1

                                                               HALE AND DORR LLP
                                                                Draft of 3/27/98
                                                                ----------------UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON,Washington, D.C. 20549

                                    FORM 10-K

            For annual and transitional reports pursuant to sections
               13 or 15(d) of the Securities Exchange Act of 1934

[X]     ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
        ACT OF 1934

        For the Fiscal Year Ended December 31, 1997

COMMISSION FILE NO.1998

                                       OR

[ ]     TRANSITION  REPORT  PURSUANT  TO SECTION  13 OR 15(d) OF THE  SECURITIES
        EXCHANGE ACT OF 1934

                         Commission File Number 0-27352
                                                -------

                                 HYBRIDON, INC.
               --------------------------------------------------
                     (Exact name of registrantRegistrant as specified
                      in its charter)certificate of incorporation)


                      Delaware                               3072298
- ----------------------------             ---------------------------------------04-3072298
           (State or other jurisdiction of                (I.R.S. Employer
           Identification Number)
incorporation or organization)              620 Memorial Drive, Cambridge,Identification Number)

                  155 Fortune Blvd.
               Milford, Massachusetts                           02139
- --------------------------------------------------------------------------------01757
          (Address of principal executive offices)           (Zip Code)

                                        Registrant's(508) 482-7500
                     (Registrant's telephone number, including area code: (617) 528-7000code)

Securities registered pursuant to Section 12(b) of the Act:  None
                                      ----NONE

Securities registered pursuant to
Section 12(g) of the Act:                      Common Stock, $.001 par value
                                               -----------------------------
                                               (Title of Class)

Indicate by check mark whether the registrant:registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the  preceding 12 months (or for such  shorter  period that the  registrant  was
required  to file  such  reports),  and  (2) has  been  subject  to such  filing
requirements for the past 90 days.

                                 Yes [X] No [ ]

   2


         Indicate by check mark if disclosure of delinquent  filers  pursuant to Item 405
of Regulation  S-K is not contained  herein,  and will not be contained,  to the
best of registrant's  knowledge,  in definitive proxy or information  statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]




On March 13, 1998, the

The   approximate   aggregate   market   value  of  the  voting  Common Stockstock  held  by
nonaffiliatesnon-affiliates  of the registrant was $9,066,247, based on$12,146,631  million as of April 13, 1999.
For purposes of determining  this number,  5,078,083 shares of common stock held
by affiliates are excluded.

As of April 13,  1999,  the  last
reported sale price of the registrant's Common Stock on the Nasdaq OTC Bulletin
Board on March 13, 1998. There were 5,061,650registrant  had  15,306,825  shares of Common Stock
outstanding
as of March 13, 1998.outstanding.

                       Documents Incorporated by Reference
                       -----------------------------------


                                                        Part of Form 10-K
              Document                                into which incorporated
              --------                                -----------------------

Portions of the Registrant's Proxy Statement       Items 10, 11, 12 and 13 of 
with respect to the Annual Meeting of              of Part IIIIII.
Stockholders to be held on June 15, 1998






                                       -2-8, 1999.







                                 3HYBRIDON, INC.
                                    FORM 10-K
                                      INDEX

PART I
Item  1.   BUSINESS...........................................................2
    HYBRIDON..................................................................2
    TECHNOLOGY OVERVIEW.......................................................2
           Introduction.......................................................2
           Conventional Drugs.................................................3
           Antisense Drugs....................................................4
    HYBRIDON ANTISENSE TECHNOLOGY.............................................4
           Medicinal Chemistries..............................................4
           Manufacturing Technology...........................................5
           Proprietary Analytical Tools.......................................5
           Regulatory Know-How................................................5
    HYBRIDON DRUG DEVELOPMENT AND DISCOVERY PROGRAMS..........................6
           The Drug Development and Approval Process..........................6
           Hybridon Drug Development and Discovery Programs...................7
    CLINICAL PROGRAMS.........................................................8
           Protein Kinase A...................................................8
           HIV-1 and AIDS.....................................................8
           Cytomegalovirus....................................................9
    PRECLINICAL PROGRAMS......................................................10
    HYBRIDON SPINOUTS.........................................................10
           MethylGene, Inc....................................................10
           OriGenix Technologies, Inc.........................................11
    CORPORATE COLLABORATIONS..................................................11
           G.D. Searle & Co...................................................11
           Medtronic, Inc.....................................................13
    THE HYBRIDON SPECIALTY PRODUCTS (HSP) DIVISION............................13
    MARKETING STRATEGY........................................................15
    ACADEMIC AND RESEARCH COLLABORATIONS......................................15
    DRUG DEVELOPMENT SERVICES.................................................16
    PATENTS, TRADE SECRETS AND LICENSES.......................................16
    GOVERNMENT REGULATION.....................................................19
           FDA Approvals......................................................19
           Other Regulation...................................................20
    COMPETITION...............................................................20
    EMPLOYEES.................................................................21

Item 2.    PROPERTIES.........................................................21
Item 3.    LEGAL PROCEEDINGS..................................................22
Item 4.    SUBMISSION OF MATTERS TO A VOTE....................................22
    EXECUTIVE OFFICERS AND SIGNIFICANT EMPLOYEES OF THE COMPANY...............22





                                        i



PART II.......................................................................26
Item 5.    MARKET FOR THE COMPANY'S COMMON EQUITY AND RELATED
           STOCKHOLDER MATTERS................................................26
Item 6.    SELECTED FINANCIAL DATA............................................28
Item 7.    MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND 
           RESULTS OF OPERATIONS..............................................29
Item 7A.   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.........45
Item 8.    FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA........................45
Item 9.    CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND 
           FINANCIAL DISCLOSURE...............................................45

PART III......................................................................46
Item 10.   DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY....................46
Item 11.   EXECUTIVE COMPENSATION.............................................46
Item 12.   SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.....46
Item 13.   CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.....................46

PART IV.......................................................................47
Item 14.   EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS
           ON FORMS 8-K.......................................................47






                                       ii



                           FORWARD-LOOKING STATEMENTS

           The statements  contained in this Annual Report on Form 10-K that are
not historical are forward-looking  statements within the meaning of Section 27A
of the  Securities  Act of 1933, as amended,  and Section 21E of the  Securities
Exchange  Act  of  1934,  as  amended,   including   statements   regarding  the
expectations,  beliefs,  intentions or strategies regarding the future. Hybridon
intends  that all  forward-looking  statements  be  subject  to the safe  harbor
provisions  of the  Private  Securities  Litigation  Reform  Act of 1995.  These
forward-looking statements reflect Hybridon's views as of the date they are made
with respect to future events and financial performance, but are subject to many
risks and  uncertainties,  which could cause actual results to differ materially
from any future results expressed or implied by such forward-looking statements.
Examples of such risks and  uncertainties  include,  but are not limited to: the
obtaining of sufficient financing to maintain Hybridon's planned operations; the
timely development,  receipt of necessary regulatory approvals and acceptance of
new products; the successful application of Hybridon's technology to produce new
products;  the obtaining of proprietary  protection for any such  technology and
products;  the impact of  competitive  products  and pricing  and  reimbursement
policies;  the changing of market conditions and the other risks detailed in the
Risk Factors  section of this Annual Report on Form 10-K and  elsewhere  herein.
The Company does not undertake to update any forward-looking statements.

           See "Management's  Discussion And Analysis Of Financial Condition And
Results Of  Operations  -- Risk  Factors" for a discussion  of certain risks and
uncertainties  applicable  to  the  Hybridon  and  its  stockholders,  including
Hybridon's  need for  additional  funds to sustain  its  operations  in 1999 and
thereafter.



                                        1



                                     PART I

ITEM 1. BUSINESS.

OVERVIEW

GeneralBUSINESS

HYBRIDON

Hybridon, Inc. (the "Company"),  established in 1989, is a leader in the discovery and  development of
novel genetic  medicinesdrugs.  These  drugs are based on  antisense
technology. Antisense"antisense"  technology  involveswhich  uses
synthetic RNA and DNA that are designed to treat the useunderlying cause of synthetic segments of DNA
(oligonucleotides) to interact atdisease
by stopping or  reducing  the genetic level with target messenger RNA,
which codes for thebody's  production  of proteins.proteins  that  directly or
indirectly cause disease. Hybridon also manufactures and sells synthetic RNA and
DNA,  also  called  oligonucleotides,  to third  parties  on a  contract  basis.
Hybridon's  leadership  in the  antisense  field  is  based  on  oligonucleotide
technology  it  owns  or  exclusively  licenses,   including  (a)  new  advanced
chemistries, (b) sequence selection know-how, (c) drug development know-how, (d)
innovations in the manufacturing process, (e) its fully integrated,  large scale
manufacturing  facility  and  (f)  its  experience  in  manufacturing  over  300
different compounds with various chemical modifications.


TECHNOLOGY OVERVIEW

Introduction

        The human body contains many organs,  such as the heart,  liver,  brain,
etc.,  that function  together to support life. Each organ in turn is made up of
many microscopic units called cells. Each cell produces proteins which determine
how that cell  functions  within its organ,  and  ultimately how well each organ
functions  within  the body.  Almost all human  diseases  result  from  abnormal
protein  production or altered  performance  within  individual  cells.  In contrastsome
instances,  the proteins  act  directly to traditionalcause or support a disease.  In other
instances,  the proteins  interfere  with other  proteins that prevent or combat
disease.  Traditional drugs
which are designed to interact with protein molecules associated with diseases,
antisensethat
support or cause  diseases.  Antisense  drugs are designed to work at an earlier
state to stop the genetic levelproduction of disease-causing or disease-supporting proteins.

        The  information  that  controls  production  of a  specific  protein is
contained  in its  gene.  Each gene is made up of two  strands  of DNA that pair
together to interruptform a structure  called a "double  helix."  Each strand of DNA is a
string of individual DNA building blocks, called nucleotides,  that are arranged
in a specific sequence. One of the processstrands contains the information that directs
the composition of the specific protein,  and is called the "coding" strand. The
other strand, the "non-coding"  strand,  contains a sequence of nucleotides that
are complementary with nucleotides on the coding strand.

        The complete  human genome  consists of over 100,000  genes and contains
the information  required to produce all human proteins.  A copy of the complete
human genome



                                        2



is present in each cell,  and the  proteins  made by each cell are read from its
copy of the  genome.  Proteins  are made from  genes in two  steps.  First,  the
information  contained in the gene is read from the coding  strand of DNA into a
molecule  of  messenger  RNA.  The  messenger  RNA also  consists of a string of
nucleotides  in a specific  sequence.  This is called the  "sense"  sequence.  A
sequence that is  complementary  to the sense sequence is called the "antisense"
sequence.  Second, the cell then produces proteins based on the information that
is now recorded in the messenger RNA. The information contained in a single gene
is often read into multiple  copies of messenger  RNA,  which disease-causingin turn causes the
cells to produce more copies of the protein.

        A normal cell produces a particular set of normal  proteins in the right
amount  for the body to  function  properly.  In a diseased  cell,  the wrong or
mutant  proteins  are produced. The Companymade,  or normal  proteins  are made in the wrong  amount.
Mutant proteins occur because the DNA has changed,  either through mutation,  or
by  infection  with a virus.  Infection  with a virus can also cause the cell to
make proteins that are not coded by the human genome. This misinformation causes
the cell to produce proteins that are harmful to the body.

        Antisense technology involves the use of a strand of nucleotides, called
an oligonucleotide,  which has a specific sequence exactly complementary to that
of the messenger  RNA read from a specific  gene.  Because of the  complementary
nature of its sequence,  it binds to and inactivates the messenger RNA,  thereby
decreasing  or  eliminating  the  production  of  disease  associated  proteins.
Hybridon  believes  that drugs based on  antisense  technology  may have broader
applicability,  greater efficacy and fewer side effects than conventional  drugs
because antisense compoundsdrugs are designed to intervene early in the disease process at the genetic level and in highly
specific fashion.

