U.S. Securities and Exchange Commission
Washington, D.C. 20549
Form 10-Q
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended September 30, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
ACT OF 1934
For the transition period from _____ to _____
Commission file number 0-27937
DRAGON PHARMACEUTICAL INC.
(Exact name of small business issuer as specified in its charter)
Florida 65-0142474
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
1055 West Hastings Street, Suite 1900
Vancouver, British Columbia
Canada V6E 2E9
(Address of principal executive offices)
(604) 669-8817 (Issuer's
telephone number)
(Former address if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12 b-2 of the Exchange act). Yes [ ] No [X]
Number of shares of common stock outstanding as of September 30, 2003:
20,359,000
ITEM 1. FINANCIAL INFORMATION
DRAGON PHARMACEUTICAL INC. & SUBSIDIARIES
Consolidated Balance Sheets
September 30, 2003 and December 31, 2002
(Expressed in U.S. Dollars)
(Unaudited - Prepared by Management)
--------------------------------------------------------------------------------
September 30, December 31,
2003 2002
----------------------------------------------------------------------------------------------------------------------------------
ASSETS
Current
Cash and short term securities $ 3,407,581 $ 4,935,766
Accounts receivable 1,287,409 949,045
Inventories 1,094,053 1,208,277
Prepaid and deposits 190,267 154,551
----------------------------------------------------------------------------------------------------------------------------------
Total current assets 5,979,310 7,247,639
Fixed assets 2,239,307 2,420,613
Due from related party - Hepatitis B vaccine project 100 100
Patent rights - related party 500,000 500,000
Licence and permit 3,062,014 3,475,740
----------------------------------------------------------------------------------------------------------------------------------
Total assets $ 11,780,731 $ 13,644,092
==================================================================================================================================
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities
Current
Bank loans $ - $ 483,162
Accounts payable and accrued liabilities 1,367,418 1,525,404
----------------------------------------------------------------------------------------------------------------------------------
Total current liabilities 1,367,418 2,008,566
----------------------------------------------------------------------------------------------------------------------------------
Commitments (Note 13)
Stockholders' Equity
Share capital
Authorized: 50,000,000 common shares at
par value of $0.001 each
Issued and outstanding: 20,359,000 common shares 20,359 20,334
Additional paid in capital 26,657,473 26,644,998
Accumulated other comprehensive (loss) (16,690) (35,011)
Accumulated deficit (16,247,829) (14,994,795)
----------------------------------------------------------------------------------------------------------------------------------
Total stockholders' equity 10,413,313 11,635,526
----------------------------------------------------------------------------------------------------------------------------------
Total liabilities and stockholders' equity $ 11,780,731 $ 13,644,092
==================================================================================================================================
The accompanying notes are an integral part of these financial statements.
2
DRAGON PHARMACEUTICAL INC. & SUBSIDIARIES
Consolidated Statements of Stockholders' Equity
(Expressed in U.S. Dollars)
(Unaudited - Prepared by Management)
--------------------------------------------------------------------------------
Accumulated
Compre- other Total
Common stock Additional hensive compre- Stock-
------------------- paid-in income Deficit hensive holders'
Shares Amount capital (loss) accumulated income equity
------------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 2001 20,331,000 $20,331 $26,624,741 - $(9,743,849) $(25,008) $16,876,215
Exercise of stock options for cash 3,000 3 1,497 - - - 1,500
Stock based compensation - - 18,760 - - - 18,760
Components of comprehensive income (loss)
- foreign currency translation - - - (10,003) - (10,003) (10,003)
- net (loss) for the year - - - (5,250,946) (5,250,946) - (5,250,946)
------------------------------------------------------------------------------------------------------------------------------------
Comprehensive (loss) $(5,260,949)
=============
Balance, December 31, 2002 20,334,000 $20,334 $26,644,998 $(14,994,795) $(35,011) $11,635,526
=============================================================================== ========================================
The accompanying notes are an integral part of these financial statements.
3
DRAGON PHARMACEUTICAL INC. & SUBSIDIARIES
Consolidated Statements of Stockholders' Equity
(Expressed in U.S. Dollars)
(Unaudited - Prepared by Management)
--------------------------------------------------------------------------------
Accumulated
Compre- other Total
Common stock Additional hensive compre- Stock-
--------------------- paid-in income Deficit hensive holders'
Shares Amount capital (loss) ccumulated income equity
------------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 2002 20,334,000 $20,334 $26,644,998 - $(14,994,795) $(35,011) $11,635,526
Exercise of stock options for cash 25,000 25 12,475 12,500
Components of comprehensive income (loss)
- foreign currency translation - - - 18,321 - 18,321 18,321
- net (loss) for the year - - - (1,253,034) (1,253,034) - (1,253,034)
------------------------------------------------------------------------------------------------------------------------------------
Comprehensive (loss) $(1,234,713)
============
Balance, September 30, 2003 20,359,000 $20,359 $26,657,473 $(16,247,829) $(16,690) $10,413,313
================================================================================ ======================================
The accompanying notes are an integral part of these financial statements.
