the development and manufacture of innovative molecular
separation products for the research community and is a leading supplier of
dialysis and ultrafiltration membranes used for biomedical research, molecular
biology and clinical diagnostics throughout the world.
2
MARKETS
The total market opportunity for extracorporeal liver support is
substantial and unserved. According to the American Liver Foundation and the
National Center for Health Statistics (NCHS), liver failure is the 7th leading
cause of death in the U.S. In 2000, nearly 700,000 Americans were diagnosed with
liver disease and over 250,000 liver patients were hospitalized due to acute
liver failure. Of those, nearly 50,000 (20%) died because no donor liver was
available or because these patients had contraindications to liver
transplantation. The remaining 200,000 patients were discharged from the
hospital because they either received a liver transplant or their condition
improved after receiving conventional care. Remarkably, half of them were
hospitalized again in the same year due to another episode of liver failure
requiring full medical support and/or organ replacement. Based on these data,
the NCHS estimates that more than 200,000 extracorporeal liver support
treatments are needed annually in the U.S. alone as a bridge to recovery with or
without transplantation.
Due to the critical nature of liver failure and the resulting adverse
effects on other organs, the in-patient cost of liver failure treatment can
reach $200,000 without a transplant. Liver transplants can cost, in some cases,
over $300,000 and that excludes the $30,000 in anti-rejection drugs required
annually for life. Although our products have not yet been developed and,
therefore, it is uncertain what the cost would be for treatments using either
the LIVERAID(TM) therapy or SEPET(TM) treatment, we currently believe that
treatments using our technologies will be significantly less expensive than the
cost of the currently available treatments. Thus, the potential market for these
two therapies in the U.S. alone is significant, with opportunities throughout
the rest of the world. In addition to the potential cost savings on the
treatments of liver failure, the use of our potential products could also
shorten the time of hospitalization for patients with liver failure, thereby
also reducing the overall costs of hospitalization.
STRATEGY
We have established collaborations with Cedars-Sinai Medical Center,
Spectrum Labs. These collaborations are expected to facilitate the development
of SEPET(TM) and LIVERAID(TM) and could potentially accelerate the clinical
testing, regulatory approval and commercialization of those products in the
United States and other markets.
We believe that the testing and regulatory requirements for SEPET(TM) will
be shorter than for LIVERAID(TM). Accordingly, because of the shorter regulatory
period and the ability of SEPET(TM) to operate through the use of a standard,
currently available kidney dialysis unit, we expect to complete the development
of SEPET(TM) before the development of LIVERAID(TM) is completed. However, we
will need to raise significant additional capital to be able to generate the
research, clinical and manufacturing data necessary to support applications of
our two products to the United States Food and Drug Administration ("FDA") and
regulatory agencies in other countries. We have engaged a consultant to evaluate
whether SEPET(TM) could qualify to receive market approval from the FDA through
a less complex, less time-consuming and less expensive procedure known as a
Section 510(k) notification procedure. We do not know if we will attempt to
obtain FDA marketing approval under Section 510(k), of if we do decide to apply
under that section, whether the FDA will grant us clearance under that section.
We expect to make a determination on whether to submit a Section 510(k)
notification later this year.
We have already concluded in vitro and in vivo testing of the LIVERAID(TM)
prototype devices and currently plan to commence clinical testing of SEPET(TM)
during 2004 and clinical testing of LIVERAID(TM) in 2005/2006. Based on our
current estimates, we anticipate that we will be able to file an application
requesting market approval of the SEPET(TM) in 2007 and an application
requesting marketing approval of the LIVERAID(TM) in 2008.
3
LIVER FUNCTION BACKGROUND
The liver controls, or affects, almost every aspect of metabolism and most
physiologic regulatory processes, including protein synthesis, sugar and fat
metabolism, blood clotting, the immune system, detoxification (alcohol, chemical
toxins, drugs) and waste removal. Loss of liver function is a devastating and
life threatening condition. Liver failure affects all age groups and may be due
to many causes, including viral infection (hepatitis), ingestion of common
medications, alcohol, and surgical liver removal for trauma and cancer.
For many years, it was assumed that the toxins that cause coma in hepatic
failure are small dialyzable molecules. As a result of this belief, most liver
support systems and therapeutic regimens used in the past relied on
detoxification, usually by use of sorption therapy. This was performed either
directly on whole blood or plasma, or coupled with hemodialysis/hemofiltration
to treat either the dialysate or hemofiltrate. None of these modalities have
achieved wide clinical use or ability to arrest or reverse liver failure and
improve survival. As a consequence, liver failure patients must either undergo
liver transplantation or endure prolonged hospitalization with low probability
of survival. In addition, many patients do not qualify for transplantation.
Still others do not recover after transplantation because of irreversible brain
damage caused by liver failure. Although the liver has a remarkable capacity for
regeneration, the repair process after massive liver damage is markedly
impaired.
There is a need to develop artificial means of liver replacement and/or
assistance with the aim of either supporting patients with borderline functional
liver cell mass until their liver regenerates or until a donor liver becomes
available for transplantation. Such an "artificial liver" should also support
patients during recovery after transplantation with marginal livers and after
extended liver resections for trauma or cancer. To achieve these effects, an
effective liver support system should be able to lower blood levels of
substances toxic to the brain and liver and to provide whole liver functions,
which are impaired or lost.
It is generally believed that liver support at this level of complexity
requires utilization of viable isolated liver cells (hepatocytes). The founders
of ATI as well as investigators not associated with this company have
demonstrated in vitro and in animal models of liver failure that cell-based
bioartificial livers can provide whole liver functions. However, only a few
bioartificial livers were tested in humans and it remains to be seen whether
systems utilizing hepatocytes as the only means of liver support are effective.
We believe that in order to provide the maximum support for the failing liver,
porcine hepatocyte therapy should be combined with blood detoxification. Based
on this principle, the founders of ATI have previously developed at Cedars Sinai
Medical Center a first-generation bioartificial liver system that was licensed
by Cedars-Sinai Medical Center to W.R. Grace & Co. in 1994. A Phase I clinical
trial was carried out at Cedars-Sinai Medical Center and the results were
encouraging (16 out of 18 liver failure patients were successfully "bridged" to
transplantation; one bioartificial liver-treated patient recovered without
transplantation and one patient died because of concomitant severe
pancreatitis). This first generation bioartificial liver (known as
HepatAssist(TM) System, and owned by Circe Biomedical, Inc., Lexington,
Massachusetts) was recently tested in FDA-approved Phase II/III clinical trials.
To our knowledge, these trials of the HepatAssit System were the first large
(171 patients) prospective, randomized, controlled multi-center trial
demonstrating a survival advantage for an extracorporeal liver assist system in
a subgroup of patients with fulminant and subfulminant hepatic failure.
Our LIVERAID(TM) was designed to become a more advanced, simpler, less
costly and more effective application of the basic bioartificial liver concept.
In our system, liver cell therapy (porcine hepatocytes) and blood detoxification
(selective plasma exchange or sorbent based plasma therapy) are combined in a
single device. Depending on the cause of liver disease, severity of illness and
deficiency of specific liver functions, these LIVERAID(TM) modes of therapy can
be provided individually, simultaneously or sequentially. Because of these
features, we believe that the system is well suited to treat patients with liver
failure of all etiologies and severity, including those requiring maximum liver
support. While pre-clinical data has indicated that LIVERAID(TM) improved
hemodynamic status, clearance of ammonia and ICG (a liver function test) and
prolonged survival time of pigs with total liver failure, our beliefs have not
been clinically proven, and we will have to demonstrate the efficacy of
LIVERAID(TM) in FDA-approved clinical trials before our product can be used by
human patients.
4
In liver failure patients, the clearing of blood of neuro- and
hepatotoxins is highly desirable and there is a need for an effective blood
purification therapy. SEPET(TM) (selective plasma exchange) is a novel form of
such therapy. During SEPET(TM) the plasma fraction containing substances that
are toxic to the brain, the liver and other internal organs and tissues would be
removed from patient blood and replaced with normal human plasma. Recently,
preliminary proof of feasibility for selective removal of the toxic plasma
fraction was provided by a group of investigators from Hong Kong University
School of Medicine. In their studies, pigs with toxic liver injury showed
improved survival and regeneration of the diseased liver when subjected to
selective plasma filtration.
THE PRODUCTS WE ARE DEVELOPING
SEPETTM
We are developing SEPET(TM) (selective plasma exchange therapy) as a blood
purification measure to provide temporary liver support during acute liver
failure and acute exacerbation of chronic liver disease. SEPET(TM) therapy will
be provided through a single-use, disposable cartridge containing a bundle of
hollow fibers made of polysulfone or a similar bio- and hemo-compatible material
and being capable of sieving substances with molecular weight of up to 100 kDa.
We have entered into an agreement with Spectrum Labs for the manufacture of
these disposable cartridges. See, "Item 1. Description of
Business--Manufacturing," below. The SEPET(TM) is designed for use with any
commercially available kidney dialysis unit and/or plasma apheresis system
utilizing hollow-fiber cartridges. Accordingly, no apparatus needs to be
developed or manufactured for SEPET(TM). Accessory components for the SEPET(TM)
(e.g., tubings, connectors, pressure gauges, etc.), will consist of standard
components that are currently used in renal dialysis. We expect that these
accessory components will be manufactured for us by third-party vendors.
During therapy, ultrafiltrate containing toxins with molecular weight of
100 kDa or less will be recovered from the side port of the cartridge, while at
the same time, commercially available (e.g., blood bank) fresh frozen plasma
and/or its synthetic substitute will be administered to the patient.
It is expected that as a result of these two processes, the levels of
pathological and normal blood components present in the patient's circulation
will move toward normal ranges, thereby facilitating recovery from liver
failure. Based on published medical literature, rapid and efficient blood
detoxification is expected to protect the liver, brain and other organs against
further injury, accelerate healing of the native liver and improve its residual
functions.
We expect that SEPET(TM) may:
o Help keep liver failure patients alive and neurologically intact
before, during and immediately after transplantation.
o Allow, in selected cases, survival without a transplant (a "bridge"
to liver regeneration).
o Support patients during periods of functional recovery and
regeneration after extensive removal due to liver trauma and/or
cancer.
o Accelerate recovery from acute exacerbation of chronic liver
disease.
o Shorten length of stay in intensive care units.
o Shorten hospital stay.
o Reduce the cost of care.
o Reduce intractable itching associated with severe jaundice.
We expect to demonstrate that SEPET(TM) can achieve these effects because
it can lower blood levels of substances that are toxic to both the brain and
liver. However, proof of feasibility is lacking at this time, and the clinical
utility of this product still needs to be demonstrated in vivo with
experimentally-induced acute liver failure.
5
LIVERAID(TM)
We have designed and are attempting to demonstrate that our LIVERAID(TM)
product can provide temporary liver support during acute liver failure and acute
exacerbation of chronic liver disease. The LIVERAID(TM) utilizes a unique
multi-compartment hollow fiber module incorporating viable pig liver cells and a
blood detoxification circuit. The module is attached to a base instrument which
facilitates perfusion of the LIVERAID(TM) with a patient's plasma. The hollow
fibers will be made of a polyethersulfone membrane or a similar material based
on our proprietary fiber-within-a-fiber geometry. This geometry allows for
integration of at least two functions within a single module. Depending on the
etiology of liver disease, severity of illness and deficiency of specific liver
functions, the LIVERAID(TM) is designed to offer liver cell therapy, blood
detoxification or a combination thereof. During treatment, individual modes of
therapy may be added or removed. We currently are attempting to demonstrate that
pig liver cells can be harvested and cryopreserved through proprietary patent
protected technology that has been exclusively licensed to ATI. The other
components of LIVERAID(TM), including blood purification columns (charcoal,
resin), are available from third party vendors.
The critical aspects of LIVERAID(TM) technology include the source and
procurement of liver cells, the storage of the liver cells, the number of cells
to be used during therapy, the cell module engineering, and LIVERAID(TM)
perfusion technique. The following addresses our current plans and procedures
regarding viable liver cells (hepatocytes);
HEPATOCYTE DONORS. Ideally, human hepatocytes should be used in a bioartificial
liver. However, there is a shortage of organ donors and published data
demonstrated that pig liver cells outperform animal and even human liver cell
lines, including those derived from liver cancers. In addition, use of human
cancer-derived cells raises safety concerns. At this time, we intend to utilize
normal pig liver cells.
HEPATOCYTE HARVEST. The founders of our ATI subsidiary have developed a
semi-automated method for large-scale harvest of pig hepatocytes with excellent
yield and cell viability. The method of harvesting and collecting liver cells is
covered by two patents, which patents have been licensed to ATI by Cedars-Sinai
Medical Center.
HEPATOCYTE STORAGE. Hepatocyte storage, quality control and shipment of cells to
treatment sites are best achieved by use of cell freezing (i.e.,
cryopreservation). Cryopreservation also provides greater protection from
bacterial and viral contamination because frozen cells can be stored until
microbiologic testing is completed and cells are then released for clinical use.
Prior to use, cells are rapidly thawed and their viability is tested. The
founders of ATI have developed a patented hepatocyte cryopreservation
technology, which technology is now owned by Cedars-Sinai Medical Center. The
patent for this technology has been licensed to ATI by Cedars-Sinai Medical
Center. However, the work on adjusting this technology to clinical needs has as
yet not been done.
HEPATOCYTE MODULE. The LIVERAID(TM) is designed to utilize a proprietary
three-compartment hollow-fiber module with fiber-in-fiber geometry that allows
integration of two different functions.
BIOARTIFICIAL LIVER PERFUSION TECHNIQUE. At present, most bioartificial liver
systems are perfused with plasma rather than blood. LIVERAID(TM) is designed to
be perfused with a patient's plasma to prevent leakage of porcine cells and cell
debris into patient blood circulation. The platform will utilize a commercially
available oxygenator and a disposable tubing kit.
The pig liver cells will be harvested from young purpose-bred,
pathogen-free, vaccinated pigs raised in an United States Department of
Agriculture ("USDA") certified facility specifically for biomedical research
purposes. Each batch of cryopreserved pig liver cells will be released for
clinical use only after proper verification of biosafety and
viability/functionality of the cells. We intend to develop appropriate
laboratory and quality assurance protocols in compliance with FDA requirements.
6
LIVERAID(TM) is designed to be used in the same manner as any other plasma
therapy device. In a typical clinical procedure, the operator will install a
LIVERAID(TM) module and tubing set containing sorbent detoxification columns
into the blood/plasmaperfusion platform. Approximately 15 billion viable pig
hepatocytes will be seeded into the extra-fiber space through the module side
ports. At the start of treatment, the platform will be attached to the patient
and the module will be perfused with the patient's oxygenated plasma. At the
same time, fresh frozen plasma will be recirculated through the sorbent columns
in the diafiltration circuit. Alternatively, LIVERAID(TM) modules with inner
fibers that allow selective plasma exchange therapy could be used. At the end of
treatment, the disposables will be discarded as biohazardous waste.
We expect to demonstrate that during therapy, substances normally
metabolized by the liver and accumulated in the blood during liver failure will
diffuse freely across the porous membrane into the compartment containing pig
liver cells. At the same time, products of pig liver cell metabolism will
diffuse back into the plasma compartment and then into the blood circuit. It is
anticipated that as a result of these two processes, the levels of pathological
and normal blood components present in the patient's circulation will move
toward normal ranges, thereby facilitating recovery from liver failure.
Additional therapeutic benefits may be provided by blood purification
(detoxification) therapy. In this mode of therapy, small and large protein-bound
toxins, which accumulate in the blood during liver failure are expected to be
removed either by sorbents (hemodiafiltration) or during selective plasma
exchange. Blood detoxification is believed to protect the liver, brain and other
organs against further injury, accelerate healing of the native liver and
improve its residual functions. Decreased blood toxicity is also expected to
prolong the life and metabolic activity of pig hepatocytes in LIVERAID(TM)
module.
We expect that LIVERAID(TM) may:
o Help keep liver failure patients alive and neurologically intact
before, during and immediately after transplantation. Thus, it will
serve as a "bridge" to transplantation and/or functional recovery
after transplantation with marginal livers.
o Allow survival without a transplant (a "bridge" to liver
regeneration).
o Support patients during periods of functional recovery and
regeneration after extensive removal due to liver trauma and/or
cancer.
o Accelerate recovery from acute exacerbation of chronic liver
disease.
o Shorten length of stay in intensive care units.
o Shorten hospital stay.
o Reduce the cost of care.
o Reduce intractable itching associated with severe jaundice.
PRODUCT ADVANTAGES
We believe that SEPET(TM)as a blood purification therapy will be found
more effective than sorbent-based devices (e.g., charcoal, resin, silica, etc.)
and whole plasma exchange therapy.
To the best of our knowledge, LIVERAID(TM) is the only liver assist device
under development that is capable of providing both liver cell functions and
blood purification either simultaneously or sequentially in a versatile and
customized manner depending on the cause and severity of liver failure.
We believe that use of currently available hospital kidney dialysis
systems to provide SEPET(TM) therapy may offer the following advantages:
7
o Ease of use. The systems bring user friendliness (e.g., pump
integration, automation and an intuitive user interface) to
traditionally complex liver support procedures.
o Simplicity. Kidney dialysis systems are routinely used and,
therefore, there may be no need for extensive personnel training for
use of these similar systems in the SEPET(TM).
o Low cost. The cost of therapy is expected to be lower than with any
other liver assist device that is currently under development.
o No Intensive Care Unit needed to provide treatment. With further
developments, SEPET(TM) may become available for treatment of
patients outside of intensive care unit settings.
Drs. Demetriou and Rozga, the founders of ATI and the principal
stockholders of this company, have previously demonstrated that cryopreserved
pig hepatocytes remain alive (>80% viability) after thawing. Moreover, they
quickly aggregate, forming liver-like 3-D units, and resume basic functions
(e.g., drug metabolism) at levels comparable to those seen in intact livers.
Drs. Demetriou and Rozga have also reported that treatment of animals and
patients with fulminant hepatic failure with a bioartificial liver loaded with
freshly thawed pig hepatocytes prolonged life, alleviated intracranial
hypertension and improved blood chemistry. In addition, in experimental animals
bioartificial liver therapy improved native liver function and triggered
mechanisms regulating liver regeneration. In addition, LIVERAID(TM) treatment
can be commenced with 2-3 hours of patient preparation, thereby making
LIVERAID(TM) therapy available on demand. In contrast, other liver assist
devices under development require longer time for preparation prior to patient
treatment (up to several days in some instances).