         The Company's efforts in the antisense field are based on an integrated
antisense technology platform combining patented and proprietary medicinal
chemistries, synthetic DNA manufacturing technology and analytical processes.
The Company's strategy is to leverage this technology platform by applying its
oligonucleotides against a range of genetic targets associated with major
diseases, by manufacturing oligonucleotides for its own internal use and on a
custom contract basis for sale to third parties and by entering into
collaborations with large pharmaceutical company partners for the development
and commercialization of oligonucleotide drugs directed against these genetic
targets.

         The Company is focusing its efforts on drug development programs
involving second-generation antisense compounds based on the Company's
proprietary second-generation mixed backbone chemistries. The Company believes
that antisense compounds based on second-generation chemistries will demonstrate
a range of favorable pharmaceutical attributes and provide flexibility in
addressing many biological targets. In particular, the Company believes that
these advanced chemistries provide the potential for enhanced metabolic
stability, which may result in less frequent dosing and therefore lower costs
per treatment, as well as the potential for oral administration. The Company has
three compounds in clinical development (one with two formulations via different
routes of administration) and several other compounds in advanced preclinical
development. The compounds in the clinical phase of drug development are:




                                       -3-


   4


- -        GEM 132 for the treatment of systemic cytomegalovirus ("CMV")
         infections and retinitis, which is now in Phase I/II clinical trials in
         the U.S. and Canada. The Company believes these clinical trials are the
         first clinical trials involving administration of a second-generation
         chemistry oligonucleotide into humans;

- -        GEM 92 for the treatment of HIV infection and AIDS, which has completed
         a pilot Phase I clinical study in Europe;

- -        GEM 231 for the treatment of a variety of cancers (gene target is
         protein kinase A), which is currently in Phase I clinical trials in
         patients with solid tumors who are no longer benefited by other
         treatments.

         The Company's compounds in advanced preclinical development include a
series of antisense oligonucleotides with potential to down regulate the production of vascular endothelial growth factor ("VEGF"), which has been
implicated in diseases ofproteins,
rather than  intervening  after the retina (e.g., diabetic retinopathy; age related
macular degeneration) related to the abnormal formation of new blood vessels in
the eye. The Company is evaluating other antisense compounds targeting VEGF as
potential therapies for solid tumors, rheumatoid arthritisproteins are made, and psoriasis.

         An important part of the Company's business strategy is to enter into
research and development collaborations, licensing agreements and other
strategic alliances with third parties, primarily biotechnology and
pharmaceutical corporations, for the development and commercialization of its
products and to engage in spin-outs of certain technology of the Company to
minority-owned subsidiaries in order to obtain alternative financing for such
technology. The Company is a party to a corporate collaboration with G.D. Searle
& Co. ("Searle"), a subsidiary of Monsanto Company, in the field of
inflammation/immunomodulation. In addition, the Company has spun-out certain
advanced chemistry compounds based on proprietary genetic targets with respect
to DNA methyltransferase to a Quebec company, MethylGene Inc. ("MethylGene") in
exchange for a minority equity interest in MethylGene.

         The Company's plan is to seek corporate collaborations with respect to
each of its compounds in development. The Company generally does not anticipate
proceeding with any of its current clinical programs beyond such time as data
from Phase II trials becomes available, or with any other drug development
programs beyond their current stages of development, without a commitment from a
corporate collaborator. The Company is also currently considering the
possibility of a spin-out of its hepatitis B and human papilloma virus ("HPV")
programs to a minority-owned subsidiary.

         In 1996, the Company formed its Hybridon Specialty Products Division
(the "HSP Division") to manufacture highly purified oligonucleotide compounds
both for the Company's internal use and on a custom contract basis for sale to
third parties,



                                       -4-


   5


including the Company's collaborative partners. The Company is manufacturing
oligonucleotides in compliance with current good manufacturing practices ("GMP")
at its 36,000 square foot leased manufacturing facility in Milford,
Massachusetts. The HSP Division first began production of oligonucleotide
compounds for sale to third parties in June 1996 and had revenues of
approximately $1.1 million in 1996 and approximately $1.9 million in 1997. The
Company is in discussions regarding a possible joint venture with respect to the
HSP Division, which the Company believes would enable it to maximize the
potential for third party manufacturing by the HSP Division, while ensuring for
the Company and its collaborators a source of oligonucleotides. However, there
can be no assurance that the Company will enter into any joint venture with
respect to the HSP Division or that the terms of any joint venture will be as
anticipated by the Company.

1997 Restructuring and Certain Other Developments

         On April 2, 1997, the Company issued $50.0 million of 9% Convertible
Subordinated Notes (the 1997 "9% Notes") with a maturity date of April 1, 2004.
Under the terms of the 1997 9% Notes, the Company is required to make semiannual
interest payments on the outstanding principal balance of the 1997 9% Notes on
April 1 and October 1 of each year during which the 1997 9% Notes are
outstanding. The Company made the first interest payment of $2.3 million at the
beginning of October 1997. In connection with its ongoing financing effort
(described below), holders of the 1997 9% Notes in the aggregate original
principal amount of approximately $42.0 million have consented to the deferral
by the Company of the interest payment due April 1, 1998 until October 1, 1998.
See "Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations -- 1997 9% Notes."

         In July 1997, the Company terminated the development of GEM 91, its
first generation antisense drug for the treatment of AIDS and HIV infection,
based on a review of new data from an open label Phase II clinical trial of
patients with advanced HIV infection. In this Phase II trial, three of the nine
subjects tested experienced decreases in platelet counts that required dose
interruption. In addition, a review of the data showed inconsistent responses to
the treatment and failed to confirm the decrease in cellular viremia observed in
an earlier clinical trial. As a result, the Company decided to stop the
development of GEM 91 and refocus its efforts on its other most advanced drug
development programs described above.

         During the second half of 1997, the Company implemented a restructuring
plan to reduce expenditures on a phased basis over the balance of 1997 and into
the first half of 1998 in an effort to conserve its cash resources. As part of
this restructuring plan, in addition to terminating the clinical development of
GEM 91, the Company reduced or suspended selected programs unrelated to its core
advanced chemistry antisense drug development programs, including its ribozyme
program. In



                                       -5-


   6


addition, the Company terminated the employment of 84 employees at its Cambridge
and Milford, Massachusetts facilities in the second half of 1997 and
substantially reduced operations at its Paris, France office and terminated ten
employees at that location in August 1997. As part of this restructuring, the
Company reviewed all outside testing, public relations, travel and entertainment
and consulting arrangements and terminated or renegotiated various of these
arrangements.

         As part of this restructuring, the Company has subleased one facility
in Cambridge, Massachusetts and a substantial portion of its corporate
headquarters located at 620 Memorial Drive, Cambridge, Massachusetts. Effective
March 31, 1998, the Company has also terminated the lease for its office in
Paris, France.

         This restructuring of the Company, together with employee attrition,
resulted in a reduction in the number of the Company's employees from 213 at
June 30, 1997 to 102 at December 31, 1997highly  specific
and 78 at March 30, 1998 and the
subleasing of an aggregate of approximately 61,000 square feet of space. As a
result, the Company has significantly scaled back the level and scope of its
operations since mid-1997. However, because of the significant costs involved in
terminating employees, subleasing its facilities, terminating research
contracts, suspending or cancelling research programs and substantially reducing
operations, the Company did not begin to experience a material decrease in its
expenditure rate until the fourth quarter of 1997. The Company is continuing to
explore opportunities to reduce operating expenses in an effort to conserve its
cash resources.

         In September 1997, the Company received notification from F.
Hoffmann-La Roche Ltd. ("Roche") that Roche had decided not to pursue further
its antisense collaboration with the Company and was terminating the
collaboration effective February 28, 1998. As part of this termination, Roche
has agreed to assign its patent rights to the HPV and hepatitis C programs
covered by such collaboration to the Company, subject to the execution of 
definitive documentation. 

         In December 1997, because of the Company's failure to satisfy the
minimum net tangible assets criteria of the Nasdaq National Market, the
Company's Common Stock was delisted from the Nasdaq National Market and began
being quoted on the Nasdaq OTC Bulletin Board. In addition, in December 1997,
the Company effected a one-for-five reverse stock split of its Common Stock.
All per share Common Stock information contained herein (other than in the
Exhibit Index) has been adjusted to reflect this reverse split.

Ongoing Financing Effort

         In January 1998, the Company commenced a private offering of up to 400
units, each unit consisting of a Note Due 2007 in the original principal
amount of $100,000 and warrants to purchase Common Stock. The Company is
offering the units at a price of $100,000 per unit. As of March 30, 1998, the
Company had received approximately $4.8 million in gross proceeds from the sale
of units. The Company has very limited cash resources and substantial
obligations to lenders,



                                       -6-


   7


equipment lessors, real estate landlords and trade creditors. The Company's
ability to continue operations in 1998 depends on its success in raising new
funds in this financing or otherwise. If the Company is unable to obtain
substantial additional new funding in April 1998, it will be required to
terminate its operations or seek relief under applicable bankruptcy laws by the
end of April 1998. See "Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations -- 1998 Financing Activities."

TECHNOLOGY OVERVIEW

Introduction

         Proteins play a central role in virtually every aspect of human
metabolism. Almost all human diseases are the result of inappropriate protein
production or performance. Traditional drugs are designed to interact with
protein molecules that support or create diseases. Antisense drugs work at the
genetic level to interrupt the process by which disease-causing proteins are
produced.

         The information necessary to produce a specific protein is encoded in a
specific gene. The information required to produce all human proteins is
contained in the human genome and its collection of more than 100,000 genes.
Each gene is made up of DNA, which is a duplex of entwined strands -- a "double
helix." In each duplex, the building blocks of DNA, called nucleotides, are
bound or "paired" with complementary nucleotides on the other strand. The
precise sequence of a nucleotide chain that is the blueprint for the information
that is used during protein production is called the "sense" sequence. The
sequence of a nucleotide chain that is precisely complementary to a given sense
sequence is called its "antisense" sequence.

         Protein synthesis or expression typically involves a two-phase process.
First, the information contained in the gene is transcribed from the sense
strand of DNA into one or more molecules of messenger RNA. Second, the
information encoded in the messenger RNA is translated into the sequence of
amino acids that comprise the protein. The information contained in a single
gene is often repeatedly transcribed into multiple copies of messenger RNA,
which in turn are repeatedly translated, giving rise to multiple copies of the
same protein.selective fashion.

Conventional Drugs

        Most  drugs are  chemicals  designed to inducethat  stimulate  or inhibitstop the  function  of a
targetparticular molecule, typicallyusually a protein, with tolerable side effects. A drug will
cause side  effects  when it  interacts  with other  proteins in addition to the
target protein.  Therefore,  a drug that interacts with as few unwantedother proteins as
possible causes fewer side effects as
possible. However, conventionaleffects.

        Conventional  drugs are not availablewell  tolerated  for the  treatment  of many
diseases  because of their  relatively low level of selectivity. The
selectivity,  of conventionalthus producing
more side effects.  Conventional  drugs is usually determined bybind only a few, generally two or three,
points of interaction at the binding site of the target molecule.  Frequently,  sites on other non- 




                                      -7-
   8
targetnon-target molecules
resemble the target binding site sufficientlyenough to permit the conventional  drug to bind
to some degree.degree to the non-target molecules.  This lack of selectivity may result
in decreased efficacy,effectiveness of the drug because of unwanted side effects or a need to administer the drug in
less than optimal dosages due to toxicity concerns.effects.

        In addition,  the  development of  conventional  drugs is generally time
consuming and expensive, as thousands of compounds must be synthesizedmade to find onethe most
effective drug with the right efficacy andfewest side effect profile.

Gene Expression Modulationeffects.



                                        3



Antisense Drugs

        In contrast to conventional  drugs,  which usually interact with disease-
associated proteins after they have been produced, gene expression modulation
technology is intended toantisense drugs regulate the actual
production of disease-associated
proteins, thus targeting an earlier biochemical process.proteins.  Advances in genomic
sciencethe human genome  project,  including  work
conducted by academic institutions,  biotechnology  companies and pharmaceutical
companies,  have  identified  many  targets  for  gene expression modulation products.antisense  drugs.  Once a gene
that codes forassociated  with  a  disease-associated  protein  is  identified,  an  antisense
oligonucleotide based on the complementary sequence for the selected site  can be synthesizeddesigned and its pharmaceutical  properties optimizedeffects can be improved
by chemical modification.  These chemically-modifiedChemically-modified  oligonucleotides may be composed
of DNA, RNA or a combination of the two.