4
DRAGON PHARMACEUTICAL INC. & SUBSIDIARIES
Consolidated Statement of Operations
(Expressed in U.S. Dollars)
(Unaudited - Prepared by Management)
--------------------------------------------------------------------------------
Three Months Three Months Nine Months Nine Months
Ended Ended Ended Ended
September 30, September 30, September 30, September 30,
2003 2002 2003 2002
------------------------------------------------------------------------------------------------------------------------------------
Sales $ 1,151,646 $ 3,777,326 $2,823,654 $ 6,176,292
Cost of sales 353,998 460,987 882,267 825,977
------------------------------------------------------------------------------------------------------------------------------------
Gross profit 797,648 3,316,339 1,941,387 5,350,315
Selling, general and
administrative expenses (861,161) (1,157,646) (2,553,462) (3,570,684)
Depreciation of fixed assets and
amortization of licence and
permit and land-use right (186,674) (186,580) (555,869) (548,687)
Net write off of land-use right and fixed assets - - - (1,225)
Research expenses (25,884) (350,003) (25,884) (2,121,370)
New market development (6,577) (9,816) (30,291) (172,139)
Provision for doubtful debts (3,257) (5,533) (44,668) (86,082)
Loan interest expense (862) (6,586) (5,251) (62,601)
Stock-based compensation - - - -
------------------------------------------------------------------------------------------------------------------------------------
Operating income (loss) (286,766) 1,600,175 (1,274,038) (1,212,473)
Interest income 4,185 26,224 21,004 76,126
------------------------------------------------------------------------------------------------------------------------------------
Net income (loss) for the period $ (282,581) $ 1,626,399 $ (1,253,034) $ (1,136,347)
====================================================================================================================================
(Loss) per share
Basic and diluted $ (0.01) $ 0.08 $ (0.06) $ (0.05)
====================================================================================================================================
Weighted average number of
common shares outstanding
Basic and diluted 20,344,652 20,334,000 20,337,590 20,334,000
====================================================================================================================================
The accompanying notes are an integral part of these financial statements.
5
DRAGON PHARMACEUTICAL INC. & SUBSIDIARIES
Consolidated Statements of Cash Flows
Nine Months Ended September 30, 2003 and 2002
(Expressed in U.S. Dollars)
(Unaudited - Prepared by Management)
--------------------------------------------------------------------------------
2003 2002
-----------------------------------------------------------------------------------------------------------------------------
Cash flows from (used in) operating activities
Net (loss) for the year $ (1,253,034) $ (1,136,347)
Adjustments to reconcile net loss to
net cash used in operating activities:
- depreciation of fixed assets and amortization of
licence and permit 719,100 548,686
- net write off of land-use right and fixed assets - 1,225
- provision for doubtful debts 44,668 86,082
Changes in non-cash working capital items:
- accounts receivable (383,032) (2,630,750)
- inventories 114,224 (1,833)
- prepaid expenses and deposits (35,716) (13,686)
- accounts payable and accrued liabilities (157,987) (35,920)
- management fees payable - related parties - (134,000)
-----------------------------------------------------------------------------------------------------------------------------
(951,777) (3,316,543)
-----------------------------------------------------------------------------------------------------------------------------
Cash flows used in investing activities
Purchase of fixed assets (123,732) (140,626)
(Increase) decrease in restricted funds 510,000 2,629,955
Acquisition of Patent rights - (500,000)
Acquisition of balance of Huaxin - (1,400,000)
Refundable investment deposits - 400,000
Recovery from Hepatitis B Vaccine Project - 500,000
-----------------------------------------------------------------------------------------------------------------------------
386,268 1,489,329
-----------------------------------------------------------------------------------------------------------------------------
Cash flows from financing activities
Loan proceeds (483,162) (2,404,055)
Proceeds from issuance of shares 12,500 1,500
-----------------------------------------------------------------------------------------------------------------------------
(470,662) (2,402,555)
-----------------------------------------------------------------------------------------------------------------------------
Foreign exchange (gain) loss on cash
held in foreign currency 17,986 (6,132)
-----------------------------------------------------------------------------------------------------------------------------
Decrease in cash and cash equivalents (1,018,185) (4,235,901)
Cash and cash equivalents, beginning of period 4,425,766 6,306,129
-----------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents, end of period $ 3,407,581 $ 2,070,228
=============================================================================================================================
The accompanying notes are an integral part of these financial statements.
6
DRAGON PHARMACEUTICAL INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
September 30, 2003
(Expressed in U.S. Dollars)
(Unaudited - Prepared by Management)
--------------------------------------------------------------------------------
1. Basis of Presentation
The accompanying unaudited interim consolidated balance sheets, statements
of operations and cash flows reflected all adjustments, consisting of
normal recurring adjustments and other adjustments, that are, in the
opinion of management, necessary for a fair presentation of the financial
position of the Company, at June 30 , 2003, and the results of operations
and cash flows for the interim periods ended June 30, 2003 and 2002.
The accompanying unaudited consolidated financial statements have been
prepared in accordance with the instruction for Form 10-Q pursuant to the
rules and regulations of Securities and Exchange Commission and, therefore,
do not include all information and notes normally provided in audited
financial statements and should be read in conjunction with the Company's
consolidated financial statements for the year ended December 31, 2002
included in the annual report previously filed on Form10-K.
The results of operations for the interim periods presented are not
necessarily indicative of the results to be expected for the full year.