CLINICAL UTILITY
The clinical performance of the SEPET(TM) and LIVERAID(TM) has not been
assessed yet. However, in vivo large animal studies have provided proofs of
feasibility and clinical efficacy for LIVERAID(TM). Additionally, virtually all
basic aspects of these new technologies (effect of blood purification, liver
cell function, utility of hollow-fiber membranes, performance of a design
incorporating both pig liver cells and sorbent) have been validated in the past
by Drs. Demetriou and Rozga, the founders of ATI, and other investigators.
Furthermore, the animal and clinical data generated and published to date on the
first-generation bioartificial liver, indicate that the basic concept of a
bioartificial liver utilizing cryopreserved pig liver cells and blood
detoxification, is valid and that repeated 6-hour bioartificial liver treatments
are safe and yield measurable therapeutic benefits. Accordingly, we believe that
our novel, next-generation products will represent improvements and/or
enhancements of earlier technologies.
MARKET OPPORTUNITY
There is an urgent need for artificial means of liver replacement and/or
assistance to facilitate recovery from liver failure without a transplant. An
effective liver assist device could also help maintain liver failure patients
alive until an organ becomes available for transplantation. The SEPET(TM) and
LIVERAID(TM) are designed to treat patients with liver failure of all etiologies
and severity, including acute exacerbation of chronic liver disease.
The patient and market opportunity is substantial and underserved.
According to the American Liver Foundation, NCHS and data published in medical
literature, it is estimated that five million Americans have viral hepatitis and
each year as many as 700,000 patients in the United States are diagnosed with
liver disease.
According to NCHS, approximately 250,000 patients are hospitalized
annually in the U.S. due to liver failure. Of those, nearly 50,000 (20%) died
(7th leading cause of death) because no donor liver was found or because they
had contraindications to transplantation. The remaining 200,000 patients were
discharged from the hospital because they either received a liver transplant or
their condition improved after receiving standard of care. Remarkably, half of
them were hospitalized again in the same year due to another episode of liver
failure requiring full medical support. At the same time, 2,000 patients with
fulminant hepatic failure were added to the list for urgent transplantation. As
of April 2002, the United Network for Organ Sharing national patient waiting
list for liver transplants was 17,641 names long; at least a third of those have
end-stage hepatitis C, and within the year almost 2,000 will die waiting for a
transplant. Because of the hepatitis C epidemic, the transplant waiting list is
expected to increase 500% by 2008.
8
Based on these data and NCHS projections, we estimate that more than
200,000 extracorporeal liver support treatments may be needed annually in the
United States alone to help keep liver failure patients alive until either an
organ becomes available for transplantation or the native liver recovers from
injury. We believe that SEPET(TM) and LIVERAID(TM) may address this demand and,
based on published data, estimates that there were approximately 250,000
patients hospitalized in the United States in 2001 who had indications for
SEPET(TM) and/or LIVERAID(TM) therapy.
At present no direct treatment for liver failure is available and such
patients must receive a liver transplant or endure prolonged hospitalization
with significant mortality. Moreover, no prognostic test is available that would
help predict which liver failure patient is likely to survive on medical therapy
alone. Due to the critical nature of liver failure and the resulting adverse
effects on other organs, the hospitalization costs can be as high as $20,000 per
day. In fact, it is estimated that the in-patient cost of liver failure
treatment can reach $200,000 per episode without a transplant. While liver
transplants have significantly increased the chances of survival for patients
with liver failure, due to a severe shortage of donor livers, less than 10% of
liver failure patients received a transplant. Further, many liver failure
patients were excluded from the waiting list because of alcohol or drug abuse,
cancer, cardiovascular disease or inadequate post-operative support by family or
others.
At this time, based on the preliminary information available to us, we
estimate that the cost of a single treatment with the SEPET(TM) therapy could be
within a $2,000 - $4,000 range and that cost of the LIVERAID(TM) therapy could
be approximately $20,000. We anticipate that SEPET(TM) and/or LIVERAID(TM)
therapy will have to be repeated up to 5-7 times before a satisfactory clinical
outcome is obtained. Based on these estimates and the above mentioned
projections, the potential U.S. market for SEPET(TM) and LIVERAID(TM) is
significant, with similar opportunities in countries outside the U.S. However,
we have not confirmed the potential size of these markets through an independent
marketing study.
If we are successful in demonstrating the clinical utility of one or both
of our products, liver failure patients treated with our products may be spared
liver transplantation and the need for life long immune-suppression. In
addition, these patients can be treated outside of the intensive care unit and
could be discharged from the hospital after shorter stays, all of which would
reduce costs for healthcare providers and generate a demand for the use of these
products.
In addition to the U.S., the potential market for our products includes
Europe and Asia. In China, liver disease represents a pressing health problem
and the need for an effective liver support therapy is more urgent than in most
other markets. It has been estimated that there are approximately 200 million
carriers of the hepatitis virus B or C in China, and primary liver cancer is a
common malignancy. In Japan, demand for alternative liver support/replacement
therapies is significant because transplantation of cadaver livers is virtually
nonexistent.
SALES, MARKETING & DISTRIBUTION
We currently do not have any agreements in place to market either of our
SEPET(TM) and LIVERAID(TM) products if and when those products are commercially
released, and we do not currently expect to establish an in-house marketing and
sales program to distribute our products. We currently expect to outsource the
sales, marketing and distribution of our products to third parties who
specialize in the sales, marketing and distribution of medical products.
Alternatively, we may enter into strategic alliances with larger medical
companies or license the rights to our products to such larger companies. We
currently expect that our products will be marketed in the U.S., Europe and
Asia.
9
MANUFACTURING
Through our ATI subsidiary, we are a party to agreements with both
Spectrum Labs and Cedars-Sinai Medical Center that cover our future
manufacturing needs. We currently anticipate that LIVERAID(TM) devices will be
commercially manufactured by Spectrum Labs according to an existing
manufacturing and supply agreement that ATI entered into with Spectrum in
December 2001. Under that agreement, the parties agreed that Spectrum Labs will
manufacture for ATI the hollow fiber cartridges with fiber-in-fiber geometry
that ATI will need for its bioartificial liver. The agreement provides that the
price of the hollow fiber-in-fiber cartridges to be sold by Spectrum Labs to ATI
will be determined by good faith negotiations between the parties. ATI has
agreed that it will not purchase cartridges with fiber-in-fiber geometry from
any other manufacturer unless Spectrum Labs is either unable or unwilling to
manufacture the cartridges. See "Item 12. Certain Relationships and Related
Transactions."
With respect to cartridges that we expect will be needed for SEPET(TM), we
anticipate that such cartridges will be commercially manufactured by either
Spectrum Labs or a manufacturer of clinical hemodialyzers. Additional disposable
components (tubing kits) may also be manufactured by third party subcontractors.
The kidney dialysis unit that will be used as a platform for SEPET(TM)
therapy is not expected to require any technical adjustments. Since pressure
monitors and hemoglobin detectors are standard in kidney dialysis systems,
addition of additional safety features may not be required. Blood
oxygenator/heat exchangers are available from third party vendors who sell these
products.
The platform we currently expect to use for LIVERAID(TM) will be an
existing instrument manufactured and marketed by an unaffiliated medical device
manufacturer. The instrument we expect to purchase has been certified and
approved in Europe for bioartificial liver use. In order to commence clinical
testing of LIVERAID(TM), by the end of this current fiscal year we intend to
purchase two of the instruments that are outfitted with custom-made software,
hook-ups and associated components (tubing set) specifically for use with
LIVERAID(TM).
The pig liver cells will be harvested from young purpose-bred,
pathogen-free, vaccinated pigs raised in an USDA certified facility specifically
for biomedical research purposes. We have identified a facility that currently
breeds pigs that meet the FDA's requirements. The liver cells will be harvested
and cryopreserved under aseptic conditions using our proprietary technology as
well as commercially available equipment.
As regards cell procurement/cryopreservation, we do not yet own our own
specialized and certified bio-secure porcine liver cell manufacturing plant.
Currently, we expect to subcontract the manufacture of the porcine liver cells
needed to conduct Phase I/II/III clinical trials and during early stages of
commercialization from one or more third parties who already manufacture such
cells. At the conclusion of Phase I/II clinical testing of the LIVERAID(TM), we
will have to determine whether to build a cell procurement facility to meet the
expected requirements for commercial sales, which will require a substantial
capital investment, or to continue to purchase such cells from third parties.
This decision will be based on technical evaluation of the project as well as an
economic evaluation of company performance.
PATENTS AND PROPRIETARY RIGHTS
Our subsidiary, ATI, has obtained exclusive, worldwide rights from
Cedars-Sinai Medical Center and Spectrum Labs to seven issued U.S. patents
protecting LIVERAID(TM) and accompanying cell procurement/cryopreservation
technologies. The founders of ATI (Dr. Rozga and Dr. Demetriou) are co-inventors
of both the semi-automated methods for large-scale production of isolated
pig/human hepatocytes and cryopreservation of isolated pig/human hepatocytes.
Our key proprietary LIVERAID(TM)technologies include the following licenses
patents:
10
1. A hollow fiber module with unique fiber-in-fiber geometry (US Patent
#5,015,585 "Method and Apparatus for Culturing and Diffusively
Oxygenating Cells on Isotropic Membranes" issued on May 14, 1991).
We have licensed this patent from Spectrum Labs.
2. A bioartificial liver system in which liver cell therapy and blood
detoxification are integrated in a single fiber-in-fiber module (US
Patent # 6,582,955 B2 for "Bioreactor With Application as Blood
Therapy Device" issued in June 2003). We have licensed this patent
from Spectrum Labs.
3. Semi-automated large-scale liver cell procurement technology (US
Patent #5,888,409 for "Methods for Cell Isolation and Collection"
issued on March 30, 1999 and US Patent #5,968,356 for "System for
Hepatocyte Cell Isolation and Collection" issued on October 19,
1999, and related European Patent #0 830 099 for "Apparatus and
Method for Cell Isolation and Collection"). We licensed these
patents from Cedars-Sinai Medical Center.
4. Liver cell cryopreservation technology (US Patent #6,140,123 for
"Method for Conditioning and Cryopreserving Cells" issued on October
31, 2000). We licensed this patent from Cedars-Sinai Medical Center.
5. A bioartificial liver device with integrated tubes ("Bioreactor and
Related Method" US Patent #6,242,248 B1 issued on June 5, 2001). We
licensed this patent from Cedars-Sinai Medical Center.
6. A bioartificial liver device ("Bioreactor and Related Method" US
Patent #6,207,448 B1 issued on March 27, 2001). We licensed this
patent from Cedars-Sinai Medical Center.
Cedars-Sinai Medical Center Licenses. On June 19, 2001, ATI entered into
an agreement with Cedars-Sinai Medical Center pursuant to which Cedars-Sinai
granted to ATI exclusive and worldwide rights to the foregoing five patents and
to certain other technical information. These rights are and remain exclusive
over the legal life of the various patents and include, subject to limitations,
the right to sublicense the patent rights to third parties. In order to maintain
its rights under the license, ATI is required to expend an aggregate amount of
$1,760,000 in research and development expenses toward the development and
promotion of products derived from the patents. ATI's research and development
commitment remains in full force and effect until June 30, 2008. Under the terms
of the license, ATI is obligated to meet expenditure milestones per annum
through 2008 in order to reach the required $1,760,000. If ATI expenditures
exceed a given year's milestone, however, such excess may be carried over to the
following year. To date, we have spent approximately $1,010,000 towards the
fulfillment of this obligation. Additionally, Cedars-Sinai Medial Center will
have nonexclusive rights to any products derived from the patents. We will have
to pay Cedars-Sinai Medical Center royalty fees equal to 1.5% of the gross sales
price of royalty bearing products. From the third to tenth years of the license,
the royalty fee percent will phase out evenly to 0%. Cedars-Sinai Medical Center
is a major stockholder of this company. See "Item 12. Certain Relationships and
Related Transactions."
Spectrum Labs License Agreement. On December 26, 2001, ATI entered into a
license agreement with Spectrum Labs, pursuant to which Spectrum Labs granted to
ATI an exclusive, worldwide license to develop, make, use and distribute
products based on Spectrum Labs' hollow fiber-in-fiber technology, solely for
applications in ATI's liver assist devices. The license includes the rights to
the two issued patents referred to above. Provided that ATI purchases the hollow
fiber cartridges that it expects that it will need for its products from
Spectrum Labs, ATI will not have to pay a royalty for the license. In the event
that Spectrum Labs is not the manufacturer of the hollow fiber cartridges, ATI
will have to pay Spectrum Labs a royalty for the license (see, "Item 1.
Description of Business--Manufacturing," above). Unless the Spectrum Labs
license agreement is terminated sooner due to a breach of the license, the term
of the license will continue until the expiration of the two patents. Spectrum
Labs also agreed to grant ATI a right of first refusal to obtain a license to
make, use, develop or distribute products based on Spectrum Labs' technology
other than in liver assisted products, provided that such other products are in
the fields of artificial blood therapy and bioprocessing and therapeutic
devices. See "Item 12. Certain Relationships and Related Transactions."
11
In addition to the licenses and technologies related to LIVERAID(TM), we
also have the rights to a SEPETTM patent application and certain related trade
secrets. In August 2002, we filed a patent application regarding our selective
plasma exchange therapy (SEPET(TM)) technology.
We have not filed for any copyright or trademark protection to date.
RESEARCH AND DEVELOPMENT
ATI and Spectrum Labs also entered into a four-year research agreement
pursuant to which ATI and Spectrum Labs agreed to combine their expertise and
their respective technologies to enable ATI to (i) develop liver assist systems,
(ii) conduct pre-clinical and Phase I-III clinical testing, (iii) obtain
regulatory approvals and (iv) commercialize such liver assist systems. Under the
terms of the agreement, Spectrum Labs agreed to perform certain research on
liver assist devices for ATI during product development, pre-clinical and
clinical testing at no cost to ATI. Spectrum Labs also agreed to pay for all
costs and expenses in connection with the research program and agreed to
allocate a total of $550,000 to the program during the research term. ATI and
Spectrum Labs have recently agreed that Spectrum Labs has now satisfied its
obligations to develop and manufacture clinical-grade, second-generation liver
assist devices and that we will pay Spectrum Labs an additional $54,960 over an
18-month period. Spectrum Labs has agreed to perform additional research and
development work as may we may request, which additional future work will be
provided by Spectrum Labs on terms that we may in the future agree to.
COMPETITION
Our products will compete with numerous other products and technologies
that are currently used or are being developed by companies, academic medical
centers and research institutions. These competitors consist of both large
established companies as well as small, single product development stage
companies. We expect substantial competition from these companies as they
develop different and/or novel approaches to the treatment of liver disease.
Some of these approaches may directly compete with the products that we are
currently developing.
Other therapies currently available include whole plasma exchange therapy,
a procedure involving massive plasma transfusions that is being used primarily
for correction of coagulopathy in patients with severe acute liver failure. In
addition, two extracorporeal blood detoxification systems are currently
available in the U.S. for treatment of liver failure: (1) the Adsorba column
(Gambro, Hechingen, Germany) which contains activated charcoal and (2) the
BioLogic-DT system (HaemoCleanse, West Lafayette, Indiana) utilizing a mixture
of charcoal, silica and exchange resins. Another therapy, known as MARS
(molecular adsorbents recirculating system), combines the specific removal of
the toxins of liver failure (albumin bound toxins) using a hollow-fiber
cartridge impregnated with albumin, which is also added to the dialysate
solution. In Europe and Asia, initial results using MARS in patients with acute
exacerbation of chronic liver disease were encouraging. Excorp Medical, Inc., a
U.S. company, is developing a freestanding blood perfusion system including
pumps, a heat exchanger, an oxygenator, pressure gauges, safety features and
computer-assisted monitoring. Algenix, Inc. has a device (LIVE-Rx 2000) that
utilizes pig liver cells and a commercially available dialysis cartridge. The
technology of VitaGen, Inc. (formerly Hepatix) utilizes a cell line derived from
human liver cancer tissue and a conventional hollow fiber bioreactor. RanD
S.r.I., an Italian company, has developed a radial-flow bioreactor for liver
cell culture and an integrated pumping apparatus in which the patient's plasma
is recirculated through the bioreactor loaded with 200 gm of freshly isolated
pig hepatocytes. The bioartificial liver system has been successfully used in
some patients with fulminant hepatic failure. Hep-Art Co., a Dutch company, also
is clinically testing a bioartificial liver that uses pig hepatocytes.
12
Several other technologies could potentially compete with a bioartificial
liver. These include xenotransplantation (use of pig organs in humans),
transplantation of isolated hepatocytes and ex vivo whole liver perfusions.
GOVERNMENT REGULATION
In order to clinically test, manufacture, and market products for
therapeutic use, we will have to satisfy mandatory procedures and safety and
effectiveness standards established by various regulatory bodies. In the United
States, the Public Health Service Act and the Federal Food, Drug, and Cosmetic
Act, as amended, and the regulations promulgated thereunder, and other federal
and state statutes and regulations govern, among other things, the testing,
manufacture, labeling, storage, record keeping, approval, advertising, and
promotion of our products. Product development and approval within this
regulatory framework takes a number of years and involves the expenditure of
substantial resources. After laboratory analysis and preclinical testing in
animals, an investigational new drug application is filed with the FDA to begin
human testing. Typically, a three-phase human clinical testing program is then
undertaken. In phase 1, small clinical trials are conducted to determine the
safety of the product. In phase 2, clinical trials are conducted to assess
safety and gain preliminary evidence of the efficacy of the product. In phase 3,
clinical trials are conducted to provide sufficient data for the statistically
valid proof of safety and efficacy. The time and expense required to perform
this clinical testing can vary and is substantial. No action can be taken to
market any new drug or biologic product in the United States until an
appropriate marketing application has been approved by the FDA. Even after
initial FDA approval has been obtained, further clinical trials may be required
to provide additional data on safety and effectiveness and are required to gain
clearance for the use of a product as a treatment for indications other than
those initially approved. In addition, side effects or adverse events that are
reported during clinical trials can delay, impede, or prevent marketing
approval. Similarly, adverse events that are reported after marketing approval
can result in additional limitations being placed on the product's use and,
potentially, withdrawal of the product from the market. Any adverse event,
either before or after marketing approval, can result in product liability
claims against us.