         Chemically-modified oligonucleotides can be designed to attack a
disease at the genetic level by binding to messenger RNA or DNA to prevent
production of disease-associated proteins. Binding to messenger RNA generally is
used in the "antisense" approach to gene expression modulation, while binding to
the DNA generally is used in the "triplex" approach to gene expression
modulation.

         In the antisense approach to gene expression modulation,
chemically-modified oligonucleotides, which consist of the antisense sequence to
a selected region on a target messenger RNA, are used to inhibit the synthesis
of a particular protein.

        Because  the  sequence  of nucleic  acid bases of a  chemically-modified
antisense oligonucleotide is complementary to its target sequence on a messenger
RNA, the antisense  oligonucleotide  forms a large number of bonds at the target
site,  typically between 1540 and 30, practically assuring
that60. Thus, the oligonucleotide will hybridize (bind) tightly toform a strong
bond  with the  messenger  RNA read  from the  selected  type of
messenger RNA. Since a singlegene.  A few  identical
messenger  RNA molecules may be translated repeatedly into a
protein, a single chemically-modified antisense oligonucleotide may inhibitcause the synthesis ofcell to produce many copies of a protein. Moreover, in vitro tests have shown that
certainprotein;
nonetheless, a few identical  chemically-modified antisense oligonucleotides form complexes with their
target messenger RNAs. These complexes activatemay
stop this  process.  Moreover,  an enzyme  called RNaseH a cellular enzyme, in a
mannerhas been found that destroyscan
destroy the messenger RNA to whichthat binds the  oligonucleotide is bound,oligonucleotide.  This occurs  without
destroying the oligonucleotide  itself, thus freeing the oligonucleotide to bind
with anotherother  identical  messenger RNA.

         The triplex approach involves the interaction of oligonucleotides
directly with the appropriate region of the double-stranded DNA comprising the
target gene, thus



                                       -8-


   9


resulting in a triplex structureRNA molecules  and physically interfering with the
transcription of DNA into messenger RNA. The triplex approach typically does not
involve thecause  destruction  of the regionthese
molecules as well. This is called  catalytic  activity.  All of DNAHybridon's drugs
are designed to which the oligonucleotides are
bound, in contrast with the effectstake advantage of this  catalytic  activity so that a relatively
small  number of antisense  oligonucleotides on messenger
RNA. Constraining factors to the triplex approach to date have been the
difficultymolecules  can  effectively  inhibit  production  of
obtaining access for oligonucleotides to the DNA, the relative
weakness of the bonding of the oligonucleotides with the DNA and concerns over
compounds that interact directly with the DNA genetic information.disease-associated proteins.


HYBRIDON ANTISENSE TECHNOLOGY

        Hybridon has  developed  an integratedand owns  antisense  technology  platform
based on proprietarythat  includes
important  new medicinal  chemistries,  analytical  chemistry and  manufacturing
technology.  The development of Hybridon's antisense chemistry has been directed
by Dr. Sudhir Agrawal, the Company'sHybridon's Chief Scientific Officer, andOfficer. Hybridon's antisense
chemistry  builds on the  pioneering  work in the  antisense  field begun in the
1970s by Dr. Paul C. Zamecnik,  a founder,  consultant and director of the CompanyHybridon.
Currently,  Dr.  Zamecnik is a Professor  Emeritus at Harvard Medical School and
Chairman of its
Scientific Advisory Board, athas a research affiliation with the Massachusetts General Hospital ("MGH")in Boston.

        Medicinal  Chemistries.  Hybridon's  first antisense drug, GEM 91, which
was based on its  first-generation  phosporothioate  chemistry and continueddiffered only
slightly from native DNA, was more stable than native DNA, but was still able to
trigger the action of RNaseH for catalytic  activity.  However,  there were side
effects  caused by Dr. Zamecnik at the  Worcester Foundation for Biomedical Research,
Inc., which has since mergedadministration  of this  modified DNA into the Universitybody.  In
particular,  in the last  clinical  trial  of Massachusetts (the
"Worcester Foundation").

         Medicinal Chemistries.GEM 91 three of the nine  patients
treated  experienced  unacceptable  decreases in platelet counts thus increasing
the possibility of uncontrolled bleeding. As a result, Hybridon discontinued the
GEM 91



                                        4



program.  Hybridon  has,  however,  used the  information  gained from the human
clinical  trials  of  GEM  91 to  design  its more  advanced  oligonucleotide
chemistries.

        Hybridon's  scientists  have  designed and synthesizedmade over 20 proprietarytwenty  families of
synthetic antisenseadvanced oligonucleotide chemistries including DNA/RNA combinations, also called
hybrid or mixed backbone chemistries. The CompanyHybridon believes that antisense compounds
based  on  these  advanced   chemistries  may demonstrate a range ofwill  show  favorable   pharmaceutical
attributes,
including: reducedcharacteristics;  thus  significantly  increasing  their  potential  therapeutic
value. These compounds are likely to have the following properties:

                      o      catalytic activity;
                      o      fewer side effects, increased duration of action, increased potency
and susceptibility to lower dosing, less frequent dosing, controlled release
formulation and alternative routes of administration, including oral
administration. Hybridon designed its first generation phosphorothioate
oligonucleotides to increase their resistance to enzymatic degradation and their
biological activity and to act catalytically by triggering RNase H. GEM 91 was
such a phosphorothioate-modified oligonucleotide. Hybridon has used the insights
gained by iteffects;
                      o      more stable in the human clinical trials of GEM 91 in the design of itsbody enabling a patient to take 
                             doses less frequently;
                      o      more advanced oligonucleotide chemistries.potent, enabling a patient to be given lower 
                             doses and therefore be less expensive than 
                             first-generation drug candidates; and
                      o      ability to be given to patients different ways 
                             (such as by injection, orally, or topically).

        Manufacturing  Technology.  The Company'sHybridon's  expertise  in the  structure,
design and analysissynthesis  of
chemically-modifiedchemically  modified  oligonucleotides  has  served  as  the  foundation  of its
manufacturing  technology  and  know-how.  The CompanyHybridon  has  developed  proprietary
technology, including equipment, to increase the purity of oligonucleotide
products, enhanceits oligonucleotides,
improve  the  efficiency  of the  production  process,  and increase  the  scale  of
production. In 1996, the Company completed development of two separate
commercial scale oligonucleotide synthesizers, one in an internal programproduction and one in a collaboration with Pharmacia Biotech, Inc. The synthesizer developed by
Hybridon is capable of producing advanced chemistry antisense oligonucleotides.
In addition, the Company has implemented proprietary purification processes,
which use water in place of chemical solvents, simplifying environmental
compliance and permitting purification of kilogram batches of



                                       -9-


   10


oligonucleotides. The Company has also developed proprietary chemical synthesis
processes and novel reagents used in the synthesis process, which the Company
believes may further decreasereduce the cost of production of its modified
oligonucleotides.drug compounds significantly.

        Proprietary  Analytical Tools and Processes. The CompanyTools. Hybridon has established
proprietary analytical tools
and processes that enable it to analyze
oligonucleotide compounds with greater speedtest the purity of oligonucleotides more quickly
and accuracy when compared toaccurately than traditional  methods.  Hybridon has developed a novel method of determining
antisense purity that is sensitive to a single DNA base difference; this method
is significantly more accurate than traditional chromatography methods. The
Company uses the information that it
obtains with its proprietary analytical
tools and processes to improve production quality control,  to comply with
regulatory  requirements and to monitor the pharmacokinetic behaviorabsorption and stability of its oligonucleotide compoundsdrugs in
preclinical  studies and  clinical  trials.  Hybridon has the  capability  to provide or
support all required quality control functions.

        Regulatory  Know-How.  Hybridon personnel also have extensive experience
in navigating the regulatory process in a cost-effective manner.  Hybridon often
assists HSP customers in creating drug/devise master files and writing chemistry
and manufacturing control sections for their submissions to the FDA.






                                        5



HYBRIDON DRUG DEVELOPMENT AND DISCOVERY PROGRAMS

The CompanyDrug Development and Approval Process

        The process of taking a compound from the  laboratory to human  patients
is likely to take a number of years. This process is extremely  expensive and is
rigorously  regulated  by  governmental  agencies.  In the United  States,  this
process is regulated by the Food and Drug  Administration  (the "FDA").  The FDA
requires that each drug undergo a series of trials and studies  (preclinical and
clinical) prior to considering its approval for commercial  sale. The FDA or the
company conducting the trials can discontinue  clinical trials at any time if it
is felt that the patients are being exposed to an unacceptable health risk or if
there  is not  enough  evidence  that the  drug is  effective.  The FDA may also
require a company to provide additional  information or conduct additional tests
before a drug proceeds from one phase to the next. If the FDA's concerns are not
addressed by additional  information  or tests,  the drug will not be allowed to
proceed  to the  next  phase.  The  regulatory  process  in other  countries  is
generally  similar to the process required by the FDA. The sequential  phases of
the preclinical and clinical trials and studies are described below.

o       Preclinical Studies. Preclinical studies are designed to provide data on
        the  effectiveness  and safety of the  compound  before the  compound is
        administered to humans.

o       Investigational  New Drug  Application  ("IND").  If the  data  from the
        research and preclinical studies are promising, the company will file an
        IND  with the FDA.  The IND  contains  the  results  of the  preclinical
        studies and the protocol for the first clinical  trial.  The IND becomes
        active in 30 days unless the FDA  disapproves it or requires  additional
        information. Once the IND becomes active, the company can begin clinical
        trials in humans.

o       Phase I Clinical Trials. In Phase I trials, the drug is given to a small
        group of healthy individuals or patients with the disease.  These trials
        are  designed to produce  data on the drug's  safety,  the maximum  safe
        dose, how the drug is absorbed,  distributed,  metabolized and excreted,
        as a function  of time.  In some  cases,  early  indications  suggesting
        effectiveness  can be found.  A very  small  Phase I study is  sometimes
        called a Pilot Phase I study.

o       Phase II Clinical  Trials.  In Phase II studies,  the drug is given to a
        larger  group of  patients  with the  disease  to  evaluate  the  drug's
        effectiveness  and side  effects  at doses  that  are  considered  to be
        appropriate for the larger Phase III trials that follow.

o       Phase III Clinical Trials.  These studies  generally have a large number
        of patients.  The primary purpose of a Phase III study is to confirm the
        drug's effectiveness and produce additional information on side effects.
        A Phase III study that provides data



                                        6



        critical to support the  registration  of the drug with the FDA is often
        called a Pivotal Trial.

o       New Drug  Application  ("NDA").  Once Phase III studies are complete,  a
        company  will file a New Drug  Application  (NDA) with the FDA.  The NDA
        contains all of the  information  gathered  from the Phase I, II and III
        trials.  Based on the NDA,  the FDA may approve the drug for  commercial
        sale. Before approving an NDA, the FDA may require additional tests and,
        in any event, may deny an NDA if the applicable regulatory  requirements
        are not met.  Even after  approval  by the FDA,  the  company  must file
        additional  reports  about  the drug  with  the FDA  from  time to time.
        Product  approvals  may be  withdrawn  by the  FDA  if  compliance  with
        regulatory  standards is not maintained or if problems  occur  following
        initial marketing.

o       Accelerated Approval.  Drugs meeting certain criteria are candidates for
        special  consideration  during  the review and  approval  process  after
        submission of an NDA.  Accelerated  review and marketing  approval of an
        NDA is  possible  for drugs  that are  intended  to treat  persons  with
        debilitating  and   life-threatened   illnesses,   especially  where  no
        satisfactory  alternatives  are available.  The more severe the disease,
        the more likely the drug will qualify for accelerated  approval.  If the
        new drug receives accelerated  approval,  the company may be required to
        conduct specific post-marketing studies to obtain additional information
        about its safety, benefits and optimal use.