2. Restricted Funds
---------------------------------------------------------------------------------------------------------
September 30, December 31,
2003 2002
---------------------------------------------------------------------------------------------------------
Cash and cash equivalents $ 3,407,581 $ 4,425,766
Term deposits held as collateral against bank loans - 510,000
---------------------------------------------------------------------------------------------------------
Cash and short term securities $ 3,407,581 $ 4,935,766
=========================================================================================================
3. Accounts Receivable
---------------------------------------------------------------------------------------------------------
September 30, December 31,
2003 2002
---------------------------------------------------------------------------------------------------------
Trade receivables $ 1,526,776 $ 1,141,896
(323,694) (279,018)
Allowance for doubtful accounts
---------------------------------------------------------------------------------------------------------
1,203,082 862,878
84,327 86,167
Other receivables
---------------------------------------------------------------------------------------------------------
$ 1,287,409 $ 949,045
=========================================================================================================
7
DRAGON PHARMACEUTICAL INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
September 30, 2003
(Expressed in U.S. Dollars)
(Unaudited - Prepared by Management)
--------------------------------------------------------------------------------
4. Inventories
---------------------------------------------------------------------------------------------------------
September 30, December 31,
2003 2002
---------------------------------------------------------------------------------------------------------
Raw materials $ 163,076 $ 135,710
35,406 88,857
Finished goods
895,570 983,710
Work in progress
---------------------------------------------------------------------------------------------------------
$ 1,094,053 $ 1,208,277
=========================================================================================================
5. Fixed Assets
-------------------------------------------- --------------------------------------------------------------
September 30, 2003
--------------------------------------------------------------
Accumulated Net book
Cost depreciation value
-------------------------------------------- ------------------- ---------------------- -------------------
Motor vehicles $ 140,406 $ 69,668 $ 70,738
Office equipment and furniture 414,240 202,353 211,887
Leasehold improvements 1,066,884 425,792 641,092
Production and lab equipment 2,148,949 833,358 1,315,591
-------------------------------------------- ------------------- ---------------------- -------------------
$ 3,770,479 $ 1,531,171 $2,239,308
============================================ =================== ====================== ===================
-------------------------------------------- --------------------------------------------------------------
December 31, 2002
--------------------------------------------------------------
Accumulated Net book
Cost depreciation value
-------------------------------------------- ------------------- ---------------------- -------------------
Motor vehicles $ 140,388 $ 50,103 $ 90,285
Office equipment and furniture 385,462 144,199 241,263
Leasehold improvements 1,065,313 336,503 728,810
Production and lab equipment 2,052,260 692,005 1,360,255
-------------------------------------------- ------------------- ---------------------- -------------------
$ 3,643,423 $ 1,222,810 $2,420,613
============================================ =================== ====================== ===================
For the nine months ended September 30, 2003, depreciation expenses
totalled $305,038(2002 - $277,260). The majority of fixed assets are
located in China.
8
DRAGON PHARMACEUTICAL INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
September 30, 2003
(Expressed in U.S. Dollars)
(Unaudited - Prepared by Management)
--------------------------------------------------------------------------------
6. Due from Related Party - Hepatitis B Vaccine Project
----------------------------------------------------------------- -------------------- --------------------
September 30, December 31,
2003 2002
----------------------------------------------------------------- -------------------- --------------------
Hepatitis B Vaccine Project $4,000,000 $4,000,000
Less : Repayment (500,000) (500,000)
Valuation allowance (3,499,900) (3,499,900)
----------------------------------------------------------------- -------------------- --------------------
$ 100 $ 100
================================================================= ==================== ====================
(a) Pursuant to an agreement dated October 6, 2000, the Company paid
$4,000,000 for the acquisition of certain assets and technology
relating to the production of Hepatitis B vaccine. The vendor of the
transaction was a company named Alphatech Bioengineering Limited,
incorporated in Hong Kong, with two shareholders who are both
directors of the Company.
(b) Pursuant to an amended agreement dated June 5, 2001, in the event that
the Company failed to find a joint venture partner, establish a
production facility for the vaccine project or sell the project to a
third party within nine months from the date of this amended
agreement, Dr. Longbin Liu, a director of the Company (and President
and CEO of the Company at the time of the transaction) and one of the
shareholders of Alphatech, demanded to repurchase the project from the
Company. The repurchase price of $4.0 million is payable as follows:
(i) $500,000 at the date of repurchase; and
(ii) the balance to be paid within eighteen (18) months of the date of
repurchase with interest at 6% per annum. The interest will be
accrued from six months after the date of repurchase.
The Company decided not to pursue the project and Dr. Liu has repurchased
the project on the agreed terms.
The amount owing by Dr. Liu to the Company is unsecured. The Company has
chosen, given the significant amount involved and the lack of security, to
conservatively value the amount owing and has set up a provision for the
full amount, less a nominal amount of $100. The amount owing was not repaid
on the due date and the Company is pursuing collection.
9
DRAGON PHARMACEUTICAL INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
September 30, 2003
(Expressed in U.S. Dollars)
(Unaudited - Prepared by Management)
--------------------------------------------------------------------------------
7. Patent Rights - Related Party
Pursuant to an agreement dated January 14, 2002, the Company entered into a
Patent Development Agreement with the Dr. Longbin Liu, a director of the
Company (and President and CEO of the Company at the time of the
transaction) and a company controlled by the Dr. Liu entitling the Company
to acquire one patent filed in the United States related to the discovery
of a new gene or protein. Consideration for the right to acquire the patent
was payment of US$500,000 (paid) and the issuance of warrants to acquire
1,000,000 common shares of the Company at a price of $2.50 per share for a
period of five years. The patent may be acquired prior to January 14, 2005
at no additional cost other than the reasonable legal costs of obtaining
the patent.