In addition to regulating and auditing human clinical trials, the FDA
regulates and inspects equipment, facilities, and processes used in the
manufacturing and testing of such products prior to providing approval to market
a product. If after receiving clearance from the FDA, a material change is made
in manufacturing equipment, location, or process, additional regulatory review
may be required. We will also have to adhere to current Good Manufacturing
Practice and product-specific regulations enforced by the FDA through its
facilities inspection program. The FDA also conducts regular, periodic visits to
re-inspect equipment, facilities, laboratories, and processes following the
initial approval. If, as a result of these inspections, the FDA determines that
any equipment, facilities, laboratories, or processes do not comply with
applicable FDA regulations and conditions of product approval, the FDA may seek
civil, criminal, or administrative sanctions and/or remedies against us,
including the suspension of the manufacturing operations
The FDA has separate review procedures for medical devices before such
products may be commercially marketed in the United States. There are two basic
review procedures for medical devices in the United States. Certain products may
qualify for a Section 510(k) procedure, under which the manufacturer gives the
FDA a Pre-Market Notification, or 510(k) Notification, of the manufacturer's
intention to commence marketing of the product at least 90 days before the
product will be introduced for clinical use. The manufacturer must obtain
written clearance from the FDA before it can commence marketing the product.
Among other requirements, the manufacturer must establish in the 510(k)
Notification that the product to be marketed is "substantially equivalent" to
another legally-marketed, previously existing product. If a device does not
qualify for the 510(k) Notification procedure, the manufacturer must file a
Pre-Market Approval Application. The Pre-Market Approval Application requires
more extensive pre-filing testing than the 510(k) Notification procedure and
involves a significantly longer FDA review process. We do not know if we will
attempt to obtain FDA marketing approval under Section 510(k) for SEPET, of if
we do decide to apply under that section, whether the FDA will grant us
clearance for the use of SEPET under that section. We have engaged a consultant
to advise us with respect to the availability of a Section 510(k) notification
and expect to make a determination on whether to submit a Section 510(k)
notification later this year.
13
We expect SEPET(TM) to be classified by the FDA as a Class II medical
device. Accordingly, unless Section 510(k) is available, SEPET(TM) will be
subject to a two-step approval process starting with a submission of an
investigational new drug exemption application to conduct human studies, and
followed by the Product and Establishment Licensing applications (including
Product Marketing Approval or "PMA").
We expect LIVERAID(TM) to be classified by the FDA as a biological
therapeutic and Class III medical device. Accordingly, it will be subject to a
two-step approval process starting with a submission of an investigational new
drug application to conduct human studies followed by the submission of a
Product Marketing Approval and a new drug application. The latter, if and when
accepted, allows the commercialization of the product.
EMPLOYEES
We currently employ five full-time employees, one part-time employee, one
full-time consultant, and three independent contractors who provide services to
us on a part-time basis. Of the foregoing employees and contractors, six are
primarily engaged in administration/management, and remaining four persons are
involved in scientific research, product development and/or regulatory
compliance matters. In addition, certain members of our Board of Directors
provide us with research and development assistance on a part-time, limited
basis. For more information about our employees and directors see "Item 9.
Directors, Executive Officers Promoters and Control Persons." Our employees are
not represented by a labor organization or covered by a collective bargaining
agreement. We have not experienced work stoppages and we believe that our
relationship with our employees is good.
ITEM 2. DESCRIPTION OF PROPERTY.
We currently maintain our laboratory and office space at Cedars-Sinai
Medical Center in Los Angeles, California, which facilities we lease under a
three-year lease that expires on June 30, 2004. We currently pay rent of $6,441
per month for the 1,008 square foot facility under the lease. Cedars-Sinai
Medical Center is a stockholder of our company and was one of the initial
stockholders of ATI. See "Item 12. Certain Relationships and Related
Transactions."
In March 2004, we signed a second lease for additional office space. The
new office lease will commence on April 1, 2004, will require us to pay rent of
$5,000 per month, and will have a term of two years. The new offices consist of
1,700 square feet of office space in a building across the street from our
laboratories that are located at Cedars-Sinai Medical Center.
ITEM 3. LEGAL PROCEEDINGS.
We are not a party to any material legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
On October 7, 2003, stockholders of HAUSA owning 1,000,000 shares of our
common stock, or approximately 82% of the then issued and outstanding shares of
voting stock, executed a written consent approving the amendment to HAUSA's
articles of incorporation to change the name of HAUSA to "Arbios Systems, Inc."
The action was taken pursuant to Nevada Revised Statutes 78.320(2), which
provides that any action required or permitted to be taken at a meeting of
stockholders may be taken without a meeting if, before or after the action, a
written consent thereto is signed by the stockholders holding at least a
majority of the voting power. On November 10, 2003, we mailed an information
statement to the holders of our common stock informing them of the action taken
by the majority stockholders on October 7, 2003.
14
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
Prior to the Reorganization, our common stock was listed on the Pink
Sheets under the symbol "HIAU," but there was virtually no trading in the common
stock. After the Reorganization, because we changed the name of our company from
Historical Autographs U.S.A., Inc. to Arbios Systems, Inc., we also changed our
trading symbol to "ABOS." On March 18, 2004, our common stock was accepted for
trading on the OTC Bulletin Board under our existing "ABOS" trading symbol.
Between the date of the Reorganization, October 30, 2003, and December 31, 2003,
the closing sales prices of our common stock, as reported by Pink Sheets LLC,
have ranged from $2.25 to $3.25 per share.
As of December 31, 2003, there were approximately 137 record holders of
our common stock. On March 26, 2004, the closing price of our common stock was
$3.20.
DIVIDENDS AND DIVIDEND POLICY
We have not paid any cash dividends on our common stock, and we currently
intend to retain any future earnings to fund the development and growth of our
business.
RECENT SALES OF UNREGISTERED SECURITIES
There were no issuances or sales of our securities by us during the fourth
quarter of 2003 that were not registered under the Securities Act of 1933 (the
"Securities Act") other than the issuance of shares to the former stockholders
of ATI in the Reorganization. In the Reorganization, we issued 11,930,598 shares
of our common stock to the 72 stockholders of ATI in exchange for all of their
shares of ATI. All 72 stockholders were "accredited investors," as that term is
defined under Rule 501(a) of the Securities Act, and the shares were issued
pursuant to an exemption available under Section 4(2) and Rule 506 of the
Securities Act. Prior to the Reorganization, in October 2003, ATI sold
$1,690,000 of its Units. Each Unit consisted of one share of ATI common stock
and a warrant to purchase an additional share of ATI common stock at a price of
$2.50 per share, The Units were sold at a price of $1.00 per Unit. The Units
were exchanged in the Reorganization for shares of our common stock and warrants
to purchase our common stock. The October 2003 private placement of Units was
effected under an exemption from registrations under Rule 506 and Section
18(b)(4)(D) of the Securities Act. The Units were sold to 24 investors, (who are
part of the 72 ATI stockholders), all of whom were "accredited investors," as
that term is defined under Rule 501(a). We did not retain any underwriters in
the October 2003 private placement.
REPURCHASE OF SECURITIES
We did not repurchase any of our common shares during the fourth quarter
of 2003.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
This annual report contains forward-looking statements within the meaning
of the federal securities laws. These include statements about our expectations,
beliefs, intentions or strategies for the future, which we indicate by words or
phrases such as "anticipate," "expect," "intend," "plan," "will," "we believe,"
"the Company believes," "management believes" and similar language. The
forward-looking statements are based on our current expectations and are subject
to certain risks, uncertainties and assumptions, including those set forth in
the discussion under "Description of Business," including the "Risk Factors"
described in that section, and "Management's Discussion and Analysis or Plan of
Operation." Our actual results may differ materially from results anticipated in
these forward-looking statements. We base our forward-looking statements on
information currently available to us, and we assume no obligation to update
them.
15
OVERVIEW
Until October 30, 2003, HAUSA was an e-commerce based company engaged in
the business of acquiring and marketing historical documents. On October 30,
2003, HAUSA completed a reorganization (the "Reorganization") with ATI, in which
ATI became the wholly-owned subsidiary of HAUSA. At the time of the
Reorganization, HAUSA had virtually no assets and virtually no liabilities. In
addition, between the time of its inception through the Reorganization, HAUSA
had generated less than $200,000 of revenues, while incurring a cumulative loss
of approximately $45,000. Shortly after the Reorganization, HAUSA changed its
name to "Arbios Systems, Inc." In the Reorganization, HAUSA also replaced its
officers and directors with those of ATI. Following the Reorganization, we
closed HAUSA's offices, ceased HAUSA's e-commerce business, and moved HAUSA's
offices to our current offices in Los Angeles, California. We currently do not
plan to conduct any business other than operations heretofore conducted by ATI.
Accordingly, the prior operating results of HAUSA are not indicative of our
future operations, and none of the assets or liabilities on our balance sheet as
of December 31, 2003 relate to HAUSA prior to the Reorganization.
Although HAUSA was the legal acquirer in the Reorganization, for
accounting purposes, the Reorganization was accounted for as a reverse merger
since the stockholders of ATI acquired a majority of the issued and outstanding
shares of our common stock, and the directors and executive officers of ATI
became our directors and executive officers. Accordingly, the financial
statements attached as Item 7 below, and the description of our results of
operations and financial condition, reflect (i) the operations of ATI alone
prior to the Reorganization, and (ii) the combined results of this company and
ATI since the Reorganization. No goodwill was recorded as a result of the
Reorganization.
Since the formation of ATI in 2000, our efforts have been principally
devoted to research and development activities, raising capital, and recruiting
additional scientific and management personnel and advisors. To date, we have
not marketed or sold any product and have not generated any revenues from
commercial activities, and we do not expect to generate any revenues from
commercial activities during the next 12 months. Substantially all of the
revenues that we have recognized to date have been Small Business Innovation
Research grants (in an aggregate amount of $249,000) that we received from the
United States Small Business Administration. We are currently preparing an
additional application for a United Stated governmental grant that we plan to
submit during 2004. However, even if the application is prepared and filed and a
grant is approved, no funds from such a grant would be received during 2004.
We currently are also considering purchasing certain assets, including
additional patents and other intellectual properties, to enhance our proprietary
rights and to accelerate the development and regulatory approval of our
products. While we are considering such acquisitions, we have not yet entered
into a definitive agreement for any such acquisition. Future acquisitions could
affect our financial resources and our liquidity in a manner that we cannot
currently project.
Our current plan of operation for the next 12 months primarily involves
research and development activities, including clinical trials for at least one
of our two potential products. and the preparation and submission of
applications to the FDA. The actual amounts we may expend on research and
development and related activities during the next 12 months may vary
significantly depending on numerous factors, including the results of our
research and development programs, the results of clinical studies, the timing
of regulatory submissions, and the possible acquisition of assets that may
reduce the need for certain research and development activities. However, based
on our current estimates, we believe that we have sufficient financial resources
to conduct our planned operations beyond the next 12 months.
CRITICAL ACCOUNTING POLICIES
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States require management to make
estimates and assumptions that affect the reported assets, liabilities, sales
and expenses in the accompanying financial statements. Critical accounting
policies are those that require the most subjective and complex judgments, often
employing the use of estimates about the effect of matters that are inherently
uncertain. Certain critical accounting policies, including the assumptions and
judgments underlying them, are disclosed in the Note 1 to the Consolidated
Financial Statements included in this annual report.
16
RESULTS OF OPERATIONS
COMPARISON OF FISCAL YEAR ENDED DECEMBER 31, 2003 TO YEAR ENDED DECEMBER 31,
2002.
Since we are still developing our products and do not have any products
available for sale, we have not yet generated any revenues from sales. Revenues
for fiscal year 2003 ($138,000) and fiscal year 2002 ($111,000) represent
revenues recognized during those periods from two government research grants
that we have received. The total amount of the two grants is $304,000, of which
we have received $249,000. We anticipate that the balance of the foregoing
grants, a total of $55,000, will be recognized as revenues and paid to us during
2004.
General and administrative expenses consist primarily of salaries
(including amounts paid under our existing loan-out agreement with Cedars-Sinai
Medical Center), office and equipment lease expenses, and professional fees and
expenses. General and administrative doubled from $173,000 in fiscal 2002 to
$340,000 in fiscal 2003 due to an increase in the number of employees and
consultants employed by us in fiscal 2003, and increased professional fees. On
December 31, 2002, we had eight employees and consultants. The number of
employees and consultants increased to ten on December 31, 2003. In addition,
professional fees increased during 2003 due to the legal and accounting fees and
expenses related to the Reorganization and the additional legal, consulting and
accounting fees and expenses related to our status as an active public company.
General and administrative expenses are expected to significantly increase
during the current fiscal year ending December 31, 2004 due to the lease of
additional office space (which new lease goes into effect on April 1, 2004), the
addition of more employees and consultants (primarily to assist with our
financial controls and to evaluate and prepare submissions to the FDA), and
additional professional and other fees related to being a public company.
Research and development expenses consisted primarily of salaries for our
scientists and technicians, laboratory costs, and the cost scientific supplies.
Research and development expenses remained substantially unchanged from fiscal
2002 to fiscal 2003 because of the limited amount of capital available to us in
2003 and because of our focus on completing the studies sponsored and funded by
the SBIR. However, we expect our research and development activities and
expenses to increase significantly in the current fiscal year ending December
31, 2004.
Interest expense increased from $1,000 in fiscal 2002 to $243,000 in
fiscal 2003 due the $400,000 we borrowed from certain investors during fiscal
2003. The $400,000 aggregate amount of loans were represented by convertible
notes that were issued to the investors. In addition to the convertible loans,
the investors also received, in the aggregate, warrants to purchase 300,000
shares of our common stock at an exercise price of $1.00 per share. All of the
loans were converted by the investors in October 2003 into 400,000 shares of
common stock. The $243,000 interest expense in fiscal 2003 represents a non-cash
expense recognized under accounting rules based on the value of conversion
feature of the convertible notes and the value attributed to the warrants. Since
the convertible notes have all been converted, no additional interest will be
accrued under these notes during the current fiscal year.
Our net loss increased to $886,000 in fiscal 2003 from $495,000 in fiscal
2002 due to the increased operating and other expenses incurred in fiscal 2003.
Operating expenses are expected to further increase in the current fiscal year
as we increase our operations, while revenues are expected to remain
insignificant.
LIQUIDITY AND CAPITAL RESOURCES
As of December 31, 2003, we had cash of $3,507,000 and only a total of
$169,000 of total indebtedness (both long-term and current liabilities). We do
not have any bank credit lines. To date, we have funded our operations from the
sale of debt and equity securities. During fiscal 2003, these sales of our
securities consisted of the following: (i) $250,000 obtained in January 2003
from the sale of our common stock sold at a price of $0.60 per share; (ii)
$400,000 raised from the sale of subordinated convertible promissory notes
(which notes were converted in October 2003 into common stock and warrants at
$1.00 per share immediately prior to the Reorganization); (iii) $2,310,000
raised in a private offering of common stock and warrants sold at a price of
$1.00 per share; and (iv) $1,690,000 obtained immediately prior to the
Reorganization in an offering of common stock and warrants sold at a price of
$1.00 per share.
17
Our net loss for fiscal 2003 was $886,000. However, net cash used in
operations was only $569,000 due primarily to the non-cash expense related to
the debt discount recognized in connection with the issuance of the $400,000 of
convertible loans.
Based on our current plan of operations, we believe that our current cash
balances will be sufficient to fund our foreseeable expenses for at least the
next twelve months. However, we are currently considering purchasing some
intellectual property and possibly some equipment to supplement our technologies
and to possibly accelerate both the development of our products and the approval
of our products by the FDA. If we consummate any such sales, our cash balances
may be reduced and liquidity will be affected. In addition, unexpected costs
could arise that could deplete our existing cash balances sooner than planned.
We do not currently anticipate that we will derive any revenues from
either product sales or from governmental research grants during the next twelve
months. Although we are planning to submit an application for an additional SBIR
research grant during 2004, no assurance can be given that the grant application
will be approved. Even if the grant is approved, it is unlikely that we would
receive any grant funds during the next twelve months.
The cost of completing the development of our products and of obtaining
all required regulatory approvals to market our products is substantially
greater than the amount of funds we currently have available and substantially
greater than the amount we could possibly receive under any governmental grant
program. As a result, we will have to obtain significant additional funds during
the next 12-18 months. We currently expect to attempt to obtain additional
financing through the sale of additional equity and possibly through strategic
alliances with larger pharmaceutical or biomedical companies. We cannot be sure
that we will be able to obtain additional funding from either of these sources,
or that the terms under which we obtain such funding will be beneficial to this
company.
A summary of our contractual cash obligations at December 31, 2003 is as
follows:
2007 AND
CONTRACTUAL OBLIGATIONS TOTAL 2004 2005 2006 THEREAFTER
-------------------------------------------------------------------------------------------------
Long-Term Office Leases (1) $428,000 $137,000 $137,000 $77,000 $38,000
-------------
(1) Assumes that the current lease at Cedars-Sinai Medical Center will be
renewed in June 2004 for a three-year period on substantially the same terms as
currently in effect.
We do not believe that inflation has had a material impact on our business
or operations.
We are not a party to any off-balance sheet arrangements, and we do not
engage in trading activities involving non-exchange traded contracts. In
addition, we have no financial guarantees, debt or lease agreements or other
arrangements that could trigger a requirement for an early payment or that could
change the value of our assets
FACTORS THAT MAY AFFECT FUTURE RESULTS AND MARKET PRICE OF OUR STOCK
We face a number of substantial risks. Our business, financial condition
or results of operations could be harmed by any of these risks. The trading
price of our common stock could decline due to any of these risks, and they
should be considered in connection with the other information contained in this
Annual Report on Form 10-KSB.
18
FACTORS ASSOCIATED WITH OUR BUSINESS
We are a development stage company subject to all of the risks and uncertainties
of a new business.
Prior to the Reorganization in October 2003, HAUSA was unsuccessfully
engaged in the e-commerce business of acquiring and marketing historical
documents. During the time that we engaged in the e-commerce business, we
generated less than $200,000 of revenues, while incurring a cumulative loss of
approximately $45,000. As a result, we terminated our prior e-commerce business
at the time of the Reorganization. The company that we acquired, ATI, however is
a start-up company that has not generated any operating revenues to date (its
only revenues were two government research grants) Accordingly, while we have
been in existence since November 1999, we should be evaluated as a new, start-up
company, subject to all of the risks and uncertainties normally associated with
a new, start-up companies. As a start-up company, we expect to incur significant
operating losses for the foreseeable future, and there can be no assurance that
we will be able to validate and market products in the future that will generate
revenues or that any revenues generated will be sufficient for us to become
profitable or thereafter maintain profitability.
We have had no product sales to date, and we can give no assurance that there
will ever be any sales in the future.