Hybridon Drug Development and Discovery Programs

        Hybridon is  focusing  its drug  development  and  discovery  efforts on
drug development programs
involving second-generation antisense compounds based onwhich incorporate its advanced chemistries for the Company's
proprietary mixed backbone chemistriestreatment
of diseases in three major therapeutic areas: cancer,  disease caused by viruses
and diseases of the eye.

        Hybridon believes there are significant additional opportunities for the
use of  antisense,  particularly  for  the  treatment  of  cancer.  Compared  to
conventional drugs, antisense may provide:

        o      more specific therapy for cancer;
        o      more  rapid  development  of  drugs  targeting   newly-discovered
               cancer-related proteins;
        o      fewer toxic side effects,  thereby  allowing  long-term  therapy,
               either alone or in combination  with other cancer therapies (such
               as shown below. The Company's planradiation or chemotherapy); and
        o      in the  case of  combination  therapy,  additive  or  synergistic
               therapeutic effects.

For these reasons,  Hybridon is exploring new antisense  targets relevant to the
treatment of cancer.




                                        7



        Hybridon  plans  to  seek  corporate  collaborations  with respect tofor  each  of  its
compounds in development.  The CompanyHybridon intends to proceed with its GEM 231 clinical
program for the treatment of cancer through Phase II clinical  trials,  at which
time  it  may  seek  a  corporate  collaborator.  Hybridon  generally  does  not
anticipate  proceeding  with any of its current clinical programs beyond such time as data from Phase II trials
becomes available, or with any of its other drug development  programs  described  below beyond
their current stages of development  without a commitment fromcollaborative  arrangement with a
corporate collaborator.