The issuance and exercise of the warrants to acquire 1,000,000 common stock
of the Company is contingent upon the success of the patent applications.
The US$500,000 will be refunded to the Company if no patent applications
have been filed by January 14, 2005.
8. Licence and permit
---------------------------------------------------------------------------
September 30, December 31,
2003 2002
---------------------------------------------------------------------------
Original cost $,5,012,582 $5,012,582
Accumulated amortization 1,950,568 1,536,842
---------------------------------------------------------------------------
$ 3,062,014 $3,475,740
===========================================================================
Amortization expense for the licence and permit for the nine months ended
September 30, 2003 was $414,062 (2002 - $414,024)
The estimated amortization expense for each of the five succeeding fiscal
years is as follows:
2003 (balance of the year) $138,000
2004 $552,000
2005 $552,000
2006 $552,000
2007 $552,000
The above amortization expense forecast is an estimate. Actual amounts of
amortization expense may differ from estimated amounts due to additional
intangible asset acquisitions, changes in foreign currency exchange rates,
impairment of intangible assets, accelerated amortization of licence and
permit, and other events.
10
DRAGON PHARMACEUTICAL INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
September 30, 2003
(Expressed in U.S. Dollars)
(Unaudited - Prepared by Management)
--------------------------------------------------------------------------------
9. Bank Loans
-------------------------------------------------------------------------------------------------------------
September 30, December 31,
2003 2002
-------------------------------------------------------------------------------------------------------------
RMB 4,000,000, bearing interest at 3.394% per annum and due on February 26,
2003. The loan was secured by the term deposit. $ - $ 483,162
-------------------------------------------------------------------------------------------------------------
Total $ - $ 483,162
=============================================================================================================
The weighted average interest rate was 3.394% and 5.265% for the nine
months ended September 30, 2003 and 2002.
10. Income Taxes
(a) Kailong and Huaxin are subject to income taxes in China on its taxable
income as reported in its statutory accounts at a tax rate in
accordance with the relevant income tax laws.
Allwin and Biotrade are not subject to income taxes. As at September
30, 2003, $3.7 million of unremitted earnings attributable to
international companies were considered to be indefinitely invested.
No provision has been made for taxes that might be payable if these
earnings were remitted to the United States. The company's intention
is to reinvest these earnings permanently or to repatriate the
earnings when it is tax effective to do so. It is not practicable to
determine the amount of incremental taxes that might arise were these
earnings to be remitted.
As at September 30, 2003, the company has estimated losses, for tax
purposes, totalling approximately $8,200,000, which may be applied
against future taxable income. The potential tax benefits arising from
these losses have not been recorded in the financial statements. The
Company evaluates its valuation allowance requirements on an annual
basis based on projected future operations. When circumstances change
and this causes a change in management's judgement about the
realizability of deferred tax assets, the impact of the change on the
valuation allowance is generally reflected in current income.
(b) The tax effect of temporary differences that give rise to the
Company's deferred tax asset (liability) are as follows:
---------------------------------------------------------------------------------------------------
September 30, December 31,
2003 2002
---------------------------------------------------------------------------------------------------
Tax losses carried forward $ 2,790,000 $ 2,560,000
Stock-based compensation 6,400 6,400
Provision for amount owing from Hepatitis B Vaccine
Project 1,118,000 1,118,000
Less: valuation allowance (3,914,400) (3,684,400)
---------------------------------------------------------------------------------------------------
$ - $ -
===================================================================================================
11
DRAGON PHARMACEUTICAL INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
September 30, 2003
(Expressed in U.S. Dollars)
(Unaudited - Prepared by Management)
--------------------------------------------------------------------------------
10. Income Taxes (continued)
A reconciliation of the federal statutory income tax to the Company's
effective income tax rate, for the three months ended September 30,
2003 and 2002 are as follows:
----------------------------------------------------------------------
2003 2002
----------------------------------------------------------------------
Federal statutory income tax rate 34% 34%
Benefit of loss carry forward (34%) (34%)
----------------------------------------------------------------------
Effective income tax rate - -
======================================================================
11. Stock Options and Warrants
(a) Stock Options Plans
During the six months ended June 30, 2003 the Company granted options
to purchase 500,000 shares at a price of $0.68 per share, at a time
when the market price was $0.48 per share.