All of our products are still in research or development, and no revenues
have been generated to date from product sales. There is no guarantee that we
will ever develop commercially viable products. To become profitable, we will
have to successfully develop, obtain regulatory approval for, produce, market
and sell one or both of products. There can be no assurance that our product
development efforts will be successfully completed, that we will be able to
obtain all required regulatory approvals, that we will be able to manufacture
our products at an acceptable cost and with acceptable quality, or that our
products can be successfully marketed in the future. We currently do not expect
to receive significant revenues from the sale of any of our products for at
least the next few years.
We must obtain governmental approval for each of our products, the receipt of
which is uncertain.
The development, production and marketing of our products are subject to
extensive regulation by government authorities in the United States and other
countries. In the U.S., the LIVERAID(TM) and SEPET(TM) will require FDA approval
prior to clinical testing and commercialization. The process for obtaining FDA
approval to market therapeutic products is both time-consuming and costly, with
no certainty of a successful outcome. This process includes the conduct of
extensive pre-clinical and clinical testing, which may take longer or cost more
than we currently anticipate due to numerous factors, including without
limitation, difficulty in securing centers to conduct trials, difficulty in
enrolling patients in conformity with required protocols and/or projected
timelines, unexpected adverse reactions by patients in the trials to our
products, temporary suspension and/or complete ban on trials of our products due
to the risk of transmitting pathogens from the xenogeneic biologic component,
and changes in the FDA's requirements for our testing during the course of that
testing. We have not yet established with the FDA the nature and number of
clinical trials that the FDA will require in connection with its review and
approval of either SEPET(TM) or LIVERAID(TM) and these requirements may be more
costly or time-consuming than we currently anticipate.
Each of our products in development is novel both in terms of its
composition and function. Thus, we may encounter unexpected safety, efficacy or
manufacturing issues as we seek to obtain marketing approval for LIVERAID(TM),
SEPET(TM), and related products from the FDA, and there can be no assurance that
we will be able to obtain approval from the FDA or any foreign governmental
agencies for marketing of any of our products. Japan's health regulatory
authority has, and other countries regulatory authorities could potentially
object to the marketing of any therapy that uses pig liver cells (which
LIVERAID(TM) is expected to utilize) due to safety concerns. The failure to
receive, or any significant delay in receiving, FDA approval, or the imposition
of significant limitations on the indicated uses of our products, would have a
material adverse effect on our business, operating results and financial
condition.
19
Our products are at an early stage of development and have never been completed
or marketed.
Before obtaining regulatory approvals for the commercial sale of our
SEPET(TM) and LIVERAID(TM) related products, significant and potentially very
costly preclinical work will be necessary for SEPET(TM) and the two
configurations of LIVERAID(TM). We have completed only preclinical testing of
the LIVERAID(TM) utilizing sorbents. There can be no assurance that we will be
able to successfully complete preclinical testing of the SEPET(TM) and
LIVERAID(TM) combining liver cell therapy with selective plasma exchange (which
will take an extended period of time). Therefore, proofs of concept and
feasibility for both SEPET(TM) and LIVERAID(TM) utilizing selective plasma
exchange are still lacking and there can be no assurance that we will be able to
provide such proofs for these two products. We have not independently confirmed
any of the claims made by the licensors of any of our products and technologies
concerning the potential safety or efficacy of these products and technologies.
We will need to file an IND for LIVERAID(TM) and an IDE for SEPET(TM) with the
FDA and have these applications cleared by the FDA before we can begin clinical
testing of these two products, and the FDA may require significant revisions to
our clinical testing plans or require us to demonstrate efficacy endpoints that
are more time-consuming or difficult to achieve than what we currently
anticipate. We have not yet commenced preparation of either IND or IDE and there
can be no assurance that we will have sufficient experimental data to justify
the submission of said applications. Because of the early stage of development
of each of our products, we do not know if we will be able to generate clinical
data that will support the filing of PMAs or new drug applications for these
products or the FDA's approval of any PMA or new drug application that we do
file.
Our LIVERAID(TM) product utilizes a biological component obtained from pigs that
could prevent or restrict the release and use of that product.
Use of liver cells harvested from pig livers carries a risk of
transmitting viruses harmless to pigs but deadly to humans. For instance, all
pigs carry porcine endogenous retrovirus ("PERV"), but its potential effects on
people are unknown. Repeated testing, including a 1999 study of 160
xenotransplant (transplantation from animals to humans) patients and recently
completed Phase II/III testing of the HepatAssist System by Circe Biomedical,
Inc., has turned up no sign of the transmission of PERV to humans. Still, no one
can prove that PERV or another virus would not infect LIVERAID(TM)-treated
patients and cause potentially serious disease. This may result in the FDA or
other health regulatory agencies not approving LIVERAID(TM) or subsequently
banning any further use of our product should health concerns arise after the
product has been approved. At this time, it is unclear whether we will be able
to obtain clinical and product liability insurance that covers the PERV risk.
In addition to the potential health risks associated with the use of pig
liver cells, our use of xenotransplantation technologies may be opposed by
individuals or organizations on health or ethical grounds. Certain animal rights
groups and other organizations are known to protest animal research and
development programs or to boycott products resulting from such programs.
Previously, some groups have objected to the use of pig liver cells by other
companies that were developing bioartificial liver support systems, and it is
possible that such groups could object to our LIVERAID(TM) product. Litigation
instituted by any of these organizations, and negative publicity regarding our
use of pig liver cells in LIVERAID(TM), could have a material adverse effect on
our business, operating results and financial condition.
Uncertain development paths and markets for our products.
Our products will represent new therapeutic approaches for disease
conditions, which can be treated using standard methods. We may, as a result,
encounter delays as compared to other products under development in reaching
agreements with the FDA or other applicable governmental agencies as to the
development plans and data that will be required to obtain marketing approvals
from these agencies. There can be no assurance that these approaches will gain
acceptance among doctors or patients or that governmental or third party medical
reimbursement payers will be willing to provide reimbursement coverage for our
products. Moreover, we do not have the marketing data resources possessed by the
major pharmaceutical companies, and we have not independently verified the
potential size of the commercial markets for any of our products. Since our
products will represent new approaches to treating liver diseases, it may be
difficult, in any event, to accurately estimate the potential revenues from our
products, as there currently are no directly comparable products being marketed.
20
We will need significant additional capital, without which we will have to
curtail or cease operations.
Based on our current proposed plans and assumptions, we anticipate that
our existing funds will only be sufficient to fund our operations and capital
requirements for approximately 12 months to 18 months from the date of this
annual report. Furthermore, the clinical development expenses for each of our
products will be very substantial, i.e., well in excess of the amount of cash
that we currently still have. Accordingly, we will have to either (i) obtain
additional debt or equity financing during the next 12 to 18-month period in
order to fund the further development of our products and working capital needs,
or (ii) enter into a strategic alliance with a larger pharmaceutical or
biomedical company to provide its required funding. The amount of funding needed
to complete the development of one or both of our two current products will be
very substantial and may be in excess of our ability to raise capital.
We have not identified the sources for the additional financing that we
will require, and we do not have commitments from any third parties to provide
this financing. There can be no assurance that sufficient funding will be
available to us at acceptable terms or at all. If we are unable to obtain
sufficient financing on a timely basis, the development of our products could be
delayed and we could be forced to reduce the scope of our pre-clinical and
clinical trials or otherwise limit or terminate our operations altogether. Any
equity additional funding that we obtain will reduce the percentage ownership
held by our existing security holders.
We are subject to significant competition from numerous large, well funded
companies.
The pharmaceutical, biopharmaceutical and biotechnology industry is
characterized by intense competition and rapid and significant technological
advancements. Many companies, research institutions and universities are working
in a number of areas similar to our primary fields of interest to develop new
products, some of which may be similar and/or competitive to Arbios' products.
Furthermore, many companies are engaged in the development of medical devices or
products that are or will be competitive with our proposed products. Most of the
companies with which we compete have substantially greater financial, technical,
manufacturing, marketing, distribution and other resources than us.
We will need to outsource and rely on third parties for the clinical development
and manufacture and marketing of our products.
Our business model calls for the outsourcing of the clinical development,
manufacturing and marketing of our products in order to reduce our capital and
infrastructure costs as a means of potentially improving the profitability of
these products for us. We have not yet entered into any strategic alliances or
other licensing or contract manufacturing arrangements (except for the
contractual manufacturing of LIVERAID(TM) modules by Spectrum Labs) and there
can be no assurance that we will be able to enter into satisfactory arrangements
for these services or the manufacture or marketing of our products. We will be
required to expend substantial amounts to retain and continue to utilize the
services of one or more clinical research management organizations without any
assurance that the products covered by the clinical trials conducted under their
management ultimately will generate any revenues for SEPET(TM) and/or
LIVERAID(TM). Consistent with our business model, we will seek to enter into
strategic alliances with other larger companies to market and sell our products.
In addition, we may need to utilize contract manufacturers to manufacture our
products or even our commercial supplies, and we may contract with independent
sales and marketing firms to use their pharmaceutical sales force on a contract
basis.
21
To the extent that we rely on other companies to manage the conduct of our
clinical trials and to manufacture or market our products, we will be dependent
on the timeliness and effectiveness of their efforts. If the clinical research
management organization that we utilize is unable to allocate sufficient
qualified personnel to our studies or if the work performed by them does not
fully satisfy the rigorous requirement of the FDA, we may encounter substantial
delays and increased costs in completing our clinical trials. If the
manufacturers of the raw material and finished product for our clinical trials
are unable to meet our time schedules or cost parameters, the timing of our
clinical trials and development of our products may be adversely affected. Any
manufacturer that we select may encounter difficulties in scaling-up the
manufacture of new products in commercial quantities, including problems
involving product yields, product stability or shelf life, quality control,
adequacy of control procedures and policies, compliance with FDA regulations and
the need for further FDA approval of any new manufacturing processes and
facilities. Should our manufacturing or marketing company encounter regulatory
problems with the FDA, FDA approval of our products could be delayed or the
marketing of our products could be suspended or otherwise adversely affected.
We are dependent on Spectrum Laboratories, Inc. as the manufacturer of
LIVERAID(TM) and SEPET(TM).
We have an exclusive manufacturing arrangement for LIVERAID(TM) devices
with Spectrum Laboratories, Inc., which also has been providing us with
cartridges for prototypes of the SEPET(TM). We have encountered certain delays
in the delivery of the LIVERAID(TM) and SEPET(TM) cartridges from Spectrum
Laboratories, Inc. In addition, the current model of the SEPET(TM) cartridge is
made of the semipermeable membrane which needs to be modified to improve sieving
of protein-bound toxins. There can be no assurance that we will not encounter
delays or other manufacturing problems with Spectrum Labs with respect to our
clinical or commercial supplies of LIVERAID(TM) and/or SEPET(TM). There can be
no assurance that the SEPET(TM) cartridge allowing unrestricted passage of
albumin-bound toxins while retaining blood components with molecular weight
higher than 100 kDa will be developed. Although Spectrum Labs has agreed to
transfer their know-how to another manufacturer for us if they are unable to
meet their contractual obligations to us, we may have difficulty in finding a
replacement manufacturer or may be required to alter the design of LIVERAID (TM)
if we are unable to effectively transfer the Spectrum Labs know-how to another
manufacturer.
We have limited patent protection and may not be able to protect our patents and
proprietary rights.
Our ability to compete successfully will depend, in part, on our ability
to defend patents that have issued, obtain new patents, protect trade secrets
and operate without infringing the proprietary right of others. We have relied
substantially on the patent legal work that was performed for our assignors and
licensors and have not, in some cases, independently verified the validity or
any other aspects of the patents or patent applications covering our products
with our own patent counsel.
Even when we have obtained patent protection for our products, there is no
guarantee that the coverage of these patents will be sufficiently broad to
protect us from competitors or that we will be able to enforce our patents
against potential infringers. Patent litigation is expensive, and we may not be
able to afford the costs. Third parties could also assert that our products
infringe patents or other proprietary rights held by them.
We will attempt to protect our proprietary information as trade secrets
through nondisclosure agreements with each of our employees, licensing partners,
consultants, agents and other organizations to which we disclose our proprietary
information. There can be no assurance, however, that these agreements will
provide effective protection for our proprietary information in the event of
unauthorized use of disclosure of such information.
The development of our products is dependent upon Dr. Rozga and certain other
persons. The loss of one or more of these key persons would materially and
adversely affect our business and prospects.
We are highly dependent on Jacek Rozga, MD, PhD, our President and Chief
Scientific Officer, and on several key members of our management, including,
John Vierling, MD, FACP, Chairman of the Board, Kristin P. Demetriou, Marvin S.
Hausman, MD, Richard W. Bank, MD, and Roy Eddleman who are members of our Board
of Directors. Each of these individuals, except Dr. Rozga, works for us only on
a part-time, very limited basis. We are also dependent upon Achilles A.
Demetriou, MD, PhD, FACS, the other co-founder of ATI and the Chairman of our
Scientific Advisory Board. We do not have long-term employment contracts with
Drs. Jacek Rozga and Achilles A. Demetriou, and the loss of the services of
either of them would have a material adverse effect on our business, operations
and on the development of our products. We do not carry key man life insurance
on either of these individuals.
22
As we expand the scope of our operations by preparing FDA submissions,
conducting multiple clinical trials, and potentially acquiring related
technologies, we will need to obtain the full-time services of additional senior
scientific and management personnel. Competition for these personnel is intense,
and there can be no assurance that we will be able to attract or retain
qualified senior personnel. As we retain full-time senior personnel, our
overhead expenses for salaries and related items will increase substantially
from current levels.
The market success of our products will be dependent in part upon third-party
reimbursement policies.
Our ability to successfully penetrate the market for our products may
depend significantly on the availability of reimbursement for our products from
third-party payers, such as governmental programs, private insurance and private
health plans. We have not yet established with Medicare or any third-party
payers what level of reimbursement, if any, will be available for SEPETTM or
LIVERAID(TM), and we cannot predict whether levels of reimbursement for our
products, if any, will be high enough to allow us to charge a reasonable profit
margin. Even with FDA approval, third-party payers may deny reimbursement if the
payer determines that our particular new products are unnecessary, inappropriate
or not cost effective. If patients are not entitled to receive reimbursement
similar to reimbursement for competing products, they may be unwilling to use
our products since they will have to pay for the unreimbursed amounts, which may
well be substantial. The reimbursement status of newly approved health care
products is highly uncertain. If levels of reimbursement are decreased in the
future, the demand for our products could diminish or our ability to sell our
products on a profitable basis could be adversely affected.
We may be subject to product liability claims.
The development, manufacture and sale of medical products expose us to the
risk of significant damages from product liability claims. We plan to obtain and
maintain product liability insurance for coverage of our clinical trial
activities. However, there can be no assurance that we will be able to secure
such insurance for clinical trials for either of our two current products. We
intend to obtain coverage for our products when they enter the marketplace (as
well as requiring the manufacturers of our products to maintain insurance). We
do not know if it will be available to us at acceptable costs. We may encounter
difficulty in obtaining clinical trial or commercial product liability insurance
for LIVERAID(TM) since this therapy includes the use of pig liver cells and we
are not aware of any therapy using these cells that has sought or obtained such
insurance. If the cost of insurance is too high or insurance is unavailable to
us, we will have to self-insure. A successful claim in excess of product
liability coverage could have a material adverse effect on our business,
financial condition and results of operations. The costs for many form of
liability insurance have risen substantially during the past year, and such
costs may continue to increase in the future, which could materially impact our
costs for clinical or product liability insurance.
RISK RELATING TO THE OWNERSHIP OF OUR COMMON STOCK
Risks Relating to Low Priced Stocks.
Although our common stock has been approved for trading on the Pink Sheets
electronic over-the-counter trading systems for several years, there was
virtually no trading in our stock before the Reorganization, and there has been
only sporadic trading activity in our stock since the Reorganization. Because
all of our operations are being conducted through ATI, our wholly-owned
subsidiary, and because ATI is still a development stage company that has no
products or revenues, the trading price of our common stock may be below $5.00.
If our common stock trades below $5.00 per share, trading in the common stock
may be subject to the requirements of certain rules promulgated under the
Securities Exchange Act of 1934, as amended (the "Exchange Act"), which require
additional disclosure by broker-dealers in connection with any trades involving
a stock defined as a penny stock (generally, any non-Nasdaq equity security that
has a market price share of less than $5.00 per share, subject to certain
exceptions). Such rules require the delivery, prior to any penny stock
transaction, of a disclosure schedule explaining the penny stock market and the
risks associated therewith and impose various sales practice requirements on
broker-dealers who sell penny stocks to persons other than established customers
and accredited investors (generally defined as an investor with a net worth in
excess of $1,000,000 or annual income exceeding $200,000 individually or
$300,000 together with a spouse). For these types of transactions, the
broker-dealer must make a special suitability determination for the purchaser
and have received the purchaser's written consent to the transaction prior to
the sale. The broker-dealer also must disclose the commissions payable to the
broker-dealer, current bid and offer quotations for the penny stock and, if the
broker-dealer is the sole market-maker, the broker-dealer must disclose this
fact and the broker-dealer's presumed control over the market. Such information
must be provided to the customer orally or in writing before or with the written
confirmation of trade sent to the customer. Monthly statements must be sent
disclosing recent price information for the penny stock held in the account and
information on the limited market in penny stocks. The additional burdens
imposed upon broker-dealers by such requirements could discourage broker-dealers
from effecting transactions in our common stock which could severely limit the
market liquidity of the common stock and the ability of holders of our common
stock to sell it.
23
No Assurance of a Liquid Public Market for Securities.
Although our shares of common stock are eligible for quotation on the OTC
Bulletin Board electronic over-the-counter trading system, there currently is
only a very limited trading market in our stock. This situation is attributable
to a number of factors, including the fact that we are a small company which is
relatively unknown to stock analysts, stock brokers, institutional investors and
others in the investment community. Even if we came to the attention of the
investment community, many of the institutional investors or advisors tend to be
risk-averse and would be reluctant to follow an unproven development stage
company such as ours or purchase or recommend the purchase of our shares until
such time as we became more seasoned and viable. As a consequence, there may be
periods of several days or more when trading activity in our shares is minimal
or non-existent, as compared to a seasoned issuer which has a large and steady
volume of trading activity that will generally support continuous sales without
an adverse effect on share price. We cannot give you any assurance that a
broader or more active public trading market for our common shares will develop
or be sustained.
The market price of our stock may be adversely affected by market volatility.