                                      -10-


   11


==================================================================================================== TARGET PRIMARY THERAPEUTIC STATUS(1) INDICATION(S) - ---------------------------------------------------------------------------------------------------- CLINICAL PROGRAMS Cytomegalovirus CMV Retinitis GEM 132 for Intravitreal Injection - Phase I/II Clinical Trial/Seeking Partner CMV (Systemic) GEM 132 for Systemic Injection - Phase I/II Clinical Trial/Seeking Partner HIV-1 HIV-1 Infection and AIDS GEM 92 - (Intravenous and Oral Formulations) - Pilot Phase I Clinical Trial/Seeking Partner Protein Kinase A Cancer GEM 231 - (Intravenous Formulation) - Phase I Clinical Trial/Seeking Partner PRECLINICAL PROGRAMS Vascular Endothelial Growth Retinopathies (e.g. macular GEM 220 - Preclinical/Seeking Factor degeneration and diabetic Partner retinopathy) Cancer Angiogenesis Preclinical/Seeking Partner Psoriasis Preclinical/Seeking Partner Hepatitis C Virus Hepatitis; Liver Cancer Lead Compounds/Seeking Partner(2) Murine Double Minute-2 Cancer Research Compounds/Seeking Partner Amyloid Proteins Alzheimer's Research Compounds/Seeking Partner Human Papilloma Viruses Genital Warts Preclinical 2)(3) Hepatitis B Virus Hepatitis; Liver Cancer Research Compounds (2)(3) DRUG DEVELOPMENT PROGRAMS IN HYBRIDON SPINOUT DNA Methyltransferase Cancer Preclinical/MethylGene(4) - ----------------------------------------------------------------------------------------------------
-11- 12 - ---------- (1) Phasepartner. CLINICAL PROGRAMS Hybridon has conducted clinical studies in the following areas, with those in more advanced stages of development described first. Protein Kinase A Unlike the growth of normal human cells, cancer cells grow in an uncontrolled and harmful manner. The protein molecule protein kinase A (PKA) has been implicated in the formation and growth of various solid tumors, including colon, ovarian, breast and lung. There are two kinds of PKA. Type I is normal in developing fetuses, but its production is abnormal in adults. PKA type II clinical trials. The product is administeredfound in, and is necessary to a limited patient populationthe health of, normal adults. Certain cancer cells, however, produce PKA type I in adults. Hybridon's cancer drug that targets PKA, GEM 231, is designed to (i) evaluatestop the effectiveness for specific indications and (ii) identify possible short-term adverse effects and safety risks.production of the harmful PKA type I without interfering with the production of PKA type II. Current cancer drugs based on conventional mechanisms can only stop production of both types, leading to unacceptable side effects. Hybridon has conducted a Phase I clinical trials. The product is administered to a limited numberstudy that has evaluated the safety of healthy human subjects or patientsGEM 231 at multiple doses and tested for pharmacokinetics (absorption, metabolism, distribution and excretion), pharmacologic action, dose response, safety and, if possible, early evidence of effectiveness. Pilot Phase I Study. The product is administered to a small number of patients to assess safety, pharmacokinetics and other data on a preliminary basis. Preclinical: Compounds are undergoing additional testing and alternative chemistries are being evaluated in biological assays and/or appropriate animal models in order to assess efficacy, toxicology and pharmacokinetics and to select particular chemistries with optimal pharmaceutical attributes. If these procedures are completed satisfactorily and other scientific and financial criteria are met, the Company may initiate IND-enabling Good Laboratory Practices ("GLP") studies and begin preparation of an IND application. Lead Compounds: One or more antisense compounds have demonstrated biological activity for a particular gene target in a specific and relevant biological assay. Research Compounds: Appropriate target gene(s) and sequence(s) are being determined; antisense compounds are being synthesized and screened for biological activity. (2) Developed as part of the Company's collaboration with Roche, which was terminated by Roche as of February 28, 1998. Roche has agreed to assign all rights to these programs to the Company in connection with such termination, subject to the execution of definitive documentation. (3) The Company is currently considering the possibility of a spin-out of its hepatitis B and HPV programs to a minority-owned subsidiary. (4) Technology relating to target has been licensed to and is being developed by MethylGene, a Canadian company co-founded by the Company and in which the Company owns a minority interest. See "Item 1. Business -- Financial Collaborations -- MethylGene Inc." -12- 13 CLINICAL PROGRAMS Cytomegalovirus CMV is a member of the herpes virus family which exists latently in approximately 60% of the general U.S. population, and in approximately 90% of the HIV/AIDS population. Because of their immunocompromised state, AIDS patients often suffer from CMV infection. In this patient population, CMV may be manifested as retinal, gastrointestinal, hepatic, pulmonary and/or neurological disease, although in 75% of patients with CMV, CMV usually manifests itself as retinal disease. CMV retinitis lesions progress rapidly and can result in blindness if left untreated. Prior to the advent of combination therapy including protease inhibitors (a highly active anti-retroviral therapy ("HAART")), for AIDS, approximately 15% of AIDS patients had active CMV disease and another 25% were considered at risk. Because the introduction of HAART treatment has been effective at delaying progression of AIDS, the introduction of HAART treatment has reduced the incidence of new cases of CMV retinitis in AIDS patients by about three-fold. The Company believes that aggressive AIDS treatment will prolong the time that patients are living with CMV retinitis. Between 1994 and 1996, the mean time of survival of CMV patients increased from 12 to 18 months. The Company expects such period to increase to 30 months by the end of 1998. As patients live longer and with less evidence of disease, the Company believes there is likelyfound it to be a marked decrease in tolerance of cumbersome dosing regimens and adverse side-effects characteristic of present therapies. Although the market for CMV drugs is relatively small, the Company expects the market to grow due to (i) failures of HAART therapy and (ii) CMV breakthrough during HAART therapy at CD4+ lymphocyte counts above 100. Failures of HAART therapy may occur as a result of development of resistance, intolerance and lack of compliance due to complex dosing regimens involving multiple products.well tolerated. The Company believes that although HAART therapy is effective for a limited period of time, the duration of HAART therapy is highly variable. Several reports presented at the 1997 Interscience Conference on Antimicrobial Agents and Chemotherapy suggest CMV reactivation in protease-experienced patients at CD4+ lymphocyte counts greater than 100 and, in some cases, greater than 200. The Company is conducting clinical trialsmaximum tolerated dose of GEM 132, its second-generation antisense oligonucleotide231 was established for the treatment of CMV infection. In these trials, the Company is studying two different routes of administration. In an escalating dose, Phase I/II multicenter trial in the U.S.both single doses and Canada, in which GEM 132 is -13- 14 administered by injection into the vitreous of the eye, the Company is studying the safety and activitymultiple doses. Even high doses of GEM 132231 did not show the side effects normally seen with current cancer treatments. Evaluation of efficacy was not an objective of this trial. In December 1998, Hybridon received approval to start a Phase II Clinical trial of GEM 231 in patients with CMV retinitis who are no longer ablesolid tumors which had not responded to benefit from marketed therapies.prior therapy. In addition to continuing to evaluate GEM 231 as a single-agent therapy, Hybridon plans to conduct small Phase I trials in normal volunteers, the Company is administering a series of single and multiple dose regimens, employing two-hour intravenous infusions of up to 150 mg/dose at weekly intervals over four weeks. In Phase I/II studies involving patients infected bothin at least two types of solid tumors using GEM 231 in combination with HIV and CMV, the Company is evaluating the effects of multiple two-hour intravenous infusions, given at weeklyradiation or biweekly intervals, on the quantities of CMV cultured from the semen as a measure of antiviral activity. All doses studied to date in these clinical trials have been well tolerated. The Company anticipates these trials will result in the identification of one or more promising doses and a schedule of administration for more extended evaluation in patients with CMV infection. GEM 132 has demonstrated significant inhibition of the replication of CMV in tissue culture assays. GEM 132 has demonstrated activity in cell culture against both clinical isolates and viruses which have become resistant to current therapies,other anti-tumor agents, such as ganciclovir. In addition, in cell culture studies, GEM 132 has demonstrated significantly more potent anti-viral activity than the two existing therapies against which it has been tested, ganciclovir and foscarnet.Taxol. HIV-1 and AIDS AIDS is caused by infection with HIVthe HIV-1 virus and leads to severe, life-threatening impairment of the immune system. HIV causes immunosuppression by attacking and destroying T-cells, which coordinate muchAIDS therapy using a combination of the network of normal immune responses. HIV infection usually leads to AIDS, although progression to symptomatic disease may take many years. The process of HIV replication involves the integration of a DNA copy of the viral RNA into the human genome, the transcription of the DNA copy into messenger RNA ("reverse transcription") and the synthesis of viral proteins and copies of viral RNA for packaging into new virus particles that may infect other cells. As of June 30, 1996, approximately 548,100 cases of AIDS had been reported to the U.S. Center for Disease Control and Prevention (CDC), and the current population of surviving AIDS patientsdrugs has resulted in the U.S. was estimated to be approximately 200,000. As of June 30, 1996, AIDS was the second leading causedecreased rates of death in the U.S. for men between the ages of 25 and 44 and the third leading cause of death in the U.S. for women between the ages of 25 and 44. In 1996, the U.S. Public Health Service estimated that more than 1,000,000 other people in the U.S. were infected with HIV. As of June 30, 1996, the World Health Organization (the "WHO") reported that approximately 1,394,000 AIDS cases had been reported worldwide, but it estimated that the actual total number of cases was over 7,700,000. The WHO also estimated that, as of June 30, 1996, approximately 21,800,000 individuals were infected with HIV/AIDS worldwide. -14- 15 A growing number of drugs for the treatment of HIV infection and AIDS have received marketing approval from the FDA, and from other regulatory authorities. All of those approved drugs are either inhibitors of the reverse transcriptase enzyme or the protease enzyme of HIV-1. Although each of these drugs has demonstrated some evidence of antiviral activity as a monotherapy by reducing the quantities of virus in the plasma, any studies which have demonstrated prolonged benefit on the surrogate markers (viral RNA and CD4+ lymphocyte counts) and sustained clinical remission have involved combinations of these agents. The standard HAART therapy involves treatment with a protease inhibitor in conjunction with two inhibitors of reverse transcriptase. While use of these regimens has been associated with decreased mortality rates and important improvements in the quality of life for patients with AIDS,AIDS. 8 However, there are increasing reports of failure of HAARTthat this therapy may be failing to sustain the initially-achieved viral suppression andgive sustained clinical benefit. The CompanyHybridon believes that these reports underscorethis underscores the need for new antiretroviral therapies, preferably active against targets other than protease or reverse transcriptase. The Company recentlyAIDS therapies. Hybridon has completed a pilot Phase I clinical study in Europe of GEM 92, the Company's second-generationHybridon's advanced chemistry compound for the treatment of HIV-1 infection and AIDS. This study was designed to explore the safety and to provide information on the pharmacokineticsabsorption of GEM 92 after oral dosing and intravenous dosing.injection. All doses administeredgiven in the pilot study were well tolerated. The Company is developingFurther, GEM92 was detected in the blood after both oral dosing and injection, suggesting that it may be possible to develop GEM 92 using insights gainedas an oral drug. Hybridon believes this was the first oral administration of an antisense molecule to humans. In vitro studies have indicated that GEM 92 is additive with a number of marketed compounds. Importantly, both its medicinal approach and genetic target are unique. Cytomegalovirus Cytomegalovirus ("CMV") is present, although inactive, in approximately 60% of the general population in the developmentUnited States and in up to 90% of the HIV/AIDS population. Because AIDS patients have such severely damaged immune systems, advanced AIDS patients often suffer from active CMV infection. The most frequent active form of CMV infection in AIDS patients is CMV retinitis, which can result in blindness if left untreated. Active CMV infection in AIDS patients has declined in recent years because of the success of the current combination AIDS therapy. CMV infection is also a medical problem in other patients with weak immune systems, such as those who have undergone organ transplants and those undergoing chemotherapy. Hybridon has conducted Phase I and early Phase II clinical trials of GEM 91, which involved over 250 volunteers132, Hybridon's advanced chemistry antisense oligonucleotide for the treatment of CMV infection. No clinical studies with GEM 132 are currently ongoing and patients with HIV-1 infection. The Company elected to discontinue further developmentnone are currently planned. Hybridon will reevaluate the status of GEM 91 in July 1997 based on preliminary data from a Phase II clinical trial in which three132 development should the current poor market conditions improve. A competitor of the nine subjects treated had experienced decreases in platelet counts that required dose interruption. In addition, a review of the virology data showed inconsistent responsesHybridon has recently received FDA approval to market an antisense therapeutic for the treatment of CMV retinitis. See "Management's Discussion And Analysis Of Financial Condition And Results Of Operations -- Risk Factors --Hybridon Faces Intense Competition, And Hybridon's Products Could Be Rendered Obsolete; Many Of Hybridon's Competitor's Have Greater Resources And Experience Than Hybridon." 9 PRECLINICAL PROGRAMS Hybridon has also conducted preclinical studies in the following areas.
- ----------------------------------------------------------------------------------------------------------------------- Target Primary Therapeutic Status Indication(s) ------------- - ----------------------------------------------------------------------------------------------------------------------- MDM2 Cancer Research Compounds/Searle Collaboration Vascular Endothelial Growth Factor Cancer Angiogenesis Preclinical/Seeking Partner Retinopathies (e.g. Preclinical/Seeking Partner macular degeneration and diabetic retinopathy) Psoriasis Preclinical/Seeking Partner Hepatitis C Virus Hepatitis; Liver Lead Compounds/Seeking Cancer Partner - -----------------------------------------------------------------------------------------------------------------------