The following is a summary of the employee stock option information
for the period ended September 30, 2003:
------------------------------------------------------------------------------------------------
Weighted Average
Shares Exercise Price
------------------------------------------------------------------------------------------------
Options outstanding at December 31, 2001 2,969,500 $ 1.92
Granted 920,000 $ 1.70
Forfeited (598,500) $ 2.30
Exercised (3,000) $ 0.50
------------------------------------------------------------------------------------------------
Options outstanding at December 31, 2002 3,288,000 $ 1.82
Granted 500,000 $ 0.68
Forfeited (296,000) $ 1.67
Exercised (25,000) $ 0.50
------------------------------------------------------------------------------------------------
Options outstanding at September 30, 2003 3,467,000 $ 1.68
================================================================================================
12
DRAGON PHARMACEUTICAL INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
September 30, 2003
(Expressed in U.S. Dollars)
(Unaudited - Prepared by Management)
--------------------------------------------------------------------------------
11. Stock Options and Warrants (continued)
Options Outstanding Options Exercisable
------------------------------------------------------------------- ----------------------------------
Weighted
Average Weighted Weighted
Range of Remaining Average Average
Exercise Number Contractual Exercise Number Exercise
Prices Outstanding Life Price Exercisable Price
------------------------------------------------------------------- ----------------------------------
$0.01 - $1.00 1,716,500 1.69 $ 0.55 1,566,500 $ 0.54
$1.01 - $2.00 440,500 3.57 $ 1.70 440,500 $ 1.70
$2.01 - $3.00 60,000 1.11 $ 2.50 60,000 $ 2.50
$3.01 - $4.00 1,275,000 2.12 $ 3.13 1,275,000 $ 3.13
----------- ----------- --------- ---------- --------
3,467,000 2.08 $ 1.68 3,342,000 $ 1.72
=========== =========== ========= ========== ========
The Company accounts for its stock-based compensation plan in
accordance with APB Opinion No. 25, under which no compensation is
recognized in connection with options granted to employees except if
options are granted with a strike price below fair value of the
underlying stock. The Company adopted the disclosure requirements SFAS
No. 123, Accounting for Stock-Based Compensation. Accordingly, the
Company is required to calculate and present the pro forma effect of
all awards granted. For disclosure purposes, the fair value of each
option granted to an employee has been estimated as of the date of
grant using the Black-Scholes option pricing model with the following
assumptions: risk-free interest rate of 5.5%, dividend yield 0%,
volatility of 90%, and expected lives of approximately 0 to 5 years.
Based on the computed option values and the number of the options
issued, had the Company recognized compensation expense, the following
would have been its effect on the Company's net loss:
------------------------------------------------------------ -------------------- --------------------
September 30, September 30,
2003 2002
------------------------------------------------------------ -------------------- --------------------
Net (loss) for the period:
- as reported $(1,253,034) $(1,136,347)
- pro-forma $(1,253,034) $(1,136,347)
------------------------------------------------------------ -------------------- --------------------
Basic and diluted (loss) per share:
- as reported $(0.06) $(0.05)
- pro-forma $(0.06) $(0.05)
------------------------------------------------------------ -------------------- --------------------
13
DRAGON PHARMACEUTICAL INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
September 30, 2003
(Expressed in U.S. Dollars)
(Unaudited - Prepared by Management)
--------------------------------------------------------------------------------
11. Stock Options and Warrants (continued)
(b) Warrants
Share purchase warrants outstanding as at September 30, 2003:
Number Underlying Exercise Price
of Warrants Shares Per Share Expiry Date
----------- ------ --------- -----------
50,000 50,000 $1.70 November 15, 2004
1,000,000* 1,000,000 $2.50 January 14, 2007
* See Note 7
12. Related Party Transactions
(a) The Company incurred the following expenses to a director (2002: two
directors) of the Company:
---------------------------------------------------------------------------
September 30, September 30,
2003 2002
---------------------------------------------------------------------------
Management fees $ 40,000 $172,500
===========================================================================
(b) Pursuant to an agreement dated January 14, 2002, the Company entered
into a Project Development Agreement with Dr. Longbin Liu ("Dr. Liu"),
a director of the Company (and President and CEO of the Company at the
time of the transaction) to continue the research and development of
G-CSF and Insulin for the Company. The Company will make payment for
the development of G-CSF as follows:
(i) US$500,000 to be provided at the commencement of the research in
the G-CSF Project (paid);
(ii) US$500,000 to be provided when cell-line and related technology
is established and animal experimentation commences in the G-CSF
Project; and
(iii)US$300,000 to be provided when a permit for clinical trials for
G-CSF has been issued by the State Drug Administration of China
("SDA"); and
(iv) US$200,000 to be provided when a new drug license for G-CSF is
issued to Dragon by the SDA.
(v) US$500,000 to be paid as a bonus if the SDA issues the new drug
license for G-CSF to Dragon before January 14, 2005.
14
DRAGON PHARMACEUTICAL INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
September 30, 2003
(Expressed in U.S. Dollars)
(Unaudited - Prepared by Management)
--------------------------------------------------------------------------------
12. Related Party Transactions (continued)
The Company will make payment for the development of Insulin as
follows:
(i) US$750,000 to be provided by at the commencement of the research
in the Insulin Project (paid);
(ii) US$750,000 to be provided when cell-line and related technology
is established and animal experimentation commences in the
Insulin Project (paid);
(iii)US$300,000 to be provided when a permit for clinical trials for
Insulin has been issued by the SDA;
(iv) US$200,000 to be provided when a new drug license for Insulin is
issued to Dragon by the SDA; and
(v) US$500,000 to be paid as a bonus if the SDA issues the new drug
license for Insulin to Dragon before January 14, 2005.
For both the G-CSF and Insulin Projects:
(i) If the Company elects to cease development of the project it will
forfeit any payments made and lose ownership of the Project, but
it will not be obligated to make any further payments toward the
Project;
(ii) if an application for permit for clinical trials is not submitted
within three years with respect to the G-CSF Project or four
years with respect to the Insulin Project or if the SDA rejects
the Projects for technical or scientific reasons or If
development of the Project is terminated by Dr. Liu, then Dr. Liu
will refund to the Company all amounts paid, without interest or
deduction, with respect to the Project within six months.