The market price of our common stock is likely to be volatile and could
fluctuate widely in response to many factors, including:
o announcements of the results of clinical trials by us or our
competitors,
o developments with respect to patents or proprietary rights,
o announcements of technological innovations by us or our competitors,
o announcements of new products or new contracts by us or our
competitors,
o actual or anticipated variations in our operating results due to the
level of development expenses and other factors,
o changes in financial estimates by securities analysts and whether
our earnings meet or exceed such estimates,
o conditions and trends in the pharmaceutical and other industries,
o new accounting standards,
o general economic, political and market conditions and other factors,
and
o the occurrence of any of the risks described in this Annual Report.
24
The future issuance of common stock upon exercise of warrants and stock options
may depress the price of our common stock.
As of March 29, 2004, we had outstanding options to purchase an aggregate
of 629,000 shares of our common stock to our employees, officers, directors, and
consultants under our 2001 Stock Option Plan. We may issue options to purchase
an additional 371,000 shares of our common stock under the 2001 Stock Option
Plan. There are currently outstanding warrants to purchase an aggregate of
5,097,000 shares of common stock.
During the respective terms of the warrants and options granted or to be
granted under our stock option plans or otherwise, the holders thereof are given
an opportunity to benefit from a rise in the market price of the common stock,
with a resultant dilution of the interests of existing stockholders. The
existence of these warrants and options could make it more difficult for us to
obtain additional financing while such securities are outstanding. The holders
may be expected to exercise their rights to acquire common stock and sell at a
time when we would, in all likelihood, be able to obtain needed capital through
a new offering of securities on terms more favorable than those provided by
these warrants and options.
ITEM 7. FINANCIAL STATEMENTS.
The consolidated financial statements and the reports and notes, which are
attached hereto beginning at page F-1, are incorporated herein by reference.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
On January 27, 2004, our board of directors, by unanimous written consent,
adopted resolutions to dismiss our former independent accountants, Williams &
Webster, P.S. ("Williams"). Williams' report on our financial statements for the
past two years did not contain an adverse opinion or disclaimer of opinion, and
was not modified as to uncertainty, audit scope, or accounting principles,
except that there was an explanatory paragraph relating to our ability to
continue as a going concern.
During the two most recent fiscal years, we had no disagreements with
Williams, whether or not resolved, on any matter of accounting principles or
practices, financial statement disclosure, or auditing scope or procedure,
which, if not resolved to Williams' satisfaction, would have caused Williams to
make reference to the subject matter of the disagreement in connection with its
report. Williams did not advise this company of any of the events requiring
reporting in a Form 8-K under Item 304(a)(iv)(B).
On January 27, 2004, our board of directors also approved, by unanimous
written consent, resolutions to engage Stonefield Josephson, Inc. ("Stonefield")
as our independent accountants to audit our financial statements for the year
ending December 31, 2003, and for quarterly statements during 2004. Stonefield
audited the financial statements of ATI for the past two fiscal years. We did
not consult with Stonefield regarding the application of accounting principles
to a specific, completed or contemplated transaction, or the type of audit
opinion that might be rendered on our financial statements prior to the
engagement.
ITEM 8A. CONTROLS AND PROCEDURES
As of the end of the period covered by this report, our company conducted
an evaluation, under the supervision and with the participation of our chief
executive officer and chief financial officer, of our disclosure controls and
procedures (as defined in Rules 13a-15(e) of the Exchange Act). Based on this
evaluation, our chief executive officer and chief financial officer concluded
that our company's disclosure controls and procedures are effective to ensure
that information required to be disclosed by us in reports that we file or
submit under the Exchange Act is recorded, processed, summarized and reported
within the time periods specified in Securities and Exchange Commission rules
and forms.
25
There was no change in our internal controls, which are included within
disclosure controls and procedures, during our most recently completed fiscal
quarter that has materially affected, or is reasonably likely to materially
affect, our internal controls.
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE
WITH SECTION 16(A) OF THE EXCHANGE ACT.
The following table sets forth our current directors and executive
officers. Directors are elected for a period of one year and thereafter serve
until the next annual meeting at which their successors are duly elected by the
stockholders. Officers and other employees serve at the will of the board of
directors.
NAME AGE POSITION
Jacek Rozga, M.D., Ph.D. 55 President, Chief Financial Officer, and Director
Kristin P. Demetriou 55 Director and Secretary
Roy Eddleman 64 Director
Marvin S. Hausman MD 62 Director
John Vierling, MD 58 Chairman of the Board and Director
Richard W. Bank, MD 70 Director
BUSINESS EXPERIENCE OF DIRECTORS AND MANAGEMENT
The following describes the backgrounds of current directors and the key
members of the management team. The persons who acted as officers and directors
of HAUSA prior to the Reorganization resigned effective upon the Reorganization.
All of the our officers and directors also currently hold the same offices with
ATI.
JACEK ROZGA, MD, PHD. Dr. Rozga is a co-founder of ATI, a director of this
company, and our current President and Chief Financial Officer. He also
currently is this company's Chief Scientific Officer and a professor of Surgery
at UCLA School of Medicine. Dr. Rozga has 20 years experience in artificial
liver support system development, hepatocyte transplantation and liver tissue
engineering, and directed all research aspects leading to the development and
testing of the first-generation bioartificial liver at Cedars-Sinai Medical
Center. Dr. Rozga has six patents and five patent applications pending, most of
which have been licensed by ATI.
KRISTIN P. DEMETRIOU. Former President & CEO of Bergen Line, Inc., New
York City (1989-94), NY, an international owner/operator of cruise and cargo
ships. Prior to that she was Director, Sales & Marketing worldwide (1982-88) for
Royal Viking Line, Inc., San Francisco, CA. Mrs. Demetriou holds a B.A. in
Psychology from Columbia University, New York, NY, and completed post-graduate
work in accounting, finance, media and investor relations.
ROY EDDLEMAN. Mr. Eddleman has been the Chairman of the Board and Chief
Executive Officer of Spectrum Laboratories, Inc. since July 1982. Spectrum
Laboratories, Inc. is a public company in the business of developing and
commercializing proprietary tubular membranes and membrane devices for existing
and emerging life sciences applications. Mr. Eddleman also has been the founder
and/or principal and Director of each of (i) Spectrum Separations, Inc., now a
part of UOP/Hitachi, (ii) ICM, Inc., now a part of Perstorf/Perbio, (iii)
Facilichem, Inc., a joint venture with SRI International, (iv) Nuclepore, Inc.,
now a part of Corning and Whatman, and (v) Inneraction Chemical, Inc., now a
part of Merck Darmstadt. He is the founder and a benefactor of the Roy Eddleman
Research Museum of Chemistry and the Chemical Heritage Foundation in
Philadelphia.
26
MARVIN S. HAUSMAN, MD. Dr. Hausman has, since January 1997, been the
President and Chief Executive Officer of Axonyx, Inc., a public company engaged
in the business of acquiring and developing novel post-discovery central nervous
system drug candidates, primarily in areas of memory and cognition. Dr. Hausman
has 30 years of drug development and clinical care experience at various
pharmaceutical companies, including working in conjunction with Bristol-Meyers
International, Mead-Johnson Pharmaceutical Co., and E.R.Squibb. He was a
co-counder of Medco Research Inc., a NYSE-traded biopharmaceutical company which
was acquired by King Pharmaceuticals, Inc. Dr. Hausman has been the President of
Northwest Medical Research Partners, Inc. since 1995 and previously served as a
member of the Board of Directors of Regent Assisted Living, Inc. from 1996
through 2001.
JOHN VIERLING, MD, FACP. Director of Hepatology, Medical Director of
Multi-Organ Transplantation Program, Cedars-Sinai Medical Center. Professor of
Medicine, UCLA School of Medicine. Councilor of the American Association for the
Study of Liver Diseases. Former Chairman of the Board of American Liver
Foundation. Expert Reviewer and Witness for FDA. Former President of the
Southern California Society for Gastroenterology. Member of numerous NIH
advisory committees, including NIH Committee for Liver Tissue Procurement and
Distribution Program. Member, Scientific Advisory Committee, NIH Alcohol Center
Grant, University of Southern California and West Los Angeles VAMC/UCLA and
Chairman of the Data Safety Monitoring Board for the NIH, NIDDK ViraHep C
multicenter trial. Dr. Vierling's research has focused on the mechanisms of
liver injury caused by hepatitis B and C and autoimmune and alloimmune diseases.
RICHARD W. BANK, MD. Dr. Bank has served as President and Managing
Director of First-Tier Biotechnology Partners since February 1995. He has also
served as President and Secretary of BioVest Health Sciences, Incorporated since
its organization in April 1996. From February 1995 through April 1996, Dr. Bank
served as President of Biomedical Sciences, Incorporated. Dr. Bank was the
Medial Director of USAT Labs from December 1986 until January 1988, the Senior
Research Analyst Director/ Biotechnology SBC Warburg Dillon Read 1998-1999, and
the Entrepreneur-In-Residence In Life Sciences for Tucker Anthony Sutro for 2000
through 2001. Currently, Dr. Bank is Clinical Professor Emeritus in the
Department of Obstetrics and Gynecology at the University of Southern California
School of Medicine where he has been on the active faculty for the last 25
years.
There are no family relationships between any of the officers and
directors. However, Mrs. Demetriou is the wife of Dr. A. A. Demetriou, one of
the two founders of ATI and one of the inventors of certain of the technologies
used by this company.
AUDIT COMMITTEE
In February 2004, our Board of Directors established an Audit Committee.
The Board of Directors has instructed the Audit Committee to meet periodically
with the company's management and independent accountants to, among other
things, review the results of the annual audit and quarterly reviews and discuss
the financial statements, recommend to the Board the independent accountants to
be retained, and receive and consider the accountants' comments as to controls,
adequacy of staff and management performance and procedures in connection with
audit and financial controls. The Audit Committee is also authorized to review
related party transactions for potential conflicts of interest. The Audit
Committee is composed of Dr. Bank, Mrs. Demetriou and Dr. Vierling. Each of
these individuals is a non-employee director and is independent as defined under
the Nasdaq Stock Market's listing standards. While each of the members of the
Audit Committee has significant knowledge of financial matters, none of the
Audit Committee members has been designated as an "audit committee financial
expert" as defined under Item 401(h)(2) of Regulation S-K of the Securities
Exchange Act of 1934, as amended. The Audit Committee operates under a formal
charter that governs its duties and conduct.
27
SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE.
The initial report on Form 3 filed on behalf of each of our directors
(Jacek Rozga, Kristin P. Demetriou, Roy Eddleman , Marvin S. Hausman, John
Vierling, and Richard W. Bank) required to be filed upon their appointment to
our Board of Directors was filed late.
ITEM 10. EXECUTIVE COMPENSATION.
The following table sets forth the compensation for services paid to Jacek
Rozga, M.D., Ph.D. (the "Named Executive Officer") in all capacities for the
fiscal years ended December 31, 2003, December 31, 2002 and December 31, 2001.
Dr. Rozga has been the chief executive officer of both this company and ATI
since the Reorganization in October 2003, and was the chief executive officer
ATI before the Reorganization. The information contained in this Item 10
includes all compensation paid to Dr. Rozga by ATI before the Reorganization by
ATI, and all compensation paid to him by both HAUSA and ATI since the
Reorganization. No other executive officers of either HAUSA or ATI received an
annual salary and bonus that collectively exceeded $100,000 during any of the
fiscal years ended December 31, 2003, December 31, 2002 and December 31, 2001.
SUMMARY COMPENSATION TABLE
Long-Term
Compensation
Annual Compensation Awards
------------------------------------------ --------------
Securities
Other Annual Underlying
Name and Principal Position Year Salary Bonus Compensation Options
-----------------------------------------------------------------------------------------------------------------------
Jacek Rozga, M.D., Ph.D 2003(1) $135,000 $15,000 -- 18,000 (2)
Chief Executive Officer, Chief
Financial Officer, and Chief 2002 $85,000 $5,000 -- 18,000 (2)
Scientific Officer
2001 $85,000 -- -- ---
-----------------------
(1) The compensation set forth for 2003 includes amounts paid to Jacek Rozga,
M.D., Ph.D by both ATI and Arbios Systems, Inc.
(2) Represents options granted to Jacek Rozga, M.D., Ph.D by ATI, which
options were assumed by this company in the Reorganization.
During the three years prior to the Reorganization, Raymond H. Kuh was the
President of HAUSA. During the last three years, HAUSA did not pay Mr. Kuh, or
any other executive officer, any salary or bonus. The only compensation that Mr.
Kuh received was a commission of 6% of sales that he generated for HAUSA. During
the three fiscal years ended December 31, 2003, December 31, 2002 and December
31, 2001, the aggregate total amount of such bonuses paid to Mr. Kuh by HAUSA
was only $2,562. Mr. Kuh did not receive any other compensation and was not
granted any options. Accordingly, no information is listed in this Item 10
regarding Mr. Kuh or any other former executive officer of HAUSA.
28
STOCK OPTION GRANTS
The following table contains information concerning grants of stock
options during the fiscal year ended December 31, 2003 by ATI to the Named
Executive Officer (HAUSA did not grant any options). In the Reorganization, all
of these options were assumed by HAUSA and now represent options to purchase
shares of our common stock. We have not granted any stock appreciation rights.
OPTION GRANTS IN FISCAL YEAR ENDED DECEMBER 31, 2003
Individual Grants
-----------------
% of Total
Options Market
Number of Granted to Price on
Shares Underlying Employees Exercise Date of Expiration
Name Options Granted In Fiscal Year Price Grant Date
--------------------------------------------------------------------------------------------------------------
Jacek Rozga, M.D., Ph.D 18,000 8% $1.00 (1) April 20, 2010
-------------------
(1) On the date of grant, the common stock of ATI was not listed for trading
on any securities market. Accordingly, there was no market price on the
date of grant.
AGGREGATE OPTIONS
The following table sets forth the number and value of unexercised options
held by the Named Executive Officer as of December 31, 2003. There were no
exercises of options by the Named Executive Officer in fiscal year 2003.
AGGREGATED OPTION/SAR EXERCISES IN FISCAL YEAR ENDED DECEMBER 31, 2003
AND FY-END OPTION/SAR VALUES
Number of Securities Value of Unexercised
Underlying Unexercised In-the-Money
Shares Option/SARs at FY-End Option/SARs at FY-End
Acquired (#) Exercisable/ (#) Exercisable/
Name in Exercise Value Realized Unexercisable Unexercisable(1)
-------------------------------------------------------------------------------------------------------------------
Jacek Rozga, M.D., Ph.D - - 36,000/0 $69,300/$-0-
-------------------
(1) Dollar amounts reflect the net values of outstanding stock options
computed as the difference between $2.50 (the last reported sale on
December 31, 2003) and the exercise price of the options.
EQUITY COMPENSATION PLAN INFORMATION
The following table summarizes as of March 29, 2004, the number of
securities to be issued upon the exercise of outstanding derivative securities
(options, warrants, and rights); the weighted-average exercise price of the
outstanding derivative securities; and the number of securities remaining
available for future issuance under our equity compensation plans.
29
---------------------------------- ------------------------- ----------------------------- ------------------------
Number of securities to
be issued upon exercise Weighted average exercise Number of securities
of outstanding options, price of outstanding remaining available
Plan Category warrants, and rights options, warrants and rights for future issuance
---------------------------------- ------------------------- ----------------------------- ------------------------
(a) (b) (c)
---------------------------------- ------------------------- ----------------------------- ------------------------
Equity compensation plans $1.32 371,000
approved by security holders 629,000
---------------------------------- ------------------------- ----------------------------- ------------------------
Equity compensation plans not
approved by security holders -0-
---------------------------------- ------------------------- ----------------------------- ------------------------
Total 629,000 $1.32 371,000
---------------------------------- ------------------------- ----------------------------- ------------------------
The compensation plan approved by the security holders is the company's 2001
Stock Option Plan.
EMPLOYMENT AGREEMENTS
Dr. Rozga, receives compensation from us in his capacity as the President
and Chief Financial Officer of this company and in his capacity as President,
Chief Financial Officer and Chief Financial Officer of ATI, our operating
subsidiary. In his capacity as the President and Chief Financial Officer of this
company, Dr. Rozga earns an annual salary of $65,000. In addition, Dr. Rozga and
three of ATI's other employees provide services to ATI pursuant to that certain
Employee Loan-Out Agreement, dated July 1, 2001, as amended, between ATI and
Cedars-Sinai Medical Center. Dr. Rozga and the other employees are technically
employed and paid by Cedars-Sinai Medical Center. Under the terms of the
Loan-Out Agreement, the medical center permits Dr. Rozga to provide services to
ATI, and ATI pays Cedars-Sinai Medical Center an amount equal Dr. Rozga's salary
plus an amount equal to the cost of fringe benefits and Cedars-Sinai Medical
Center pays to Dr. Rozga. Through this arrangement, Dr. Rozga earns an annual
salary of $135,000 (which amount is paid through Cedar-Sinai but funded by ATI).
The Loan-Out Agreement expires on June 30, 2004, and may be terminated by either
party upon notice of breach of the agreement, for cause, or breach of the
facilities agreement pursuant to which the Company leases its laboratories from
Cedar-Sinai, provided that the parties have an opportunity to cure the breach.
Dr. Rozga has no obligations to Cedars-Sinai other than the services he is
providing to this company. Other than the Loan-Out Agreement, Dr. Rozga does not
have an employment contract with Cedar Sinai Medical Center.
COMPENSATION OF BOARD OF DIRECTORS
During the fiscal year ended December 31, 2003, HAUSA did not pay its
directors any compensation for serving on the Board of Directors. ATI did,
however, grant each of its directors stock options to purchase 18,000 shares of
common stock at an exercise price of $1.00 per share. The options have a term of
seven years. Providing that the directors still are on the board at that time,
one half of the options vest six months after the date of grant, and the
remaining options vest on the first anniversary of the grant. We currently also
reimburse all directors for any expenses incurred by them in attending meetings
of the board of directors.
In February 2004, the Board of Directors voted to increase the number of
options that each director would receive annually for services rendered as a
director from 18,000 to 30,000. The vesting schedule (one-half vests after six
months, the balance after one year) will remain the same as with options granted
in 2003. Director options continue to be granted at the market price on the date
of grant.
CODE OF ETHICS
The Board of Directors adopted a Code of Ethics which covers all of our
executive officers and key employees. The Code of Ethics requires that senior
management avoid conflicts of interest; maintain the confidentiality of our
confidential and proprietary information; engage in transactions in our common
stock only in compliance with applicable laws and regulations and the
requirements set forth in the Code of Ethics; and comply with other requirements
which are intended to ensure that our officers conduct business in an honest and
ethical manner and otherwise act with integrity and in the best interest of this
company.