HYBRIDON SPINOUTS Hybridon has used multiple strategies to fund uses of its antisense technology that it cannot develop at present without external funding. Hybridon has used one such strategy with MethylGene, Inc. and failedOrigenix Technologies Inc. MethylGene, Inc. In 1996, Hybridon and three Canadian institutional investors formed MethylGene, Inc. Hybridon currently owns approximately 30% of MethylGene. Hybridon has granted exclusive worldwide licenses and sublicenses to confirmMethylGene to develop and market (i) antisense compounds to inhibit the decrease in cellular viremia observed in an earlier trial. GEM 92 differs from GEM 91 in that GEM 92 is based onprotein DNA methyltransferase for the Company's second-generation chemistries, whichtreatment of any disease, (ii) other methods of inhibiting DNA methyltransferase for the Company believes providetreatment of any disease and (iii) antisense compounds to inhibit up to two additional targets for the potential for enhanced metabolic stability compared to the Company's first-generation compounds. The Company believes that this improved stability may make it possible to administer lower doses at less frequent intervals and may make the oral routetreatment of administration feasible. Protein Kinase A Protein Kinase A ("PKA")cancers. DNA methyltransferase is a protein that has been shown to be expressed in human cancer cell lines and in primary tumors after cells have been transformed with -15- 16 various oncogenes or after stimulation of cell growth with cell growth stimulating factors. Based on cell culture studies, the Company believes that overexpression of PKA may be associated with colon, breast, ovarian and lung cancer. Hybridon has identified specific sequences on the PKA gene as targets for chemically-modified antisense oligonucleotides and has synthesized an advanced chemically-modified antisense compound, GEM 231, that has demonstrated inhibition of the expression of PKA and tumor growth in animal model studies. In these studies, repeated doses of Hybridon's oligonucleotide compound administered either intraperitoneally or orally resulted in reduction of PKA, associated with suppression of tumor growth. GEM 231 has also demonstrated in cell culture tests and in an animal xenograft model that a combination of GEM 231 with cytotoxic drugs or other classes of anticancer agents may enhance the antitumor effect of GEM 231. In January 1998, the Company initiated a Phase I dose-escalation trial of GEM 231 in patients with refractory solid tumors. In this safety trial, GEM 231 is being administered by two-hour intravenous infusions given twice a week. If treatment is well tolerated and if there is no progression of the tumor at eight weeks, treatment can be continued until there is toxicity or until there is clearly no effect on the tumor. This trial is designed to establish a maximum tolerated dose for GEM 231 when used as a single agent. The study is also intended to assist the Company in selecting one or more doses to evaluate more extensively in Phase II trials. PRECLINICAL PROGRAMS Vascular Endothelial Growth Factor. Vascular Endothelial Growth Factor ("VEGF") is a growth factor that stimulates angiogenesis, the process of new blood vessel formation. Angiogenesis plays a major role in wound healing and organ regeneration and also is involved in certain pathological processes, such as tumor growth and metastasis. VEGF has been shown to be overexpressed in developing tumors and is believed to be a key factor in providing new blood supply to feed developing tumors. Hybridon has identified specific sequences on the VEGF messenger RNA as targets for chemically-modified antisense oligonucleotides and has synthesized an advanced chemically-modified antisense oligonucleotide, GEM 220, that has inhibited the expression of the VEGF gene in in vitro and tissue culture assays. Dermatology. VEGF, in association with its role in angiogenesis, has recently been implicated in psoriasis, which currently afflicts more than 6,000,000 people in the U.S. with between 150,000 and 260,000 new cases in the U.S. each year. Hybridon has identified specific sequences on the VEGF messenger RNA as targets for chemically-modified antisense oligonucleotides and has synthesized chemically- modified antisense oligonucleotides that have inhibited the expression of the VEGF gene in in vitro and tissue culture assays. The Company has explored optimal forms of topical delivery of oligonucleotides to the basal layers of the epidermis, where -16- 17 VEGF has been found to be overexpressed in psoriasis. Ophthalmology. Overexpression of VEGF has also been implicated in four major causes of blindness: late stage, age-related macular degeneration, which afflicts approximately 500,000 people in the U.S.; proliferative diabetic retinopathy, the major cause of blindness in diabetics which affects approximately 250,000 people in the U.S.; central retinal vein occlusion, which afflicts approximately 200,000 people in the U.S.; and retinopathy of prematurity, which affects approximately 10,000 premature newborns annually in the U.S. Hybridon has identified specific sequences on the VEGF messenger RNA as targets for chemically-modified antisense oligonucleotides and is synthesizing chemically-modified antisense oligonucleotides designed to inhibit the expression of the VEGF gene in retinal cells. These oligonucleotides have been shown in an animal model of retinopathy to inhibit vascular proliferation and prevent aberrant angiogenesis in the retinas of mice in a model for retinopathy of prematurity. Hybridon's antisense oligonucleotides have also been shown to inhibit neovascularization in a primate animal model of neovascularization. Oncology. Angiogenesis is a key prerequisite for solid tumor growth and may also constitute an early event in tumorigenesis. In order for tumor cell masses to grow beyond a few millimeters in size, additional vascularization is needed. In fact, tumor growth will slow or stop in direct proportion to blood supply. VEGF has been shown to be a tumor angiogenesis factor, contributing to new vessel growth. Several studies in experimental animal model systems have shown that inhibition of VEGF will inhibit tumor vascularization. In addition, VEGF has been shown in in vitro studies to provide an autocrine growth stimulus for some tumor cell lines. Hepatitis C Virus. There are approximately 3,500,000 people in the U.S. carrying the hepatitis C virus, and approximately 150,000 individuals in the U.S. become infected with hepatitis C each year. Approximately 80% of those who contract the virus each year develop chronic hepatitis C infections and approximately 30,000 cases each year ultimately result in cirrhosis of the liver. Chronic infection due to hepatitis C is a significant disease in Japan and other Pacific Rim countries that has been linked to the development of primary liver cancer. Pursuant to its collaboration with Roche, Hybridon identified through joint research with Roche specific sequences on the messenger RNA as targets for chemically modified antisense oligonucleotides and synthesized a lead compound that inhibited hepatitis C viral gene expression in in vitro and tissue culture assays. In connection with the termination by Roche of the -17- 18 Company's collaboration with Roche, Roche has agreed to assign all of its rights to the lead compound to the Company, subject to the execution of definitive documentation. Murine Double Minute-2. MDM-2 is a human oncogene which has been shown in in vitro studies to encode a protein that binds to and inactivates tumor suppressor genes p53 and Rb. Recent studies by a number of academic institutions have suggested that overexpression of the MDM-2 gene is present in approximately 70% of all breast cancers and correlates with increased malignancy as well as drug resistance. The Company, in collaboration with two academic institutions, has identified specific sequences on the messenger RNA as targets for chemically-modified antisense oligonucleotides and have synthesized chemically-modified antisense oligonucleotides that inhibit MDM-2 production in tissue culture assays. Preliminary studies are being conducted in animal models. The Company is in the process of seeking to obtain exclusive rights to these sequences from its academic collaborators. Amyloid Proteins. Alzheimer's disease is a neurodegenerative disease which is the most common cause of dementia in the elderly. It is estimated to affect approximately 4,000,000 individuals in the U.S. The presence of amyloid precursor protein ("APP") in the brain at abnormal sites and in abnormal amounts has been reported to be associated with Alzheimer's disease. Hybridon has identified a specific sequence on the messenger RNA as a target for chemically-modified antisense oligonucleotides and has synthesized chemically-modified antisense oligonucleotides that inhibit APP production in tissue culture assays. Human Papilloma Viruses. Human papilloma viruses are associated with a variety of warts, including benign genital warts which, if untreated, can lead to cervical cancer. Each year, condyloma acuminata (genital warts) are diagnosed in approximately 750,000 patients in the U.S. and accounts for more than 2,000,000 visits to health care providers in the U.S. HPV infections are the most common sexually transmitted diseases in the world today, with an estimated 11 to 46 percent of sexually active women having DNA evidence of HPV infection. Traditional therapies include wart removal through cryotherapy, laser therapy or excisional surgery; topical application of formulations of podophyllotoxin, trichloroacetic acid and salicylic acid or 5-flurouracil, or alternatively, direct injections of interferon into the wart. While existing therapies may help eliminate the warts, none of them eradicates the virus. Consequently, recurrence of genital warts, as well as transmission of the virus, remains a significant problem. Pursuant to its collaboration with Roche, Hybridon identified through joint research with Roche specific sequences on the messenger RNA of the papilloma virus as targets for chemically-modified antisense oligonucleotides and synthesized a lead compound that inhibited human papilloma virus gene expression in tissue culture assays. This compound also has been shown in an animal model to be active in preventing wart-like tissue proliferation. In connection with the termination by -18- 19 Roche of the collaboration with Roche, Roche has agreed to assign all of its rights to the lead compound to the Company, subject to the execution of definitive documentation. The Company is currently considering the possibility of a spin-out of this program. Hepatitis B Virus. Hepatitis B is a major health problem throughout the world, with endemic infection in some less developed countries. Hepatitis B infections can lead to liver cirrhosis and cancer of the liver. The WHO estimates there are more than 1,000,000 new cases of hepatitis B infection annually in developed countries and 350 million chronically infected carriers worldwide. Based on data from the CDC, an estimated 30 percent of these will progress to symptomatic acute infections while a total of 10 to 15 percent will become chronic hepatitis B carriers at risk of chronic liver disease and progression to cirrhosis or hepatocellular carcinoma. The Company has acquired an established cell-base assay for selecting compounds targeted to hepatitis B as well as several active oligonucleotide compounds that the Company plans to evaluate as potential pre-clinical candidates. Approximately 1,200,000 individuals in the U.S. carry the hepatitis B virus. There are an estimated 200,000 to 300,000 new hepatitis B infections in the U.S. each year. Pursuant to its collaboration with Roche, Hybridon identified through joint research with Roche specific sequences on the messenger RNA as targets for chemically-modified antisense oligonucleotides and synthesized chemically-modified antisense oligonucleotides that inhibit the expression of hepatitis B virus in cell cultures. Although Roche determined not to pursue this program, the Company is continuing its development efforts. All rights relating to the Roche- sponsored research with respect to hepatitis B reverted to the Company when Roche determined not to pursue the program. The Company is currently considering the possibility of a spin-out of this program to a minority owned subsidiary. DRUG DEVELOPMENT PROGRAMS IN HYBRIDON SPINOUT DNA Methyltransferase. DNA methyltransferase is a regulatory protein that has been implicated in the processes of cell growth and differentiation and has been shown to be overexpressedoverproduced in some tumors, such as small cell lung cancer, colon cancer and breast cancer. MethylGene is obligated to purchase from Hybridon has identified specific sequences on the messenger RNA as targets for chemically-modified antisense oligonucleotides and has synthesized chemically-modified antisenseall formulated oligonucleotides that alter DNA methylation of cultured human cancer cells and inhibit the ability of such cells to grow in cell culture and their ability to form tumors in mice. The Company has licensed the technology relating to the development of this compound to MethylGene whichrequires at specified prices. Hybridon is currently developing this technology. See "Item 1. Business -- Financial Collaborations -- MethylGene Inc." CORPORATE COLLABORATIONS -19- 20 An important part of Hybridon's business strategy is to enter into research and development collaborations, licensing agreements or other strategic alliances with third parties, primarily biotechnology and pharmaceutical corporations, for thealso performing drug development and commercialization of certain products. As of the date hereof, the Company is a party to corporate collaborations with Searle and Medtronic, all as summarized below. The Company intends to retain manufacturing rightsother services for many of the products, if any, it may license pursuant to these collaborations. G.D. Searle & Co. In January 1996, the Company and Searle entered into a collaboration relating to research and development of therapeutic antisense compounds directed at up to eight molecular targets in the field of inflammation/immunomodulation (the "Searle Field"). Pursuant to the collaboration, the parties are conducting research and development relating to a compound directed at a molecular target in the Searle Field designated by Searle. In this project, Searle is funding certain research and development efforts by the Company, and each of Searle and the Company have committed certain of its own personnel to the collaboration. The initial phase of research and development activities relating to the initial target will be conducted through the earlier of (i) the achievement of certain product candidate milestones and (ii) 36 months after commencement of the collaboration, subject to early termination by Searle. The parties may extend the initial collaboration by mutual agreement, including agreement as to additional research funding by Searle. In addition, under the collaboration Searle has the right, at its option, to designate up to six additional molecular targets in the Searle Field (the "Additional Targets") for collaborative research and development with Hybridon on terms substantially consistent with the terms of the collaboration applicable to the initial molecular target. This right is exercisable by Searle with respect to each of the Additional Targets upon the payment by Searle of certain research payments (beyond the project specific payments relating to the particular Additional Target) and the purchase of additional Common Stock from the Company by Searle (at the then fair market value). The aggregate amount to be paid by Searle for such research payments and equity investment in order to designate each of the Additional Targets is $10,000,000 per Additional Target. In the event that Searle designates all of the Additional Targets, the aggregate amount to be paid by Searle for research payments will be $24,000,000 and the aggregate amount to be paid by Searle in equity investment will be $36,000,000. If Searle has not designated all of the Additional Targets by the time it advances the product candidate for the initial molecular target to certain stages of preclinical development, Searle will be required to purchase an additional $10,000,000 of Common Stock (at the then fair market value) on specified -20-MethylGene. 10 21 dates in order to maintain its right to designate any of the Additional Targets that it has not yet designated. The payment for any such Common Stock will be creditable against the equity investment portion of the payments to be made by Searle with respect to the designation of any of the Additional Targets that Searle has not yet designated. Searle also has the right, at its option, to designate a molecular target in the Searle Field to develop a therapeutic agent for cancer that acts through immunomodulation (the "Searle Cancer Target") for collaborative research and development with the Company on terms substantially consistent with the terms of the collaboration applicable to the initial molecular target. At the time of such designation, Searle will be required to make certain research payments to the Company and purchase additional Common Stock from the Company (at the then fair market value). The aggregate amount to be paid by Searle for such research payments and equity investment will range from $14,000,000 (comprised of $7,000,000 in research payments and $7,000,000 in equity investment) if the Searle Cancer Target is designated in 1998 to $26,000,000 (comprised of $21,000,000 in research payments and $5,000,000 in equity investment) if the Searle Cancer Target is designated in 2000. Searle has exclusive rights to commercialize any products resulting from the collaboration. If Searle determines, in its sole discretion, to commercialize a product, Searle will fund and perform preclinical tests and clinical trials of the product candidate and will be responsible for regulatory approvals for and marketing of the product. In certain instances and for specified periods of time, the Company has agreed to perform research and development work in the Searle Field exclusively with Searle. In addition, as to each product candidate, the Company will be entitled to milestone payments from Searle totalling up to an aggregate of $10,000,000 upon the achievement of certain development benchmarks. The Company also will be entitled to royalties from net sales of products resulting from the collaboration. Subject to satisfying certain conditions relating to its manufacturing capacities and capabilities, Hybridon will retain manufacturing rights, and Searle will be required to purchase its requirements of products from the Company on an exclusive basis at specified transfer prices. Upon a change in control of the Company, Searle would have the right to terminate the Company's manufacturing rights, although the royalty payable in respect of net sales would be increased in such event. Under the collaboration, in the event that Searle designates (and makes the required payments and equity investments for) all of the Additional Targets or in certain other instances relating to the Company's failure to satisfy certain requirements relating to its manufacturing capacities and capabilities, Searle will have the right, exercisable in its sole discretion, to require the Company to form a joint venture with Searle for the development of products in the Searle Field (other than products relating to molecular targets that have already been designated by Searle) to which each party will contribute $50,000,000 in cash, although the Company's cash contribution -21- 22 would be reduced by the value of the technology and other rights contributed by Hybridon to the joint venture. The Company and Searle would each own 50% of the joint venture, although Searle's ownership interest in the joint venture would increase based upon a formula to up to a maximum of 75% if the joint venture is established in certain instances relating to the Company's failure to satisfy certain requirements relating to its manufacturing capacities and capabilities. Under the collaboration, Searle also purchased 200,000 shares of Common Stock in the Company's initial public offering. Medtronic, Inc. In May 1994, the Company and Medtronic entered into a collaboration involving the testing of a drug delivery device for use in delivering