As at June 30, 2003, the Company has paid a total of $1,500,000 and
$500,000 towards the Insulin and G-CSF Projects, respectively. The
Company has paid an additional $100,000 to a company controlled by Dr.
Liu to produce Insulin samples for drug registration purposes.
(c) see Notes 6 and 7 also.
15
DRAGON PHARMACEUTICAL INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements
September 30, 2003
(Expressed in U.S. Dollars)
(Unaudited - Prepared by Management)
--------------------------------------------------------------------------------
13. Commitments
The Company has entered into operating lease agreements with respect to
Huaxin's production plant in Nanjing, China for an amount of RMB 2,700,000
(US$326,200) per annum until June 11, 2009, and the Company's
administrative offices in Vancouver for an amount escalating from
CDN$200,000 to CDN$230,000 (US$136,000 to US$157,000) per annum until March
31, 2007. Minimum payments required under the agreements are as follows:
2003 $ 117,733
2004 487,813
2005 489,053
2006 492,771
2007 368,136
2008 - 2009 470,904
----------------------------------------------
Total $2,426,410
==============================================
14. Segmented Information
The Company operates exclusively in the biotech sector. The Company's
assets and revenues are distributed as follows:
September 30, 2003 December 31,2002
---------------------------------------------------------------------------
ASSETS
North America $3,225,045 $4,144,668
China 7,624,810 9,020,882
Others 930,876 478,542
---------------------------------------------------------------------------
Total $11,780,731 $13,644,092
===========================================================================
---------------------------------------------------------------------------
Nine months ended Nine months ended
September 30, 2003 September 30, 2002
---------------------------------------------------------------------------
REVENUE
North America $ - $ -
China 1,773,709 2,097,292
Others 1,049,945 4,079,000
---------------------------------------------------------------------------
Total $ 2,823,654 $ 6,176,292
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15. Comparative Figures
Certain 2002 comparative figures have been reclassified to conform to the
financial statement presentation adopted for 2003.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discusses the Company's financial condition and results of
operations based upon the Company's consolidated financial statements which have
been prepared in accordance with generally accepted accounting principles. It
should be read in conjunction with the Company's financial statements and the
notes thereto and other financial information included in the Company's Form
10-K for the fiscal year ended December 31, 2002.
OVERVIEW
The Company (or "Dragon") was formed on August 22, 1989, under the name First
Geneva Investment Inc. First Geneva Investment's business was to evaluate
businesses for possible acquisition. On July 28, 1998, First Geneva Investment
entered into a share exchange agreement with Allwin Newtech. Allwin Newtech was
formed in 1998 for the purpose of developing and marketing pharmaceutical drugs
for sale in China. Prior to the acquisition of Allwin Newtech, First Geneva
Investment had no operations. On September 21, 1998, First Geneva Investment
changed its name to Dragon Pharmaceutical Inc.
On July 27, 1999, Dragon acquired a 75% interest in Nanjing Huaxin
Bio-pharmaceutical Co. Ltd. ("Huaxin"), which manufactures EPO in China. The
Company increased the efficiencies in the production of EPO and successfully
achieved commercial production during the last quarter of calendar 1999. In
January 2002 the Company purchased the balance of Huaxin for $1,400,000.
On September 6, 2000, Dragon incorporated Allwin Biotrade Inc. ("Biotrade").
Biotrade was incorporated for the purpose of marketing and distributing
biopharmaceutical products outside China. On September 15, 2000, Dragon
incorporated Dragon Pharmaceutical (Canada) Inc. ("Dragon Canada"). Dragon
Canada was incorporated for the purpose of researching and developing new
biopharmaceutical products.
During the third quarter, the Company reviewed all facets of its EPO production
and decided not to continue with the EPO production using bioreactors. As a
result of our review, the Company doubled the capacity of the EPO production
using roller bottle in order to fulfill demand in China and the developing
countries. In addition, the Company has undertaken to obtain more data on the
EPO cell line using roller bottle in accordance with the legislated requirements
in Europe and the United States. This will upgrade our registration documents
and positively differentiate Dragon from other low price EPO producers in
developing countries where the Company, through its licensees, meets tough
competition. These developing countries requires more documentation regarding
the safety of the products.
The Company has contracted with a European Institute of Biotechnology, that may
develop a high yield proprietary cell line and production process technology for
the Company. Product from this most advanced technology available today will be
used by the Company to enter the European market, once certain competitor's
patents expire.
17
RESULTS OF OPERATIONS
REVENUES. Revenue is generated from the sale of EPO in China by Huaxin and
throughout the developing world by Biotrade. Revenue for the three-month period
ending September 30, 2003 was $1,151,646 compared to $3,777,326 for the
three-month period ending September 30, 2002. Sales in and outside of China were
$742,467 and $409,179, respectively during the three-month period ending
September 30, 2003. Sales during the three-month period ending September 30,
2002 were $745,326 in China and $3,032,000 outside of China. The overseas sales
during the three-month period ending September 30, 2002 included delivery of a
$3,000,000 bulk order to be used by the purchaser for new drug research and
development. Cost of sales for the three-months ended September 30, 2003 of
$353,998 is attributed to the production costs of the pharmaceutical products.