All of our executive officers are required to affirm in writing that they
have reviewed and understand the Code of Ethics.
The code of ethics is filed as Exhibit 14.1 to this annual report on Form
10-KSB. A copy of our Code of Ethics will be furnished to any person upon
written request from any such person. Requests should be sent to: Secretary,
Arbios Systems, Inc., 110 North George Burns Road Suite D-4018 Los Angeles,
California, 90048.
30
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The following table sets forth certain information regarding beneficial
ownership of our common stock as of March 29, 2004 (a) by each person known by
us to own beneficially 5% or more of any class of our common stock, (b) by each
of our Named Executive Officer and our directors and (c) by all executive
officers and directors of this company as a group. As of March 29, 2004 there
were 13,150,598 shares of our common stock issued and outstanding. Unless
otherwise noted, we believe that all persons named in the table have sole voting
and investment power with respect to all the shares beneficially owned by them.
Except as otherwise indicated, the address of each stockholder is c/o the
company at 110 North George Burns Road Suite D-4018 Los Angeles, California,
90048.
Shares
Beneficially Percentage of
Name and Address of Beneficial Owner Owned Class
---------------------------------------------------------------------------------------------
Jacek Rozga, M.D., Ph.D 2,536,000(2) 19.2%
Kristin P. Demetriou 2,536,000(3) 19.2%
John Vierling, MD 36,000(4) *
Roy Eddleman 398,669 3.0%
Marvin S. Hausman MD 562,000(6) 4.2%
Richard W. Bank, MD 280,000(7) 2.1%
Achilles A. Demetriou, M.D., Ph.D 2,500,000(8) 19.0%
Cedars-Sinai Medical Center 681,818 5.2%
8700 Beverly Boulevard,
Los Angeles, California 90048
Gary Ballen (9) 1,017,000(9) 7.4%
140 Burlingame,
Los Angeles, California 90049
Suncraft Limited (10)
Room 2105, 21/F., West Tower 700,000(10) 5.2%
Shun Tak Centre
168-200 Connaught Road Central
Sheung Wan, Hong Kong
All executive officers and directors as a group (6 6,348,669(11) 46.7%
persons)
* Less than 1%.
(1) Beneficial ownership is determined in accordance with the rules of the
Securities and Exchange Commission and generally includes voting or
investment power with respect to securities. Shares of common stock
subject to options, warrants and convertible securities currently
exercisable or convertible, or exercisable or convertible within 60 days,
are deemed outstanding, including for purposes of computing the percentage
ownership of the person holding such option, warrant or convertible
security, but not for purposes of computing the percentage of any other
holder.
31
(2) Includes currently exercisable options to purchase 36,000 shares of common
stock.
(3) Consists of (i) 2,500,000 shares owned by the A & K Demetriou Family
Trust, of which Kristin P. Demetriou is a co-trustee, and (ii) currently
exercisable options to purchase 36,000 shares of common stock issued to
Kristin P. Demetriou.
(4) Consists of currently exercisable options to purchase 36,000 shares of
common stock.
(5) Consists of currently exercisable options to purchase 36,000 shares of
common stock, and 362,669 shares of common stock owned by Spectrum
Laboratories, Inc. Mr. Eddleman is the Chairman of the Board and Chief
Executive Officer of Spectrum Laboratories, Inc.
(6) Consists of (i) currently exercisable options to purchase 68,000 shares of
common stock, (ii) currently exercisable warrants to purchase 150,000
shares of common stock, (iii) 100,000 shares owned by the Marvin Hausman
Revocable Trust, and (iv) 244,000 shares owned by Northwest Medical
Research, Inc. Dr. Hausman is the trustee of the Marvin Hausman Revocable
Trust and the Chief Executive Officer and principal stockholder of
Northwest Medical Research, Inc.
(7) Includes (i) 40,000 shares of common stock, (ii) currently exercisable
warrants to purchase 40,000 shares of common stock, (iii) 100,000 shares
of common stock owned by First-Tier Biotechnology Partners LP, and (iv)
currently exercisable warrants to purchase 100,000 shares of common stock
owned by First-Tier Biotechnology Partners LP. Dr. Bank is the President
and Managing Director of First-Tier Biotechnology Partners LP.
(8) Consists of 2,500,000 shares owned by the A & K Demetriou Family Trust, of
which Achilles A. Demetriou, M.D., Ph.D. is a co-trustee.
(9) Includes (i) 417,000 shares of common stock, and (ii) currently
exercisable options to purchase 600,000 shares of common stock.
(10) Includes (i) 350,000 shares of common stock, and (ii) currently
exercisable warrants to purchase 350,000 shares of common stock.
(11) Includes currently exercisable options to purchase 212,000 shares of
common stock.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
We currently maintain our laboratory and office space at Cedars-Sinai
Medical Center in Los Angeles, California, which facilities we lease under a
three-year lease that expires on June 30, 2004. See "Item 2. Description of
Property." We currently pay rent of $6,441 per month to Cedars-Sinai Medical
Center under the lease. Cedars-Sinai Medical Center owns approximately 5.2% of
our outstanding common stock.
Cedars-Sinai Medical Center has granted ATI the exclusive and worldwide
rights to five patents and other technical information. In consideration for the
licenses to the five patents and other technical information, we must expend an
aggregate amount of $1,760,000 in research and development expenses toward the
development and promotion of products derived from the patents by June 30, 2008.
Additionally, Cedars-Sinai Medial Center will have nonexclusive rights to any
products derived from the patents. We will have to pay Cedars-Sinai Medical
Center royalty fees equal to 1.5% of the gross sales price of royalty bearing
products. From the third to tenth years of the license, the royalty fee percent
will phase out evenly to 0%. See"Item 1. Description of Business--Patents and
Proprietary Rights" for a description of the licensed patents.
32
On December 26, 2001, ATI entered into various agreements with Spectrum
Laboratories, Inc. ("Spectrum Labs"). Concurrently with these agreements,
Spectrum Labs also purchased 362,669 shares of ATI' common stock (or 2.8% of our
shares of that were outstanding on March 29, 2004). Mr. Eddleman, one of the
members of our Board of Directors, is the Chairman and CEO of Spectrum Labs. The
three principal agreements entered into by ATI and Spectrum Labs in December
2001 are the following:
A. License Agreement. Spectrum Labs granted to ATI an exclusive, worldwide
license to develop, make, use and distribute products based on two Spectrum Labs
patents. Provided that ATI purchases the hollow fiber cartridges that it expects
that it will need for its products from Spectrum Labs, ATI will not have to pay
a royalty for the license. In the event that Spectrum Labs is not the
manufacturer of the hollow fiber cartridges, ATI will have to pay Spectrum Labs
a royalty for the license (see, "Manufacturing and Supply Agreement," below).
Spectrum Labs also agreed to grant ATI a right of first refusal to obtain a
license to make, use, develop or distribute products based on Spectrum Labs'
technology other than in liver assisted products, provided that such other
products are in the fields of artificial blood therapy and bioprocessing and
therapeutic devices.
B. Research Agreement. ATI and Spectrum Labs also entered into a four-year
research agreement pursuant to which ATI and Spectrum Labs agreed to combine
their expertise and their respective technologies to enable ATI to (i) develop
liver assist systems, (ii) conduct pre-clinical and Phase I-III clinical
testing, (iii) obtain regulatory approvals and (iv) commercialize such liver
assist systems. Under the terms of the agreement, Spectrum Labs agreed to
perform certain research on liver assist devices for ATI during product
development, pre-clinical and clinical testing at no cost to ATI. Spectrum Labs
also agreed to pay for all costs and expenses in connection with the research
program and agreed to allocate a total of $550,000 to the program during the
research term. In October 2002, ATI and Spectrum Labs agreed that Spectrum Labs
has now satisfied its research and development obligations, that ATI owed
Spectrum Labs an additional $54,960 for services provided by Spectrum Labs
(which amount is being repaid in 18 monthly installments ending in May 2004),
and that the 362,669 shares of ATI common stock previously issued to Spectrum
Labs are now fully vested. Spectrum Labs has agreed to perform additional
research and development work as may be requested by ATI on such terms as the
parties may agree to in good faith negotiations.
C. Manufacturing and Supply Agreement. ATI and Spectrum Labs have also
entered into an agreement pursuant to which the parties have agreed that
Spectrum Labs will manufacture for ATI the hollow fiber cartridges with
fiber-in-fiber geometry that ATI will need for its bioartificial liver. The
agreement provides that the price of the hollow fiber-in-fiber cartridges to be
sold by Spectrum Labs to ATI will be determined by good faith negotiations
between the parties. ATI has agreed that it will not purchase cartridges with
fiber-in-fiber geometry from any other manufacturer unless Spectrum Labs is
either unable or unwilling to manufacture the cartridges. In the event that
Spectrum Labs is unwilling to manufacture the fiber-in-fiber cartridges for ATI,
ATI shall have the right to have a third party manufacture the cartridges for
it, in which case ATI will pay Spectrum Labs a royalty for the license granted
to ATI by Spectrum Labs under the License Agreement. The royalty shall be equal
to 3% of the net sales (total sales less taxes, returns, transportation,
insurance, and handling charges) attributed solely to the liver assist
cartridges.
Our management believes that the foregoing transactions with Cedars-Sinai
Medical Center and Spectrum Labs were on terms as favorable to this company as
could have been obtained from unrelated third parties.
In July 2003, ATI granted Dr. Marvin Hausman a five-year warrant to
purchase 50,000 shares of common stock, at an exercise price of $1.00 per share,
in consideration for Dr. Hausman's efforts in introducing ATI to an investor who
made a $250,000 investment in ATI. Dr. Hausman is a member of this company's
Board of Directors and a member of ATI's Board of Directors.
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
The following exhibits are filed as part of this report:
33
Exhibit
Number Description
------ -----------
2.1 Agreement and Plan of Reorganization, dated October 20, 2003,
between the Registrant, Arbios Technologies, Inc., HAUSA
Acquisition, Inc., Cindy Swank and Raymond Kuh (1)
3.1 Articles of Incorporation of Historical Autographs U.S.A.,
Inc.(2)
3.2 Certificate of Amendment of Articles of Incorporation (1)
3.3 Bylaws (2)
4.1 Revised form of Common Stock certificate
4.2 Form of Warrant for the Purchase of Shares of Common Stock issued
by the Registrant upon the assumption of the Arbios Technologies,
Inc. outstanding Warrant
10.1 Form of 2001 Stock Option Plan (2)
10.2 Facilities Lease, entered into as of June 30, 2001, by and
between Cedars-Sinai Medical Center and Arbios Technologies
10.3 Standard Multi-Tenant Office Lease, dated as of February 13,
2004, by and between Beverly Robertson Design Plaza and Arbios
Systems, Inc.
10.4 Employee Loan-Out Agreement, entered into effective as of July 1,
2001, by and between Cedars-Sinai Medical Center and Arbios
Technologies, Inc.
10.5 Second Amendment to Employee Loan-Out Agreement, entered into
effective as of May 7, 2003, by and between Cedars-Sinai Medical
Center and Arbios Technologies, Inc.
10.6 License Agreement, entered into as of June 2001, by and between
Cedars-Sinai Medical Center and Arbios Technologies, Inc.
10.7 Spectrum Labs License Agreement
14.1 Arbios Systems, Inc. Code of Business Conduct and Ethics Adopted
by the Board of Directors on January 15, 2004
16.1 Letter on Change in Certifying Accountant (3)
21.1 List of Subsidiaries
31.1 Certification of Principal Executive Officer and Principal
Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002
32.1 Certification of Principal Executive Officer and Principal
Financial Officer Pursuant to 18 U.S.C. Section 1350
---------------------
34
(1) Previously filed as an exhibit to the Company's Current Report on Form
8-K on October 14, 2003, which exhibit is hereby incorporated herein by
reference.
(2) Previously filed as an exhibit to the Company's Registration Statement
Form 10-SB filed April 26, 2001, which exhibit is hereby incorporated
herein by reference.
(3) Previously filed as an exhibit to the Company's Current Report on Form
8-K on January 30, 2004, which exhibit is hereby incorporated herein by
reference.
(b) Reports on Form 8-K
The Company filed the following reports on Form 8-K during the last
quarter of the fiscal year ending December 31, 2003:
o On October 10, 2003, the Company filed a Current Report on Form 8-K
attaching a press release concerning Historical Autographs U.S.A.,
Inc.'s intention to acquire ATI.
o On November 14, 2003, the Company filed a Current Report on Form 8-K
to disclose the Reorganization (Item 5) and the resulting changes in
control (Item 1).
Stockholders of our company may obtain a copy of any exhibit referenced in
this 10-KSB Annual Report by writing to: Secretary, Arbios Systems, Inc., 110
North George Burns Road Suite D-4018 Los Angeles, California, 90048. The written
request must specify the stockholder's good faith representation that such
stockholder is a stockholder of record of common stock of the company.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
As stated in Item 8 above, Williams & Webster, P.S. audited the financial
statements of our company during the fiscal years ended December 31, 2002 and
2001. On January 27, 2004, our board of directors replaced Williams & Webster,
P.S. as this company's auditors and engaged Stonefield Josephson, Inc. as our
independent accountants to audit our financial statements for the year ending
December 31, 2003. See, "Item 8. Changes In and Disagreements With Accountants
on Accounting and Financial Disclosure."
AUDIT FEES
The aggregate fees we paid Williams & Webster, P.S. during the fiscal
years ended December 31, 2003 and December 31, 2002 for professional services
for the audit of our financial statements for and the review of financial
statements included in our Forms 10-QSB were $7,951 and $3,213, respectively.
AUDIT-RELATED FEES
Williams & Webster, P.S. did not provide, and it did not bill and it was
not paid any fees for, audit-related services in the fiscal years ended December
31, 2003 and 2002.
TAX FEES
Williams & Webster, P.S. did not provide, and it did not bill and it was
not paid any fees for, tax compliance, tax advice, and tax planning services for
the fiscal years ended December 31, 2003 and December 31, 2002.
ALL OTHER FEES
Williams & Webster, P.S. did not provide, and it did not bill and it was
not paid any fees for, any other services in the fiscal years ended December 31,
2003 and 2002.
35
ADDITIONAL INFORMATION
We are subject to the informational requirements of the Exchange Act and,
in accordance with the rules and regulations of the Securities and Exchange
Commission; we file reports, proxy statements and other information. You may
inspect such reports, proxy statements and other information at public reference
facilities of the Commission at Judiciary Plaza, 450 Fifth Street N.W.,
Washington D.C. 20549; Northwest Atrium Center, 500 West Madison Street, Suite
1400, Chicago, Illinois 60661; and 5670 Wilshire Boulevard, Los Angeles,
California 90036. Copies of such material can be obtained from the Public
Reference Section of the Commission at Judiciary Plaza, 450 Fifth Street N.W.,
Washington, D.C. 20549, at prescribed rates. For further information, the SEC
maintains a website that contains reports, proxy and information statements, and
other information regarding reporting companies at http://www.sec.gov or call
(800) SEC-0330.
36
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A DEVELOPMENT STAGE COMPANY)
CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2003 AND 2002
37
CONTENTS
Page
INDEPENDENT AUDITORS' REPORT 1
FINANCIAL STATEMENTS:
Consolidated Balance Sheet 2
Consolidated Statements of Operations 3
Consolidated Statement of Stockholders' Equity 4-6
Consolidated Statements of Cash Flows 7
Notes to Consolidated Financial Statements 8-20
INDEPENDENT AUDITORS' REPORT
Board of Directors
Arbios Systems, Inc. and Subsidiary
Beverly Hills, California
We have audited the accompanying consolidated balance sheet of Arbios Systems,
Inc. and Subsidiary as of December 31, 2003 and the related consolidated
statements of operations, stockholders' equity and cash flows for the years
ended December 31, 2003 and 2002, and from August 23, 2000 (inception) to
December 31, 2003. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audit.
We conducted our audit in accordance with auditing standards generally accepted
in the United States of America. 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 audit provides a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Arbios Systems, Inc. and
Subsidiary as of December 31, 2003 and the results of their operations and cash
flows for the years ended December 31, 2003 and 2002, and from August 23, 2000
(inception) to December 31, 2003, in conformity with accounting principles
generally accepted in the United States of America.
CERTIFIED PUBLIC ACCOUNTANTS
Santa Monica, California
March 9, 2004
F-1
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A DEVELOPMENT STAGE COMPANY)
CONSOLIDATED BALANCE SHEET - DECEMBER 31, 2003
ASSETS
CURRENT ASSETS:
Cash $3,507,086
Prepaid expenses 155,986
------------------
Total current assets $3,663,072
PROPERTY AND EQUIPMENT, net 45,633
PATENT RIGHTS, net 324,145
DEPOSITS 7,434
------------------
$4,040,284
==================
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued expenses $ 148,229
Current maturities of capital lease obligation 8,526
------------------
Total current liabilities $ 156,755
LONG-TERM LIABILITIES:
Capital lease obligation, less current maturities 6,826
Other liabilities 5,555
------------------
Total long-term liabilities 12,381
STOCKHOLDERS' EQUITY:
Preferred stock, $.001 par value, 5,000,000 shares authorized
none issued and outstanding -
Common stock, $0.001 par value; 25,000,000 shares
authorized; 13,150,598 shares issued and outstanding 13,151
Additional paid-in capital 5,485,498
Deficit accumulated during the development stage (1,627,501)
------------------
Total stockholders' equity 3,871,148
------------------
$4,040,284
==================
The accompanying notes form an integral part of these
consolidated financial statements.
F-2
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A Development Stage Company)
CONSOLIDATED STATEMENTS OF OPERATIONS
Period from
August 23, 2000
(Inception) to
Year ended Year ended Period Ended
December 31, 2003 December 31, 2002 December 31, 2003
----------------- ----------------- -----------------
REVENUES $ 137,828 $ 111,108 $ 248,936
----------- ----------- -----------
OPERATING EXPENSES:
General and administrative 340,067 172,737 617,239
Research and development 436,849 431,199 1,009,674
----------- ----------- -----------
Total operating expenses 776,916 603,936 1,626,913
----------- ----------- -----------
LOSS BEFORE OTHER EXPENSE (639,088) (492,828) (1,377,977)
INTEREST EXPENSE, NET (243,230) (830) (243,157)
----------- ----------- -----------
LOSS BEFORE PROVISION FOR INCOME TAXES (882,318) (493,658) (1,621,134)
PROVISION FOR INCOME TAXES 3,375 1,122 6,367
----------- ----------- -----------
NET LOSS $ (885,693) $ (494,780) $(1,627,501)
=========== =========== ===========
BASIC AND DILUTED LOSS PER SHARE $ (0.11) $ (0.08) $ (0.27)
=========== =========== ===========
BASIC AND DILUTED WEIGHTED AVERAGE
COMMON SHARES OUTSTANDING 7,887,237 5,897,225 6,091,089
=========== =========== ===========
The accompanying notes form an integral part of these
consolidated financial statements.