Hybridon's antisense oligonucleotides for the treatment of Alzheimer's disease. See "Item 1. Business -- Hybridon Drug Development and Discovery Programs -- Preclinical Programs -- Amyloid Proteins." Hybridon will be responsible for the development of, and hold all rights to, any drug developed pursuant to this collaboration, and Medtronic will be responsible for the development of, and hold all rights to, any delivery system developed pursuant to this collaboration. The parties may extend this collaboration by mutual agreement to other neurodegenerative disease targets. The research and development to be conducted is determined and supervised by a committee comprised of an equal number of designees of the Company and Medtronic. As part of the collaboration, Medtronic purchased an aggregate of 131,667 shares of the Company's Common Stock. FINANCIAL COLLABORATIONS In order to maintain financial flexibility, Hybridon considers innovative arrangements to finance certain applications of its GEM technology, particularly applications that it would not develop in the near term without external funding. The Company has entered into one such arrangement, which is summarized below. MethylGene Inc. In 1996, the Company and certain Canadian institutional investors formed a -22- 23 Quebec company, MethylGene, to develop and market (i) antisense compounds to inhibit DNA methyltransferase for the treatment of cancers, (ii) other methods of inhibiting DNA methyltransferase for the treatment of any indications and (iii) antisense compounds to inhibit a second molecular target other than DNA methyltransferase for the treatment of cancers, to be agreed upon by Hybridon and MethylGene (such three product areas being referred to herein as the "MethylGene Fields"). In December 1997, Hybridon and Methylgene expanded the Methylgene Fields to include (a) antisense compounds to inhibit DNA methyltransferase for any indication and (b) antisense compounds to inhibit a second and third molecular target for any indications, as may be selected by Methylgene, so long as such molecular targets are not bona fide targets under investigation by the Company on or prior to the date that Methylgene notifies the Company of the identity of such second or third molecular target. Hybridon initially acquired a 49% minority interest in MethylGene for approximately CDN$1,000,000, and the Canadian investors acquired a majority interest in MethylGene for a total of approximately CDN$7,500,000. On March 4, 1998, Methylgene raised an additional CDN$15,800,000 from the private placement of securities. As a result of such financing, Hybridon now owns an approximately 30% interest in Methylgene. The Canadian investors who initially invested in the Company continue toMethylGene have the right to exchange all (but not less than all) of the shares of stock in MethylGene that they initially purchased for shares of Common Stock of Hybridon on the basis of 37.5 MethylGene shares (for which they paid approximately USU.S. $56.25) for one share of Hybridon Common Stock (subject to adjustment for stock splits, stock dividends and the like). This option is exercisable only during a 90-day period commencingexpires no later than 2001. MethylGene submitted an IND in the United States and Canada in December 1998 and commenced Phase I clinical trials of its first compound, MG98, for the treatment of cancer in March 1999. OriGenix Technologies Inc. In January 1999, Hybridon and three Canadian institutional investors formed OriGenix to develop and market drugs for the treatment of infectious diseases, with an initial focus on the earlierviral diseases. Hybridon owns approximately 49% of the date five years after the closing ofOriGenix. If certain conditions are satisfied by OriGenix, the Canadian investors'investors are committed to make an additional investment, at which time Hybridon's ownership interest in MethylGene or the date on which MethylGene ceases operations, and terminates sooner if MethylGene satisfies certain conditions.OriGenix will be reduced to 40%. Hybridon has granted to MethylGeneOriGenix worldwide exclusive worldwide licenses and sublicenses in respectto antisense technology developed by Hybridon for the treatment of certain technology relatinghuman papilloma virus and hepatitis B virus infections. Human papilloma viruses ("HPV") cause a variety of warts, including benign genital warts which, if untreated, can lead to cervical cancer. Hepatitis B infections can lead to liver cirrhosis and cancer of the MethylGene Fields.liver. In the future, OriGenix may negotiate with Hybridon for additional targets. In addition, Hybridon and MethylGene have entered into a supply agreement pursuant to which MethylGeneOriGenix is obligated to purchase from Hybridon all required formulated bulk oligonucleotides it requires at specified transfer prices. The Company is currently finalizing aHybridon anticipates that it will perform drug development advisory and other services agreementfor OriGenix. CORPORATE COLLABORATIONS An important part of Hybridon's business strategy is to enter into research and development collaborations, licensing agreements or other strategic alliances with third parties, primarily biotechnology and pharmaceutical corporations, to develop certain products. Hybridon is a party to corporate collaborations with Searle and Medtronic. Hybridon expects to retain the rights to manufacture many of the products it may license pursuant to whichthese collaborations. G.D. Searle & Co. In January 1996, Hybridon and Searle entered into a collaboration for research and development of therapeutic antisense compounds. According to the Company will assist Methylgenecollaboration agreement 11 as modified in preparing an IND for its first compound. ItApril 1998, targets can be selected from those in the fields of cancer, cardiovascular disease and inflammation/immunomodulation (the "Searle Field"). Hybridon and Searle are currently conducting research and development relating to compounds targeting MDM2. In this project, Searle is anticipated that MethylGene will continuefunding certain research and development efforts at Hybridon, and Searle and Hybridon have committed personnel to qualify to receive certain Canadian tax benefits with respect to the collaboration. The initial phase of research and development activities will be conducted through the earlier of (i) the achievement of certain milestones and (ii) January 31, 2000, subject to early termination by Searle. The parties may extend the collaboration by mutual agreement, including agreement on additional research funding to be made by Searle. In addition, Searle has the right to designate up to six additional molecular targets in the Searle Field (the "Additional Targets") on terms substantially consistent with the terms applicable to the initial molecular target. Searle may exercise this right for each of the Additional Targets by paying specified cash amounts (beyond specific research payments relating to the particular Additional Target) and purchasing additional Common Stock from Hybridon (at the then fair market value), totaling $10,000,000 per Additional Target. If Searle designates all of the Additional Targets, Searle will pay $24,000,000 in cash and purchase $36,000,000 of equity. If Searle has not designated all of the Additional Targets by the time the initial molecular target reaches a certain stage of preclinical development, Searle will be required to purchase up to an additional $10,000,000 of Common Stock (at the then fair market value) in order to keep its right to designate any of the Additional Targets. This payment will be credited against the equity investment payments made by Searle for any of the Additional Targets designated in the future. Searle has exclusive rights to commercialize any products resulting from the collaboration. If Searle elects to commercialize a product, Searle will fund and perform preclinical tests and clinical trials of the product candidate and will be responsible for regulatory approvals for, and marketing of, the product. Hybridon has agreed to perform certain research and development work exclusively with Searle. In addition, for each product candidate, Searle is required to make milestone payments to Hybridon of up to $10,000,000 upon the achievement of development milestones. Hybridon also will be entitled to royalties from net sales of products resulting from the collaboration. As long as Hybridon satisfies stated manufacturing capacities and capabilities, Hybridon will retain manufacturing rights, and Searle will be required to purchase its requirements of products from Hybridon on an exclusive basis at specified prices. Upon a change in control of Hybridon, Searle would have the right to terminate Hybridon's manufacturing rights, although the royalty payable to Hybridon from net sales would be increased in such event. If Searle designates all of the Additional Targets or if Hybridon fails to satisfy certain requirements relating to its manufacturing capacities and capabilities, Searle will have the right to require Hybridon to form a joint venture with Searle for the development of products in the Searle Field (other than products relating to molecular targets that have already been 12 designated by Searle) to which it carries onSearle will contribute $50,000,000 in Canada. MANUFACTURING TECHNOLOGY AND THEcash and certain intellectual property rights. Hybridon will also contribute certain intellectual property and technology and, if the fair market value of such technology is less that $50,000,000, Hybridon will, at its discretion, either contribute the difference in cash or have its share of the first profits of the joint venture reduced by the amount of such difference. Hybridon and Searle would each own 50% of the joint venture, although Searle's ownership interest could increase to 75% if the joint venture is established because of Hybridon's failure to satisfy the requirements relating to its manufacturing capacities and capabilities. Under the collaboration Searle also purchased 200,000 shares of Common Stock in Hybridon's initial public offering. Medtronic, Inc. In May 1994, Hybridon and Medtronic entered into a collaboration to test a drug delivery device for the potential use of delivering Hybridon's antisense oligonucleotides for the treatment of Alzheimer's disease. The agreement provides that Hybridon is responsible for the development of, and will hold all rights to, any drug developed in this collaboration, and Medtronic is responsible for the development of, and will hold all rights to, any delivery system developed in this collaboration. By mutual agreement, the parties may extend this collaboration to other neurodegenerative disease targets. Hybridon is not currently conducting any activities under this collaboration. As part of the collaboration, Medtronic purchased a total of 131,667 shares of Hybridon's Common Stock. HYBRIDON SPECIALTY PRODUCTS DIVISION -23- 24 The Company has developed a manufacturing technology platform which integrates key elements of the manufacturing process to increase the purity of oligonucleotide products, enhance the efficiency of the production process and increase the scale of production. The Company has developed two separate commercial scale oligonucleotide synthesizers. One of these machines was developed in an internal program and the other in a collaboration with Pharmacia. Both machines are designed with a capacity of up to 100 millimoles (approximately 300 grams per batch), although the Company believes that these machines may be able to exceed such capacity. Pharmacia has retained the right to sell the machine developed under the collaboration to third parties, subject to an obligation to pay Hybridon royalties on such third party sales. The Company believes that its machines are the first commercial scale oligonucleotide synthesizers designed for more advanced chemistries. In addition, the Company has implemented proprietary purification processes, which use water in place of chemical solvents, simplifying environmental compliance and permitting purification of kilogram batches of oligonucleotides. The Company has also developed proprietary chemical synthesis processes and novel reagents used in the synthesis process, which the Company believes will further decrease the cost of production of advanced oligonucleotides.(HSP) In 1996, Hybridon formed the HSP Division to capitalize on this technology and know-how and manufacture highly purified oligonucleotide compounds both for Hybridon's internal use and for sale to third parties, includingparties. Hybridon believes the interest in investigating the potential of gene expression modulation technologies will continue, and even increase, as the use of these technologies for the development of new classes of drugs becomes more widely understood. The Company's collaborative partners, on a custom contract basis. The Companystrategy is to position HSP to take advantage of this potential growth. There can be no assurance that such strategy will be successful or that industry growth will be as anticipated. See "Management's Discussion And Analysis Of Financial Condition And Results Of Operations -- Risk Factors -- HSP's Results May Be Lower Than Currently Anticipated" and "Management's Discussion And Analysis Of Financial Condition And Results Of Operations -- Risk Factors -- Hybridon Faces Intense Competition, And Hybridon's Products Could Be Rendered Obsolete; Many Of Hybridon's Competitors Have Greater Resources And Experience Than Hybridon." However, HSP is attempting to minimize this risk by manufacturing oligonucleotides for many applications at different stages of development. HSP currently is manufacturing oligonucleotides for both 13 diagnostic and therapeutic applications. HSP's customers are developing over 20 oligonucleotide drugs. HSP manufactures oligonucleotides at its 36,000 square foot leased manufacturing facility, which the CompanyHybridon believes is the firstonly facility capable of manufacturing large commercial-scale synthetic DNA production facility with a fully integrated manufacturing technology platform, including large-scale synthesis, purification and proprietary analytical support. The Companyoligonucleotides. HSP first began production of oligonucleotide compounds for sale to third parties in June 1996 and had revenues of approximately $1.1 million in 1996, and approximately $1.9 million in 1997. The Company's1997 and $2.8 million in 1998. HSP's principal customers include Genta/JBL Scientific, AronexLaJolla Pharmaceuticals, Inc. and Gen-Probe,MethylGene, Inc. HSP has developed a manufacturing technology platform which combines multiple methods to improve the production process and increase the amount of compounds produced in a single batch. HSP has developed two separate commercial scale synthesizers. One of these machines was developed by Hybridon alone and the other in collaboration with Pharmacia Biotech. Pharmacia has the right to make and sell synthesizers based on the design developed in the collaboration but must also pay Hybridon royalties on sales. Hybridon believes that its synthesizers are the first commercial-scale oligonucleotide synthesizers designed for advanced oligonucleotide chemistries. In order to strengthenaddition, HSP has developed purification processes which use water in place of chemical solvents, decreasing environmental impact and permitting purification of large amounts (kilograms) of oligonucleotides. HSP has also developed processes and unique chemicals used in the marketing of theprocess, which HSP Division's products, inbelieves may further lower its production costs. In 1996, the CompanyHybridon entered into a four-year sales and supply agreement with the Applied Biosystems Division of Perkin-Elmer. Under the agreement, Perkin-Elmer agreed to refer potential customers for the custom contract manufacture of oligonucleotides to Hybridon,HSP, and Hybridon agreed to purchase amidites from Perkin- ElmerPerkin-Elmer for the manufacture of oligonucleotides sold to such customers andcustomers. Hybridon is also required to pay Perkin-Elmer a percentage of the sales price paid by such customers. In addition, Perkin-Elmer licensed to Hybridon its oligonucleotide synthesis patents. The CompanyHSP is in discussions regardingtargeting three market areas for oligonucleotides: antisense and non-antisense therapeutics, diagnostics and genetic research. Within each area there is a possible joint venture with respect -24- 25 to thelarge number of potential products. HSP Division, which the Company believes would enable it to maximize the potentialis currently manufacturing oligonucleotides for third party manufacturing by the HSP Division, while ensuring for the Companydiagnostics, therapeutics and its collaborators a source of oligonucleotides. However, there can be no assurance that the Company will enter into any joint venture of the HSP Division or that the terms of any joint venture will be as anticipated by the Company.genetic research. The production of antisense compoundsoligonucleotides is similar in many respects to the chemical synthesis used in the production ofto produce conventional pharmaceuticals, and in contrast with typical biopharmaceuticals, does not involve any fermentation processes or living cells. Moreover,drugs. However, unlike many conventional drugs, antisense compounds targeted atused for different diseases can be manufacturedmade with the same nucleotidechemical building blocks and using the same manufacturing processes and equipment with minimal adjustments.changes. As a result, the knowledge and experience that the CompanyHSP obtains in the manufacture ofmanufacturing one oligonucleotide compound is substantially applicablecan be applied to the manufacture of other oligonucleotide compounds for the treatment of other diseasesdiseases. This also allows several different compounds to be manufactured 14 in one facility, potentially reducing capital expenditures required in the future and results in other manufacturing efficiencies. The Companyreducing the risks associated with building a plant for a single designated drug compound. HSP may need to further increase its manufacturing capacity through the purchase or construction of additional