The cost of sales for the three-months ended September 30, 2002 was $460,987.
The gross profit margin was 69% for the three-month period ending September 30,
2003 and 88% for the three-month period ended September 30, 2002. The profit
margin decreased during the three months ended September 30, 2003 because the
Company decided to sell and sold some product with short-term expiry dates at a
reduced price and because there was not a large bulk order in the current
periodRevenue for the nine-month period ending September 30, 2003 was $2,823,654
compared to $6,176,292 for the nine-month period ending September 30, 2002.
Sales in and outside of China were $1,773,708 and $1,049,946, respectively
during the nine-month period ending September 30, 2003. Sales during the
nine-month period ending September 30, 2002 were $2,097,292 in China and
$4,079,000 outside of China. The overseas sales during the nine-month period
ending September 30, 2002 included delivery of a $3,700,000 bulk order to be
used by the purchaser for new drug research and development. Interest income is
related primarily to interest earned on cash received from the private placement
of common stock received during the third quarter of 2001. Interest income for
the three-months period ended September 30, 2003 was $4,185 compared to $26,224
for the three-month period ended September 30, 2002. Interest income for the
nine-months period ended September 30, 2003 was $21,004 compared to $76,126 for
the nine-month period ended September 30, 2002.
Interest income has decreased as interest rates have declined and as the cash
balance has decreased to fund the Company's operations.
EXPENSES. Total operating expenses for the three-months ended September 30, 2003
were $1,084,414. The major expenses incurred in the third quarter of 2003 were
selling expenses of $368,380 representing 34% of total expenses. The remaining
major expense items are represented by administrative expenses.
Significant operating expenses for the three-months ended September 30, 2003
included rent of $68,680, salaries and benefits of $204,960, $42,964 in travel
costs and legal fees of $47,620. No management fees were paid to directors for
services during the third quarter of 2003.
Other significant expenses for the third quarter include the depreciation of
fixed assets and amortization of license and permit of $186,674.
Comparatively, total operating expenses for the three-months ended September 30,
2002 were $1,716,164. The major expenses incurred in the third quarter of 2002
were research and development expenses of $350,000 and the selling expenses of
$459,199 representing 20% and 27% of total expenses, respectively.
Administrative expenses represent the remaining major expense items.
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Significant operating expenses for the three-months ended September 30, 2002
included consulting fees of $130,535, loan interest of $6,586, rent of $121,375,
salaries and benefits of $143,278, $90,017 in travel costs and management fees
of $76,451. Management fees include $57,500 incurred to two directors for
services during the third quarter of 2002.
Other significant expenses for the third quarter of 2002 include the
depreciation of fixed assets and amortization of license and permit and land-use
rights of $186,580.
Total operating expenses for the nine-months ended September 30, 2003 were
$3,215,425. The major expense incurred in the nine-months ended September 30,
2003 was selling expense of $1,161,719 representing 36% of total expenses. The
remaining expense items are primarily administrative expenses.
Significant operating expenses for the nine-months ended September 30, 2003
included rent of $280,796, salaries and benefits of $594,938, $143,357 in travel
costs and a bad debts provision of $44,668. Management fees of $40,000 were paid
to a director for services during the nine-months ended September 30, 2003.
Other significant expenses for the nine-months ended September 30, 2003 include
the depreciation of fixed assets and amortization of license and permit of
$555,869.
Comparatively, total operating expenses for the nine-months ended September 30,
2002, were $6,562,788. The major expenses incurred in the nine-months ended
September 30, 2002 were research and development expenses of $2,121,370 and the
selling expenses of $1,410,306 representing 32% and 21% of total expenses,
respectively. Administrative expenses represent the remaining expense items.
Significant operating expenses for the nine-months ended September 30, 2002
included bad debt write offs of $86,082, consulting fees of $441,815, loan
interest of $62,601, rent of $292,767, salaries and benefits of $409,234,
$352,507 in travel costs and management fees of $1,209,087. Management fees
include $172,500 paid to two directors for services during the nine-months ended
September 30, 2002.
Other significant expenses for the second half of 2002 include the depreciation
of fixed assets of and amortization of license and permit and land-use rights of
$548,687 and new market development of $172,139.
Overall, expenditures have decreased in 2003 from 2002 levels as the Company has
streamlined operations, closed its Beijing and Hong Kong representative offices
and diligently pursued cutting costs in all areas, where practical.
NET AND COMPREHENSIVE LOSS. Dragon had a net loss and a comprehensive loss of
$282,581 for the three-month period ending September 30, 2003 compared to income
of $1,626,399 for the same period last year.
The Company's net and comprehensive loss of $1,253,034 for the nine-month period
ending September 30, 2003 compared to $1,136,347 for the same period last year.
19
DUE FROM RELATED PARTY - HEPATITIS B VACCINE PROJECT. Dr. Longbin Liu exercised
his right to repurchase the Hepatitis B vaccine project from the Company for the
original purchase price of $4 million, of which $500,000 has been paid and the
balance of $3.5 million, plus interest accruing at 6% per annum from September
2002, was due September 5, 2003. Dr. Liu paid $500,000 at the time of the
repurchase but did not pay the balance of $3.5 million plus accrued interest,
due September 5, 2003.
The Company fully intends to pursue collection of the full amount owing and has
commenced legal action. The Board of Directors has removed Dr. Liu as Chairman
of the Board of Directors and has demanded that he step down as a Director of
the Company. Dr. Liu has declined to step down as a Director at this time.