F-3
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A DEVELOPMENT STAGE COMPANY)
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
PERIOD FROM AUGUST 23, 2000 (INCEPTION) TO DECEMBER 31, 2003
Preferred Stock Common Stock Additional
------------------------- -------------------------- Paid-In
Shares Amount Shares Amount Capital
------------- ---------- -------------- ---------- ---------------
Balance, August 23,
2000 (inception) restated - $ - $ -
for effect of reverse merger
with Historical Autographs U.S.A., Inc.
Stock issuance
in exchange for cash 5,000,000 50 4,950
Net loss
------------- ---------- -------------- ---------- ---------------
Balance, December 31,
2000, as restated - - 5,000,000 50 4,950
Issuance of junior
preferred stock for
cash of $250,000
and in exchange for
patent rights,
research and
development costs,
and employee loan-
out costs less
issuance expenses
of $11,268,
June 29, 2001 681,818 7 958,278
Deficit
Accumulated
During the
Deferred Development
Costs Stage Total
------------ --------------- ------------
Balance, August 23,
2000 (inception) restated $ -
for effect of reverse merger
with Historical Autographs U.S.A., Inc.
Stock issuance
in exchange for cash 5,000
Net loss (9,454) (9,454)
------------ --------------- ------------
Balance, December 31,
2000, as restated - (9,454) (4,454)
Issuance of junior
preferred stock for
cash of $250,000
and in exchange for
patent rights,
research and
development costs,
and employee loan-
out costs less
issuance expenses
of $11,268,
June 29, 2001 (343,553) 614,732
The accompanying notes form an integral part of these
consolidated financial statements.
F-4
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A DEVELOPMENT STAGE COMPANY)
CONSOLIDTED STATEMENT OF STOCKHOLDERS' EQUITY
PERIOD FROM AUGUST 23, 2000 (INCEPTION) TO DECEMBER 31, 2003
Preferred Stock Common Stock Additional
------------------------- -------------------------- Paid-In
Shares Amount Shares Amount Capital
------------- ---------- -------------- ---------- ---------------
Issuance of common
stock in exchange
for patent rights and
deferred research
and development
costs 362,669 4 547,284
Services receivable
Deferred employee
loan-out costs
receivable earned
Net loss
------------- ---------- -------------- ---------- ---------------
Balance, December
31, 2001 681,818 7 5,362,669 54 1,510,512
Amendment of December
31, 2001 agreement
for the issuance of
common stock agreement
in exchange for
research and development
services (495,599)
Deferred employee
loan-out costs
receivable earned
Issuance of common
stock for compensation 70,000 1 10,499
Issuance of common
stock for cash 999,111 9 149,857
Deficit
Accumulated
During the
Deferred Development
Costs Stage Total
------------ --------------- ----------------
Issuance of common
stock in exchange
for patent rights and
deferred research
and development
costs 547,288
Services receivable (550,000) (550,000)
Deferred employee
loan-out costs
receivable earned 82,888 82,888
Net loss (237,574) (237,574)
------------ --------------- ----------------
Balance, December
31, 2001 (810,665) (247,028) 452,880
Amendment of December
31, 2001 agreement
for the issuance of
common stock agreement
in exchange for
research and development
services 550,000 54,401
Deferred employee
loan-out costs
receivable earned 171,776 171,776
Issuance of common
stock for compensation 10,500
Issuance of common
stock for cash 149,866
F-5
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A DEVELOPMENT STAGE COMPANY)
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
PERIOD FROM AUGUST 23, 2000 (INCEPTION) TO DECEMBER 31, 2003
Preferred Stock Common Stock Additional
------------------------- -------------------------- Paid-In
Shares Amount Shares Amount Capital
------------- ---------- -------------- ---------- ---------------
Net loss
------------- ---------- -------------- ---------- ---------------
Balance, December
31, 2002 681,818 $ 7 6,431,780 $ 64 $ 1,175,269
Issuance of common
stock for cash less
issuance expense of $2,956 417,000 417 246,827
Issuance of common stock
in private placement for
cash less issuance expense
of $519,230 4,000,000 4,000 3,476,770
Issuance of common stock
for convertible debenture
less issuance expense
of $49,500 400,000 400 350,100
Shares issued in connection with
acquisition of Historical Autographs
U.S.A., Inc. on October 30, 2003 1,220,000 8,263 (8,263)
Value of warrants and beneficial
conversion feature of bridge loan 244,795
Deferred employee
loan-out costs
receivable earned
Preferred Stock converted
to Common Stock (681,818) (7) 681,818 7
Net loss
------------- ---------- -------------- ---------- ---------------
Balance, December
31, 2003 - $ - 13,150,598 $ 13,151 $ 5,485,498
============= ========== ============== ========== ===============
Deficit
Accumulated
During the
Deferred Development
Costs Stage Total
------------ --------------- ----------------
Net loss (494,780) (494,780)
------------ --------------- ----------------
Balance, December
31, 2002 $(88,889) $ (741,808) $ 344,643
Issuance of common
stock for cash less
issuance expense of $2,956 247,244
Issuance of common stock
in private placement for
cash less issuance expense
of $568,730 3,480,770
Issuance of common stock
for convertible debenture 350,500
Shares issued in connection with
acquisition of Historical Autographs
U.S.A., Inc. in October 30, 2003 -
Value of warrants and beneficial
conversion feature of bridge loan 244,795
Deferred employee
loan-out costs
receivable earned 88,889 88,889
Preferred Stock converted
to Common Stock
Net loss (885,693) (885,693)
------------ --------------- ----------------
Balance, December
31, 2003 $ - $(1,627,501) $ 3,871,148
============ =============== ================
F-6
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A Development Stage Company)
CONSOLIDATED STATEMENTS OF CASH FLOWS
Period from
August 23, 2000
(Inception) to
Year ended Year ended Period Ended
December 31, 2003 December 31, 2002 December 31, 2003
-----------------------------------------------------------
CASH FLOWS USED FOR OPERATING ACTIVITIES:
Net loss $ (885,693) $ (494,780) $(1,627,501)
----------- ----------- -----------
ADJUSTMENTS TO RECONCILE NET INCOME (LOSS) TO NET
CASH PROVIDED BY (USED FOR) OPERATING ACTIVITIES:
Amortization of debt discount 244,795 -- 244,795
Depreciation and amortization 40,243 33,774 92,337
Issuance of common stock for compensation -- 10,500 10,500
Settlement of accrued expense -- 54,401 54,401
Deferred compensation costs 88,889 171,776 319,553
CHANGES IN ASSETS AND LIABILITIES:
(INCREASE) DECREASE IN ASSETS:
Prepaid expenses (135,177) 8,798 (155,988)
Deposit -- -- (7,434)
INCREASE (DECREASE) IN LIABILITIES:
Accrued liabilities 78,411 53,817 148,230
Other -- 5,556 5,556
----------- ----------- -----------
Total adjustments 317,161 338,622 711,950
----------- ----------- -----------
Net cash used for operating activities (568,532) (156,158) (915,551)
----------- ----------- -----------
CASH FLOWS USED FOR INVESTING ACTIVITIES -
purchase of property and equipment (23,470) (6,340) (37,115)
----------- ----------- -----------
CASH FLOWS PROVIDED BY (USED FOR) FINANCING ACTIVITIES:
Proceeds from convertible promissory note 400,000 -- 400,000
Proceeds from issuance of preferred stock -- -- 250,000
Proceeds from issuance of common stock 4,250,200 149,866 4,405,066
Payments on capital lease obligations, net (7,275) (2,373) (9,648)
Cost of issuance of preferred stock -- -- (11,268)
Cost of issuance of common stock (571,686) -- (574,398)
----------- ----------- -----------
Net cash provided by financing activities 4,071,239 147,493 4,459,752
----------- ----------- -----------
NET INCREASE (DECREASE) IN CASH 3,479,237 (15,005) 3,507,086
CASH, beginning of period 27,849 42,854 --
----------- ----------- -----------
CASH, end of year $ 3,507,086 $ 27,849 $ 3,507,086
=========== =========== ===========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Interest paid $ -- $ -- $ --
=========== =========== ===========
Income taxes paid $ -- $ 800 $ 2,992
=========== =========== ===========
SUPPLEMENTAL DISCLOSURE OF NON-CASH FINANCING
INFORMATION:
During the year ended December 31, 2003,
$400,000 of convertible promissory notes
were converted into 400,000 shares of
common stock and 681,818 shares of preferred
stock were converted into common shares.
See Note (1) regarding the transaction with historical autographs, U.S.A. Inc.
The accompanying notes form an integral part of these
consolidated financial statements.
F-7
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE YEARS ENDED DECEMBER 31, 2003 AND 2002
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
GENERAL:
Arbios Systems, Inc. and its wholly owned subsidiary (collectively,
the "Company") are engaged in developing and marketing liver-assist
devices to meet the urgent need for therapy that facilitates
recovery from liver failure. The Company's products in development
are called SEPET(TM), which is a blood purification therapy device
for patients with liver failure, and LIVERAID(TM), which is a
bioartificial liver.
On October 30, 2003, Historical Autographs U.S.A., Inc. and Arbios
Technologies, Inc. consummated a reverse merger, in which Arbios
Technologies, Inc. became the wholly owned subsidiary of Historical
Autographs U.S.A., Inc. Concurrently with the merger, Historical
Autographs U.S.A., Inc. changed its named to Arbios Systems, Inc.
and is herein referred to as "Systems". The shareholders of Arbios
Technologies, Inc. transferred ownership of one hundred percent of
all the issued and outstanding shares of their capital stock of
Arbios Technologies, Inc. in exchange for 11,930,598 newly issued
shares, or approximately 91%, of the common stock, $0.001 par value,
of Systems. At that time, the former management of Systems resigned
and was replaced by the same persons who serve as officers and
directors of Arbios Technologies, Inc. Inasmuch as the former owners
of Arbios Technologies, Inc. controlled the combined entity after
the merger, the combination was accounted for as a purchase by
Arbios Technologies, Inc. as acquirer, for accounting purposes in
accordance with Statement of Financial Accounting Standards No. 141
using reverse merger accounting, and no adjustments to the carrying
values of the assets or liabilities of the acquired entity were
required. Proforma operating results, as if the acquisition had
taken place at the beginning of the period, have not been presented
as the operations of the acquiree were negligible. The financial
position and results of operations of Systems is included in the
consolidated statements of the Company from the date of acquisition.
DEVELOPMENT STAGE ENTERPRISE:
The Company is a development stage enterprise as defined in
Statement of Financial Accounting Standards ("SFAS") No. 7,
"Accounting and Reporting by Development Stage Enterprises." The
Company is devoting substantially all of its present efforts to
establish a new business. Its planned principal operations have not
yet commenced, with the exception of research and development, which
were initiated in 2000 and are being vigorously pursued. All losses
accumulated since inception have been considered as part of the
Company's development stage activities. Payments received under
contracts to fund certian research activities are recognized in the
period on which the reserach activities are performed. Payments
received in advance that are related to future performance will be
deferred and recognized as revenue when the research projects are
performed.
PRINCIPLES OF CONSOLIDATION:
The accompanying consolidated financial statements include the
accounts of the Systems and its wholly owned subsidiary, Arbios
Technologies, Inc. All material intercompany accounts have been
eliminated in consolidation.
F-8
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2003 AND 2002
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED:
USE OF ESTIMATES:
The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of
America requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure
of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those
estimates.
FEDERAL GOVERNMENT GRANTS:
The Company is partially funded by certain governmental grants.
Payments received under contracts to fund certain research
activities are recognized as revenue in the period in which the
research activities are performed. Payments received in advance that
are related to future performance will be deferred and recognized as
revenue when the research project are performed. Reimbursements
recorded under these grants are subject to governmental audit.
Management believes that material adjustments will not result from
subsequent audits, if any, of costs reflected in the accompanying
financial statements.
COMPREHENSIVE INCOME:
SFAS No. 130, "Reporting Comprehensive Income", establishes
standards for the reporting and display of comprehensive income and
its components in the financial statements. As of December 31, 2003
and 2002, the Company has no items that represent comprehensive
income and therefore, the Company has not included a schedule of
comprehensive income in the financial statements.
PROPERTY AND EQUIPMENT:
Property and equipment are stated at cost. Depreciation is provided
using the straight-line method over estimated useful lives of the
assets of five years.
PATENT RIGHTS:
The Company purchased the exclusive right to certain patents (see
Note 3). These patents are recorded at fair market value as of the
date of purchase. They are amortized over the estimated useful life
or remaining legal life at the date of purchase, whichever is
shorter.
DEFERRED EMPLOYEE LOAN-OUT COSTS RECEIVABLE:
The Company purchased the loan-out of certain employees in exchange
for junior preferred stock (see Note 4). These loan-out costs are
expensed as the employee services are performed.
F-9
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2003 AND 2002
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED:
FAIR VALUE OF FINANCIAL INSTRUMENTS:
The Company's financial instruments, none of which are held for
trading purposes, include cash and accounts payable and accrued
expenses, have carrying amounts which approximate fair value due to
their short maturities.
INCOME TAXES:
Deferred income taxes are recognized for the tax consequences in
future years of differences between the tax bases of assets and
liabilities and their financial reported amounts at each period end,
based on enacted tax laws and statutory tax rates applicable to the
period in which the differences are expected to affect taxable
income. Valuation allowances are established, when necessary, to
reduce deferred tax assets to the amount expected to be realized.
The provision for income taxes represents the tax payable for the
period, if any, and the change during the period in deferred tax
assets and liabilities.
STOCK-BASED COMPENSATION:
SFAS No. 123, "Accounting for Stock-Based Compensation," establishes
and encourages the use of the fair value based method of accounting
for stock-based compensation arrangements under which compensation
cost is determined using the fair value of stock-based compensation
determined as of the date of grant and is recognized over the
periods in which the related services are rendered. The statement
also permits companies to elect to continue using the current
intrinsic value accounting method specified in Accounting Principles
Board ("APB") Opinion No. 25, "Accounting for Stock Issued to
Employees," to account for stock-based compensation. The Company has
elected to use the intrinsic value based method and has disclosed
the pro forma effect of using the fair value based method to account
for its stock-based compensation issued to employees. For
non-employee stock based compensation the Company recognizes an
expense in accordance with SFAS No. 123 and values the equity
securities based on the fair value of the security on the date of
grant.
F-10
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2003 AND 2002
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED:
STOCK-BASED COMPENSATION, CONTINUED:
If the Company had elected to recognize compensation cost for its
stock options and warrants based on the fair value at the grant
dates, in accordance with SFAS 123, net earnings and earnings per
share would have been as follows:
December 31, December 31,
2003 2002
---- ----
Net loss as reported $(885,693) $(494,780)
Compensation recognized under APB 25 -- --
Compensation recognized under SFAS 123 (12,710) (18,042)
--------- ---------
Proforma $(898,403) $(512,822)
========= =========
Basic and diluted loss per common share:
As reported $ (0.11) $ (0.08)
========= =========
Proforma $ (0.11) $ (0.09)
========= =========
The fair value of each option is estimated on the date of grant
using the Black Scholes option-pricing model. The following
weighted-average assumptions were used in the Black Scholes
option-pricing model; dividend yield nil, expected volatility 0.05%,
risk free interest rate 3.0% and expected life of 7 years.
LOSS PER SHARE:
The Company utilizes SFAS No. 128, "Earning per Share." Basic loss
per share is computed by dividing loss available to common
shareholders by the weighted-average number of common shares
outstanding. Diluted loss per share is computed similar to basic
loss per share except that the denominator is increased to include
the number of additional common shares that would have been
outstanding if the potential common shares had been issued and if
the additional common shares were dilutive. The computation of
diluted loss per share does not assume conversion, exercise or
contingent exercise of securities that would have an anti-dilutive
effect on losses.
F-11
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2003 AND 2002
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED:
RECENT ACCOUNTING PRONOUNCEMENTS:
During April 2003, the FASB issued SFAS 149 - "Amendment of
Statement 133 on Derivative Instruments and Hedging Activities",
effective for contracts entered into or modified after June 30,
2003, except as stated below and for hedging relationships
designated after June 30, 2003. In addition, except as stated below,
all provisions of this Statement should be applied prospectively.
The provisions of this Statement that relate to Statement 133
Implementation Issues that have been effective for fiscal quarters
that began prior to June 15, 2003, should continue to be applied in
accordance with their respective effective dates. In addition,
paragraphs 7(a) and 23(a), which relate to forward purchases or
sales of when-issued securities or other securities that do not yet
exist, should be applied to both existing contracts and new
contracts entered into after June 30, 2003. The Company does not
participate in such transactions, however, is evaluating the effect
of this new pronouncement, if any.
During May 2003, the FASB issued SFAS 150 - "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and
Equity", effective for financial instruments entered into or
modified after May 31, 2003, and otherwise is effective at the
beginning of the first interim period beginning after June 15, 2003.
This Statement establishes standards for how an issuer classifies
and measures certain financial instruments with characteristics of
both liabilities and equity. It requires that an issuer classify a
freestanding financial instrument that is within its scope as a
liability (or an asset in some circumstances). Many of those
instruments were previously classified as equity. Some of the
provisions of this Statement are consistent with the current
definition of liabilities in FASB Concepts Statement No. 6, Elements
of Financial Statements. The Company has implemented this
pronouncement and has concluded that the adoption has no material
impact to the financial statements.
In December 2003, the FASB issued a revised SFAS No. 132,
"Employers' Disclosures about Pensions and Other Postretirement
Benefits" which replaces the previously issued Statement. The
revised Statement increases the existing disclosures for defined
benefit pension plans and other defined benefit postretirement
plans. However, it does not change the measurement or recognition of
those plans as required under SFAS No. 87, "Employers' Accounting
for Pensions," SFAS No. 88, "Employers' Accounting for Settlements
and Curtailments of Defined Benefit Pension Plans and for
Termination Benefits," and SFAS No. 106, "Employers' Accounting for
Postretirement Benefits Other Than Pensions." Specifically, the
revised Statement requires companies to provide additional
disclosures about pension plan assets, benefit obligations, cash
flows, and benefit costs of defined benefit pension plans and other
defined benefit postretirement plans. Also, companies are required
to provide a breakdown of plan assets by category, such as debt,
equity and real estate, and to provide certain expected rates of
return and target allocation percentages for these asset categories.
The Company has implemented this pronouncement and has concluded
that the adoption has no material impact to the financial
statements.
F-12
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2003 AND 2002
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED:
RECENT ACCOUNTING PRONOUNCEMENTS, CONTINUED:
In January 2003, the FASB issued Interpretation No. 46,
"Consolidation of Variable Interest Entities." Interpretation 46
changes the criteria by which one company includes another entity in
its consolidated financial statements. Previously, the criteria were
based on control through voting interest. Interpretation 46 requires
a variable interest entity to be consolidated by a company if that
company is subject to a majority of the risk of loss from the
variable interest entity's activities or entitled to receive a
majority of the entity's residual returns or both. A company that
consolidates a variable interest entity is called the primary
beneficiary of that entity.
In December 2003 the FASB concluded to revise certain elements of
FIN 46, which will be issued shortly. The FASB also modified the
effective date of FIN 46. For all entities that were previously
considered special purpose entities, FIN 46 should be applied in
periods ending after December 15, 2003. Otherwise, FIN 46 is to be
applied for registrants who file under Regulation S-X in periods
ending after March 15, 2004, and for registrants who file under
Regulation SB, in periods ending after December 15, 2003. The
Company does not expect the adoption to have a material impact on
the Company's financial position or results of operations.
(2) PROPERTY AND EQUIPMENT:
Property and equipment consisted of the following:
December 31,
2003
---------------
Office equipment $ 866
Computer equipment 23,277
Medical equipment 37,971
---------------
62,114
Less accumulated depreciation 16,481
---------------
$ 45,633
===============
Depreciation expense was $10,641, $4,172, and $16,481 for the year ended
December 31, 2003 and 2002, and the period from August 23, 2000
(inception) to December 31, 2003, respectively.
F-13
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2003 AND 2002
(3) PATENT RIGHTS:
In June 2001, the Company received exclusive rights to four existing
patents and one pending patent. At the date of exchange, the aggregate
value of these rights was $400,000. At December 31, 2003 and 2002, the
accumulated amortization of these rights was $75,856 and $46,253, and the
estimated remaining life was 8 years. Amortization expense was $29,602,
$29,602, and $75,856 for the years ended December 31, 2003 and 2002 and
the period from August 23, 2000 (inception) to December 31, 2003,
respectively.
Future estimated amortization expense is as follows:
Year ending December 31,
2004 $ 29,602
2005 29,602
2006 29,602
2007 29,602
2008 29,602
Thereafter 176,135
---------------
$ 324,145
===============
In conjunction with the patents rights described above, the Company
committed to the licensor to spend a total of $1,760,000 in research and
development expenses toward the development and promotion of products,
commencing from the acquisition date until June 30, 2008.
Future remaining minimum payments under this agreement were as follows:
Year ending December 31,
2004 $ 150,000
2005 200,000
2006 300,000
2007 400,000
2008 500,000
---------------
$ 1,550,000
===============
In the event the Company expends more than the minimum annual amount in
any year, the excess may be carried over to the subsequent year. For the
years ended December 31, 2003 and 2002, and the period from August 23,
2000 (inception) to December 31, 2003, the research and development costs
incurred were $436,849, $431,199, and $1,009,674, respectively. As of
December 31, 2003, the Company had a $799,674 as carryforward to apply to
future years.
The Company is subject to paying royalty fees to the licensor, who is a
shareholder, equal to 1.5% of the gross sales price of royalty bearing
products. From year three to the tenth year of the license the royalty fee
percent will phase out evenly to 0%. As of December 31, 2003 and 2002, the
Company had not paid any royalty fees since it did not have any sales of
royalty bearing products.
F-14
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2003 AND 2002
(4) DEFERRED EMPLOYEE LOAN-OUT COSTS:
In June 2001, the Company received a commitment for the loan-out of
certain employees over a two-year period in exchange for junior preferred
stock (see note 8). The Company has deferred the estimated loan-out costs
over the two-year period. The loan-out costs are expensed as the services
are performed. At the date of the exchange, the cost of the employee
loan-out over the two-year period was $319,553.
In December 2001, the Company paid $24,000 to purchase additional employee
loan-out costs. For the years ended December 31, 2003 and 2002, and the
period from August 23, 2000 (inception) to December 31, 2003, the
amortized employee loan-out costs were $88,889, $171,776, and $343,553,
respectively.
(5) CONVERTIBLE PROMISSORY NOTES:
In September 2003, the Company issued units of convertible subordinated
notes and warrants, consisting of convertible promissory notes (the
"Notes") for an aggregate principal amount of $400,000 and warrants for
the purchase 300,000 shares of the Company's common stock at $1 per share.
The Notes bore interest at 7% per annum and were due on the earlier of
March 31, 2004 or upon the occurrence of various other events or
conditions set forth in the Notes. Under the terms of the Notes, the
holders retained the right, subject to certain exceptions, to convert all
or any part of the principal outstanding under the Notes into (i) shares
of the Company's Common Stock at a conversion price per share equal to $1
and (ii) warrants for the purchase of Company's common stock at $2.50 per
share. The conversion price was subject to adjustment in the event of a
stock split, combination or like transaction. The warrant price was
subject to adjustment in the event of a stock split, combination or like
transaction.
The Company recorded the Notes net of a discount equal to the fair value
allocated to the warrants issued of $122,390. The Notes also contained a
beneficial conversion feature, which resulted in additional debt discount
of $122,390. The beneficial conversion amount was measured using the
accounting intrinsic value, i.e. the excess of the aggregate fair value of
the common stock into which the debt is convertible over the proceeds
allocated to the security.
In October 2003, the Notes were converted into 400,000 shares of common
stock at $1 per share. The Company recognized interest expense totaling
$224,401 for the unamortized warrants and beneficial conversion feature
discount in accordance with Emerging Issues Task Force 00-27.
F-15
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2003 AND 2002
(6) COMMITMENTS AND CONTINGENCIES:
Commitments
The Company leases office facilities and equipment under noncancellable
operating leases, which require monthly payments of $6,441 and expire in
June 2004. The Company is required to pay for taxes, insurance, and
maintenance. The Company is subleasing lab space for $2,777 per month.
Rent expense was $77,202, $71,736, and $187,080 for the years ended
December 31, 2003 and 2002, and the period from August 23, 2000
(inception) to December 31, 2003, respectively.
Agreements
On December 26, 2001, the Company received the exclusive worldwide rights
and license to use certain proprietary rights from Spectrum Laboratories,
Inc. ("Spectrum") partially in exchange for 362,669 shares of common stock
(see note 8). The license grants the Company the right to use Spectrum's
technology and to exploit such rights to develop and distribute products
solely for use in the Company's liver-assist devices.
In addition, the Company entered into a manufacturing and supply agreement
with Spectrum. The agreement stipulates that the Company must contract
with Spectrum for the manufacture and supply of certain products used in
the liver-assist devices.
(7) STOCKHOLDERS' EQUITY:
Preferred Stock
The Company has 5,000,000 shares of preferred stock authorized. There are
no shares of preferred stock issued or outstanding. The board of directors
has the authority to set by resolution the particular designation,
preferences and other special rights and qualification of preferred stock.
Junior Preferred Stock
In June 2001, Arbios Technologies, Inc. issued 681,818 shares of junior
preferred stock, in exchange for $250,000 in cash, exclusive rights to
certain patents and one pending patent valued at $400,000 (see Note 3),
and future services of certain employees valued at $319,553 (see Note 4).
F-16
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2003 AND 2002
(7) STOCKHOLDERS' EQUITY, CONTINUED:
Junior Preferred Stock (Continued)
In October 2003, all issued and outstanding shares of the junior preferred
stock were converted into 681,818 shares of common stock.
Common Stock
In August 2000, Arbios Technologies, Inc. issued 5,000,000 shares of
common stock, $0.001 par value, to the Company's two officers in exchange
for $5,000 in cash.
In December 2001, Arbios Technologies, Inc. issued 362,669 shares of
common stock in exchange for future research costs valued at $550,000, an
exclusive license (see Note 8), a manufacturing and supply agreement (see
Note 8), and exclusive rights to one patent and one pending patent.
In June 2002, Arbios Technologies, Inc. issued 70,000 shares of common
stock to a Board member as compensation for services rendered valued at
$10,500.
In July 2002, Arbios Technologies, Inc. issued 999,111 shares of common
stock to investors in exchange for $149,866 in cash, or $.15 per share.
In July 2002, Arbios Technologies, Inc. issued options to purchase 18,000
shares of common stock to each of its five Board members for services
rendered. The options are exercisable at $0.15 per share. The options vest
50% in six months and 50% in 12 months from the beginning date of service
provided by the respective Board members.
In July 2002, Arbios Technologies, Inc. issued a warrant to purchase
100,000 shares of common stock to a Board member for services rendered to
the Company. The warrant is exercisable at $0.15 per share and has a
7-year life. The warrant also has conversion rights in lieu of payment of
the exercise price and is not transferable.
In January 2003, Arbios Technologies, Inc. issued 417,000 shares of common
stock and warrants to purchase 600,000 shares of common stock at an
exercise price of $1.00 per share to an investor in exchange for $250,200
in cash. The Company recognized $2,956 in stock issuance expense.
In September and October 2003, Arbios Technologies, Inc, issued 4,000,000
shares of common stock and warrants to purchase 4,000,000 shares of common
stock at an exercise price of $2.50 in exchange for $4,000,000 in cash.
The Company recognized $519,230 in stock issuance expense.
F-17
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2003 AND 2002
(7) STOCKHOLDERS' EQUITY, CONTINUED:
Common Stock (Continued)
In September 2003, convertible promissory notes totaling $400,000 were
converted into 400,000 shares of Company's common stock.
In October 2003, Arbios Technologies, Inc. entered into a reorganization
transaction wherein the shareholders of Systems retained 1,220,000 shares
of the reorganized entity after the transaction. Since Systems was treated
as the acquiree for accounting purposes, those shares were accounted for
as being issued as of that date.
Stock Option Plan
In 2001, Systems adopted the 2001 Stock Option Plan (the "Company Plan")
for the purpose of granting incentive stock options and/or non-statutory
stock options to employees, consultants, directors and others. Under the
Company Plan, the Company is authorized to grant options to purchase up to
1,000,000 shares. The Company Plan is administered by the Board of
Directors of the Company or by a committee of the Board. However, in
connection with the reorganization transaction between Systems and Arbios
Technologies, Inc. in October 2003, Systems assumed all of the 314,000
outstanding options granted by Arbios Technologies, Inc. under its
existing stock option plan and the options previously issued under that
plan were cancelled. None of the terms of the assumed options were
changed, the options assumed under the Company Plan are identical to the
options that were previously granted under the Technologies Plan.
Transactions under the Plan during the year ended December 31, 2003 and
2002 are summarized as follows:
Weighted
Stock Average
Option Exercise
Plan Price
Balance, December 31, 2001 -- $ --
Granted 90,000 $ 0.15
Canceled -- $ --
-------
Balance, December 31, 2002 90,000 $ 0.15
Granted 233,000 $ 1.00
Canceled 9,000 $ 0.15
-------
Balance, December 31, 2003 314,000 $ 0.78
=======
Options exercisable, December 31, 2003 194,000 $ 0.61
=======
F-18
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2003 AND 2002
(7) STOCKHOLDERS' EQUITY, CONTINUED:
Warrants:
As of December 31, 2003, warrants to purchase 5,050,000 shares of common
stock at prices ranging from $0.15 to $2.50 were outstanding.
All warrants are exercisable as of December 31, 2003 and expire at various
dates through 2008.
(8) RESEARCH COSTS:
On December 26, 2001, the Company received a commitment for research costs
in the amount of $550,000 from Spectrum Laboratories, Inc. ("Spectrum")
partially in exchange for 362,669 shares of common stock (See Note 6).
Spectrum was required to expend at least $137,500 per year toward the
development of the Company's liver-assist devices. The original agreement
was to expire on November 30, 2005 and stipulated the following yearly
minimum research costs expenditures by Spectrum:
Year ending December 31,
2002 $ 148,958
2003 137,500
2004 137,500
2005 126,042
------------
$ 550,000
============
In the event Spectrum expended more than the minimum annual amount in any
year, the excess was carried over to the subsequent year. For the years
ended December 31, 2003 and 2002, and the period from August 23, 2000
(inception) to December 31, 2003, the research and development costs
incurred by Spectrum was $0, respectively. The Company may repurchase a
portion of the foregoing shares for nominal consideration if less than the
specified amounts are expended by Spectrum.
In July 2002, the original agreement was amended. The Company and Spectrum
agreed that, since the prototype system had been delivered early, all
362,669 shares issued to Spectrum on December 26, 2001, were deemed fully
vested and any future obligations of $550,000 research cost commitment was
deemed fulfilled. In addition, any additional research and development
work requested from Spectrum by the Company and the cost of such work will
be negotiated in good faith before the work is initiated and that the
Company will pay for such work in 36 monthly cash installments.
Furthermore, the Company agreed that billings of $109,360, through
September 29, 2002, were due for research costs already provided, in lieu
of the original $550,000 obligation. This amount was reduced by $54,400 in
payment for the 362,669 shares previously received, and the Company shall
pay the balance of $54,960 to Spectrum in cash in monthly payments over an
18-month period starting November 1, 2002.
F-19
ARBIOS SYSTEMS, INC. AND SUBSIDIARY
(A DEVELOPMENT STAGE COMPANY)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 2003 AND 2002
(9) INCOME TAXES:
The actual tax benefits differ from the expected tax benefit computed by
applying the United States federal corporate tax rate of 34% to loss
before income taxes as follows for the years ended December 31, 2003 and
2002, and the period from August 23, 2000 (inception) to December 31,
2003:
Period from
August 23, 2000
Year Ended Year Ended (inception) to
December 31, December 31, December 31,
2003 2002 2003
--------- --------- ---------
Expected tax benefit $(301,136) $(168,226) $(553,562)
State income taxes, net of
federal benefit (49,767) (28,867) (76,191)
Other -- (20,979) (20,979)
Changes in valuation allowance 350,903 218,072 650,732
--------- --------- ---------
$ -- $ -- $ --
========= ========= =========
The following table summaries the significant components of the Company's
deferred tax asset at December 31, 2003:
December 31,
2003
Deferred tax asset arising from
net operating loss carryforward $ 650,732
Less valuation allowance (650,732)
Net deferred tax asset $ -
===============
The Company recorded a valuation allowance of 100% for its net operating
loss carryforward due to the uncertainty of its realization.
For the year ended December 31, 2003, the Company had an operating loss
carryforward of approximately $1,627,000, which begins expiring in 2016.
(10) RELATED PARTY TRANSACTION:
In 2003, the son of a director received 7,500 shares of common stock
valued at $1 per share as a finder's fee.
F-20
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 its
behalf by the undersigned, thereunto duly authorized.
ARBIOS SYSTEMS, INC.
Date: March 29, 2004 By: /s/ JACEK ROZGA, M.D., PH.D
--------------------------------------
Jacek Rozga, M.D., Ph.D,
President, and Chief Financial Officer
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 Title Date
--------- ----- ----
/s/ JACEK ROZGA, M.D., PH.D President (principal executive March 29, 2004
--------------------------------- officer) and Chief Financial
Jacek Rozga, M.D., Ph.D Officer (principal financial officer)
/s/ JOHN VIERLING, MD Chairman of the Board, and Director March 29, 2004
---------------------------------
John Vierling, MD
/s/ KRISTIN P. DEMETRIOU Director and Secretary March 29, 2004
---------------------------------
Kristin P. Demetriou
/s/ ROY EDDLEMAN Director March 29, 2004
---------------------------------
Roy Eddleman
/s/MARVIN S. HAUSMAN MD Marvin S. Director March 29, 2004
---------------------------------
Hausman MD
/s/ RICHARD W. BANK MD Director March 29, 2004
---------------------------------
Richard W. Bank MD
INDEX TO EXHIBITS
Exhibit
Number Description
------ -----------
2.1 Agreement and Plan of Reorganization, dated October 20, 2003,
between the Registrant, Arbios Technologies, Inc., HAUSA
Acquisition, Inc., Cindy Swank and Raymond Kuh (1)
3.1 Articles of Incorporation of Historical Autographs U.S.A., Inc.(2)
3.2 Certificate of Amendment of Articles of Incorporation (1)
3.3 Bylaws (2)
4.1 Revised form of Common Stock certificate
4.2 Form of Warrant for the Purchase of Shares of Common Stock issued by
the Registrant upon the assumption of the Arbios Technologies, Inc.
outstanding Warrant
10.1 Form of 2001 Stock Option Plan (2)
10.2 Facilities Lease, entered into as of June 30, 2001, by and between
Cedars-Sinai Medical Center and Arbios Technologies
10.3 Standard Multi-Tenant Office Lease, dated as of February 13, 2004,
by and between Beverly Robertson Design Plaza and Arbios Systems,
Inc.
10.4 Employee Loan-Out Agreement, entered into effective as of July 1,
2001, by and between Cedars-Sinai Medical Center and Arbios
Technologies, Inc.
10.5 Second Amendment to Employee Loan-Out Agreement, entered into
effective as of May 7, 2003, by and between Cedars-Sinai Medical
Center and Arbios Technologies, Inc.
10.6 License Agreement, entered into as of June 2001, by and between
Cedars-Sinai Medical Center and Arbios Technologies, Inc.
10.7 Spectrum Labs License Agreement
14.1 Arbios Systems, Inc. Code of Business Conduct and Ethics Adopted by
the Board of Directors on January 15, 2004
16.1 Letter on Change in Certifying Accountant (3)
21.1 List of Subsidiaries
31.1 Certification of Principal Executive Officer and Principal Financial
Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1 Certification of Principal Executive Officer and Principal Financial
Officer Pursuant to 18 U.S.C. Section 1350
-------------------------------_
(1) Previously filed as an exhibit to the Company's Current Report on
Form 8-K on October 14, 2003, which exhibit is hereby incorporated
herein by reference.
(2) Previously filed as an exhibit to the Company's Registration
Statement Form 10-SB filed April 26, 2001, which exhibit is hereby
incorporated herein by reference.
(3) Previously filed as an exhibit to the Company's Current Report on
Form 8-K on January 30, 2004, which exhibit is hereby incorporated
herein by reference.