BASIC AND DILUTED NET LOSS PER SHARE
The Company's net loss per share has been computed by dividing the net loss for
the period by the weighted average number of shares outstanding during
three-month and nine-month periods ended September 30, 2003. The loss per share
for the three-month period ended September 30, 2003 was $0.01 and the loss per
share for the nine-month period ended September 30, 2003 was $0.06. Common stock
issuable upon the exercise of common stock options and common stock warrants
have been excluded from the net loss per share calculations as their inclusion
would be anti-dilutive.
LIQUIDITY AND CAPITAL RESOURCES
Dragon is a development stage pharmaceutical and biotechnological company that
has commenced the manufacture and marketing of pharmaceutical products in China
through its 100% equity interest in Nanjing Huaxin Bio-pharmaceuticals Ltd.
Previously, the Company has raised funds through equity financings to fund its
operations and to provide working capital. The Company may finance future
operations through additional equity financings.
As of September 30, 2003, the Company had $3,407,581 in cash available. This
cash, the $1,287,409 in accounts receivable and anticipated sales will be used
to fund the ongoing operations and research and development. Working capital was
$4,611,892 at September 30, 2003.
During the nine-months ended September 30, 2003, the Company incurred losses of
$1,253,034 and the Company will continue to incur losses until sales for its
products increase. The Company will continue to fund its operations through
working capital.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS
The Company is exposed to market risk, primarily related to foreign exchange.
The Company maintains its accounting records in their functional currencies
(i.e., U.S. dollars, Renminbi Yuan, and Canadian dollars respectively). They
translate foreign currency transactions into their functional currency in the
following manner.
At the transaction date, each asset, liability, revenue and expense is
translated into the functional currency by the use of the exchange rate in
effect at that date. At the period end, monetary assets and liabilities are
translated into the functional currency by using the exchange rate in effect at
that date. The resulting foreign exchange gains and losses are included in
operations.
20
The following table sets forth the percentage of the Company's administrative
expense by currency for the years ended December 31, 2001 and 2002 and the
nine-months ended September 30, 2003 and 2002.
By Currency
December 31, December 31,
2001 2002
U.S. Dollar 31% 27%
Canadian Dollar 12% 46%
Renminbi Yuan 57% 27%
Total 100% 100%
September 30, September 30,
2002 2003
U.S. Dollar 26% 12%
Canadian Dollar 47% 64%
Renminbi Yuan 27% 24%
Total 100% 100%
Such administrative expense by currency may change from time to time. Further,
the Company incurred expenses in China of $1,867,597 and $1,983,450 for the
nine-months ended September 30, 2003 and 2002, respectively, all of which were
paid in RMB.
The Company has not entered into any material foreign exchange contracts to
minimize or mitigate the effects of foreign exchange fluctuations on the
Company's operations. The Company exchanges Canadian dollars to fund its Chinese
operations. Based on prior years, the Company does not believe that it is
subject to material foreign exchange fluctuations. However, no assurance can be
given that this will not occur in the future.
ITEM 4. CONTROLS AND PROCEDURES
We carried out an evaluation, under the supervision and with the participation
of our management, including our Executive Officer and Chief Financial Officer,
of the effectiveness of the design and operation of our disclosure controls and
procedures (as defined by Exchange Act Rule 13a-15(e)) as of the end of our
first fiscal quarter pursuant to Exchange Act Rule 13a-15(b). Based upon that
evaluation, our Chief Executive Officer and Chief Financial Officer concluded
that our disclosure controls and procedures are effective in ensuring 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 the Securities and Exchange Commission's rules and
forms.
21
There have been no changes in our internal control over financial reporting
identified in connection with our evaluation as of the end of the first fiscal
quarter that occurred during such quarter that have materially affected, or are
reasonably likely to materially affect, our internal control over financial
reporting.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Dragon Pharmaceutical Inc. v. Longbin Liu, Supreme Court of British
Columbia, Canada, No. S036057, filed November 10, 2003. On November 2003, we
filed a complaint against our Director and former Chairman for payment of
$3,500,000, plus interest calculated at 6% per annum, due on September 5, 2003,
pursuant to the terms of the Acquisition Agreement related to Hepatitis B
Vaccine Project entered into by the Company and the defendant on October 6,
2000, as amended on June 5, 2001. The Company is currently in the process of
serving the complaint against the defendant.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None
ITEM 5. OTHER INFORMATION.
None
ITEM 6. EXHIBITS AND REPORTS ON FROM 8-K.
(a) Exhibits.
Exhibit No.
31.1 Certification by the Principal Executive Officer Pursuant to Section
302 of the Sarbanes-Oxley Act
31.2 Certification by the Principal Accounting Officer Pursuant to Section
302 of the Sarbanes-Oxley Act
32 Certification by the Principal Executive and Financial Officers
Pursuant to Section 906 of the Sarbanes-Oxley Act
(b) Reports on Form 8K.
22
Signatures
In accordance with the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
DRAGON PHARMACEUTICAL INC.
(registrant)
Dated: November 14, 2003 /S/ Matthew Kavanagh
----------------------------------
Matthew Kavanagh
Director of Finance and Corporate
Compliance and Corporate Secretary
(duly authorized Officer and
Principal Financial Officer)
23