large-scaleby adding more oligonucleotide synthesizers in order to satisfy its anticipated future requirements for its product candidatesinternal and in order to manufacture oligonucleotides on a custom contract basis for sale to third parties.third-party requirements. In addition, in order to successfully commercialize its product candidatesdrugs or achieve satisfactory marginsprofit on sales, the CompanyHSP may be required to reduce further the cost ofits production of its oligonucleotide compounds.costs. See "Item 7. Management's"Management's Discussion andAnd Analysis ofOf Financial Condition andAnd Results ofOf Operations -- CertainRisk Factors That-- HSP's Results May Affect Future Results -- Limited Manufacturing Capability.Be Lower Than Currently Anticipated." The CompanyHybridon believes that it is currently manufacturing oligonucleotides in substantial compliance withaccording to FDA-required Good Manufacturing Practices (GMP). The FDA requirements for manufacturing in compliance with GMP, although itshas not formally inspected Hybridon's facility and procedures have not been formally inspected by the FDA and theHybridon may need to improve its procedures and documentation followed may have to be enhanced in the future as the Company expands its oligonucleotide production activities. Failureincreases. In 1997, HSP was one of two biotechnology companies chosen to establish toparticipate in the FDA's satisfactionBiotechnology PAI Pilot Initiative. This is a pilot program that allows FDA regulatory officials to provide advice on compliance with GMP can result in the FDA denying authorization to initiate or continue clinical trials, to receivestandards before companies submit drug approval of a product or to begin or to continue commercial marketing. In addition, the Company's manufacturing processes are subject to federal, state and local laws and regulations governing the use, manufacture, storage, handling and disposal of certain materials and waste products. -25- 26filings. MARKETING STRATEGY Hybridon plans to market the pharmaceutical productsdrugs it is developing either directly with its own sales group or through co-marketing, licensing, distribution or other arrangements with pharmaceutical and biotechnology companies. Hybridon's current strategy with respect to these products in development is to build a hospital-targeted direct sales group for products for market areas that can be accessed with a small to medium size sales force. Implementation of this strategy will depend on many factors, including the market potential of any such products the Company develops as well as on the Company's financial resources. The Company does not expect to establish a direct sales capability with respect to such products until such time as one or more of such products approach marketing approval. To market those products that will serve a large, geographically diverse patient population, the CompanyHybridon expects to enter into licensing, distribution or partnering agreements with pharmaceutical and biotechnology companies that have large, established sales organizations. To the extent the Company enters into marketing arrangements with third parties, any revenues received by the Company will be dependent on the efforts of such third parties, and there can be no assurance that such efforts will be successful. While the CompanyHybridon has developed general marketing strategies, it has not begun the implementation ofto implement any of these strategies with respect to any of these potential products.strategies. See "Management's Discussion And Analysis Of Financial Condition And Results Of Operations--Risk Factors - --Hybridon's Lack Of Marketing Experience Could Adversely Affect Its Ability To Commercialize Its Drugs." ACADEMIC AND RESEARCH COLLABORATIONS Hybridon enters into collaborative research agreements relating tofor specific disease targets and other research activities in order to augmentsupplement its internal research capabilities and to obtain access to the specialized knowledge or expertise of its collaborative partners. With respect to certain of the Company's drug development programs, the Companyexpertise. In some cases Hybridon relies primarily upon outside collaborators. Accordingly, termination of the Company'sa collaborative research agreements with any of these collaboratorsagreement could result in the termination of the related research program. In general, the Company'sHybridon's collaborative research agreements require the payment by Hybridon ofto pay various amounts into support of the research to be conducted. The Companyresearch. Hybridon usually provides the collaborator with selected oligonucleotides, 15 which the collaborator then tests in his or her assay systems.tests. If the collaborator creates any invention during the course of his or her efforts, solely or jointly with the Company,Hybridon, Hybridon generally has an option to negotiate an exclusive, worldwide, royalty-bearing license ofto the collaborator's rights in the invention for the purpose of commercializing any product incorporating such invention. Inventions developed solely by Hybridon's scientists as part of the collaboration generally are owned exclusively by Hybridon. Most of these collaborative agreements are non-exclusivenonexclusive and can be cancelled on relatively short notice. -26- 27 Since July 1997, the Companyas part of its restructuring, Hybridon has allowed a number of its collaborative research agreements to expire and has terminated certain others. The Companyothers, but has however, maintained the research agreementsthose which it has determinedbelieves are appropriate to support its current drug development programs. DRUG DEVELOPMENT SERVICES Hybridon's Drug Development Department has experience in the design and conduct of preclinical studies and has prepared and submitted the reports and other regulatory documents for Hybridon's three advanced chemistry antisense compounds which have entered Phase I studies. This development expertise is also being used through a contract with MethylGene under which Hybridon's Drug Development Department has helped design and monitor the preclinical studies for MethylGene's antisense compound, MG98, leading to MethylGene's submission of an Investigational New Drug ("IND") application in Canada and the United States. MethylGene compensated Hybridon for these services. Hybridon expects to perform similar services for OriGenix. PATENTS, TRADE SECRETS AND LICENSES Proprietary protection for the Company's product candidates,Hybridon's products, processes and know-how is important to Hybridon's business. Thus, the Company plans to prosecuteFor that reason, Hybridon prosecutes and enforce aggressively enforces its patents and proprietary technology. The Company'sHybridon's policy is to file patent applications to protect technology, inventions and improvements that are considered important to the development of its business. Hybridon seeks to establish a comprehensive proprietary position through a "layered" patent strategy covering the Company's families of oligonucleotide chemistries, the antisense sequences of the Company's oligonucleotide compounds and the overall chemical compositions of these oligonucleotide compounds. The Company believes that this approach may provide it with at least three independent levels of protection. Hybridon also seeks to protect its proprietary analytical and manufacturing processes. The patents and patent applications owned or exclusively licensed by the Company also are directed to many aspects of the Company's proprietary oligonucleotide production and analysis technology and ribozyme technology. The Company also relies upon trade secrets, know-how, continuing technological innovation and licensing opportunities to develop and maintain its competitive position. As of February 28,March 1, 1998, Hybridon owned or exclusively licensed 5562 issued U.S. patents, seven9 issued foreign patents, 227 allowed U.S. patent applications, two2 allowed Europeanforeign applications and 6263 other U.S. and 10599 other non-U.S. patent applications. The patents and applications owned or exclusively licensed by the Company cover various chemically advanced oligonucleotides, proprietary target sequences, specific preferred oligonucleotide products, methods for making and purifying oligonucleotides, analytical methods and methods for oligonucleotide-based therapeuticantisense treatment of various diseases. The U.S. patents owned or exclusively licensed by Hybridon expire at various dates ranging from 2006 to 2015. Under the terms of a license agreement with the Worcester Foundation (the "Foundation License"),16 Hybridon is the worldwide, exclusive licensee under several U.S. issued or allowed patents and various patent applications owned by University of Massachusetts Medical Center (formerly the Worcester FoundationFoundation) ("U. Mass") relating to oligonucleotides and their production and use.hybrid or mixed backbone chemistries. Many of these patents and patent applications have corresponding applications on file or corresponding patents in other major industrial countries. One of the issued U.S. patents (the "HIV Patent") and one of the issued European patents licensed from the Worcester Foundation broadly claimU. Mass cover antisense -27- 28 oligonucleotides as new compositions of matter for inhibitingstopping the replication of HIV. The other issued U.S. patents include claims covering composition and uses of oligonucleotides based on the Company's advanced chemistries, methods of oligonucleotide synthesis that are potentially applicable to large-scale commercial production, compositions of certain modified oligonucleotides that are useful for diagnostic tests or assays and methods of purifying full-length oligonucleotides after synthesis.oligonucleotides. The earliest expiration of the patents licensed to the CompanyHybridon by the Worcester FoundationU. Mass is 2006, when the HIV Patent expires. The CompanyHybridon also is the exclusive licensee under various other U.S. and foreign patents and patent applications, including two U.S. patents jointly owned by the Worcester Foundation and the Mount Sinai Medical Center of New York claiming the use of antisense oligonucleotides for the inhibition of influenza viruses and two U.S. patent applications owned by McGill University relating to oligonucleotides and DNA methyltransferase. The CompanyHybridon and Massachusetts General Hospital ("MGH") jointly own one issued U.S. patent directed to compositions of antisense oligonucleotides applicable to Alzheimer's disease. The CompanyHybridon holds an exclusive license to MGH's interests under such patent. The CompanyHybridon is a non-exclusivenonexclusive licensee of certain patents held by the NIHNational Institutes of Health ("NIH") relating to oligonucleotide phosphorothioates and a non-exclusivenonexclusive licensee of an NIH patent covering the phosphorothiolation of oligonucleotides. The field of each of these licenses extends to a wide variety of genetic targets. If certain of the claims of the NIH patents non-exclusively licensed to Hybridon are valid, certain of the Company's products in development would infringe these patents in the absence of the license. The U.S. Patent and Trademark Office ("the U.S. PTO"(the "PTO") has informed Hybridon that certain otherwise allowable patent applications exclusively licensed by the CompanyHybridon from the Worcester FoundationU. Mass have been submitted to the Board of Patent Appeals and Interferences to determine whether an interference should be declared with issued U.S. patents held by the NIH relating to oligonucleotide phosphorothioates.phosphoro-thioates. An interference proceeding is an inter- partiesa proceeding in the U.S. PTO to determine who is the first to invent a claimed invention, and thus who is entitled to a patent for the claimed invention. McDonnell Boehnen Hulbert & Berghoff, the Company'sHybridon's U.S. patent counsel, is of the opinion that the Worcester FoundationU. Mass patent application has a prima-facie case for priority against the NIH for an invention that includes phosphorothioate-modified oligonucleotides. However, there can be no assurance an interference canwill be declared, or if declared, as to the outcome thereof. An adverse outcome inIf Hybridon were to lose the interference, would not affect the non-exclusiveits nonexclusive license from the NIH to Hybridon of the NIH phosphorothioate patents.patents would not be affected. The U.S. PTO has also declared a four-way interference involving two additional U.S. patents relating to the Company'sHybridon's chimeric oligonucleotides which Hybridon exclusively licenses from U. Mass. This interference also involves patents owned by or exclusively licensed to Integrated DNA Technologies ("IDT"), Isis Pharmaceuticals, Inc. and Gilead Sciences, Inc. 17 All parties have agreed to settle the Worcester Foundation. There can be no assurance asinterference, and the settlement agreement has been filed with the PTO for approval. In connection with the settlement, Hybridon has obtained a license to the outcomecertain patents and patent applications owned by IDT which broadly claim chemical modifications to oligonucleotides. Hybridon has also granted a license to IDT to make, use and sell limited quantities of this interference. -28- 29oligonucleotides which incorporate certain of Hybridon's advanced chemistries. Under theits licenses, to which it is a party, the CompanyHybridon is obligated to pay royalties on its net sales by the Company of products or processes covered by a valid claim of a patent or patent applicationthe licensed to it. The Company also is requiredtechnology and in some cases to pay a specified percentage of any sublicense income that the CompanyHybridon may receive. These licenses impose various commercialization, sublicensing, insurance and other obligations on the Company.Hybridon. Failure of the CompanyHybridon to comply with these requirements could result in termination of the license. The Foundation License also grants the Company a right of first refusal to certain technology developed by the Worcester Foundation. The patent positions of pharmaceutical and biotechnology firms, including Hybridon, are generally uncertain and involve complex legal and factual questions. Consequently, even though Hybridon and its licensors are currently prosecutingprosecute their respective patent applications, with the U.S. Patent and Trademark Office and certain foreign patent authorities, the CompanyHybridon does not know whether any of itsthe applications or those of third parties under which the Company has or may obtain a license will result in the issuance of anyissue as patents or, if any patents are issued, whether they will provide significantadequate proprietary protection or will be circumvented or invalidated.protection. Since patent applications in the U.S.United States are maintained in secrecy until patents issue, and since publication of discoveries in the scientific or patent literature tend to lag behind actual discoveries by several months, Hybridon cannot be certain that it, or any licensor of patents to it, as the case may be, was the first creator of inventions claimed by pending patent applications or that Hybridon or any licensor, as the case may be, was the first to file patent applications for such inventions. See "Item 7. Management's"Management's Discussion andAnd Analysis ofOf Financial Condition andAnd Results ofOf Operations -- CertainRisk Factors That-- Hybridon May Affect Future Results --Be Unable To Obtain Or Enforce Patents; Its Patents and Proprietary Rights.May Not Provide Adequate Protection." Competitors of the CompanyHybridon's competitors and other third parties hold issued patents and pending patent applications relating to antisense and other gene expression modulation technologies, and it is uncertain whether these patents and patent applications willand/or particular genetic targets which could require the CompanyHybridon to alterchange its products or processes, pay substantial licensing fees or cease certain activities.activities, including an issued patent in Europe covering MDM2 (the "MDM2 Patent"). Hybridon is currently in license negotiations with the holder of the MDM2 Patent. There can be no assurance that Hybridon will be able successfully to obtain any such licenses at a reasonable cost or that licenses to such intellectual property will not be made available to competitors of Hybridon on an exclusive or nonexclusive basis. Failure to obtain such licenses could have a material adverse effect on Hybridon. See "Item 7. Management's"Management's Discussion andAnd Analysis ofOf Financial Condition andAnd Results ofOf Operations -- CertainRisk Factors That-- Hybridon May Affect Future Results --Be Unable To Obtain Or Enforce Patents; Its Patents and Proprietary Rights.May Not Provide Adequate Protection." In particular, the Company is aware of aPreviously, another European patent had been granted to a third party relating to certain types of stabilized synthetic oligonucleotides for use as therapeutic agents for selectively blocking the translation of a messenger RNA into a targeted protein by binding with a portion of the messenger RNA to which the stabilized synthetic oligonucleotide is substantially complementary. This European patent was revoked in entirety in an opposition 18 proceeding before the European Patent Office in September 1995. The holder of this patent has appealed such decision. -29- 30 Hybridon's practice is to requireThis appeal was dismissed on February 18, 1999. Hybridon requires its employees, consultants, members of its Scientific and Clinical Advisory Boards, outside scientific collaborators and sponsored researchers and other advisors to execute confidentiality agreements upon the commencement of employment or consulting relationships with the Company.agreements. These agreements provide that all confidential information developed or made known by Hybridon to the individual during the course of the individual's relationship with Hybridon is to be kept confidential, and not disclosed to third parties, subject to a right to publish certain information in the scientific literature in certain circumstances and subject to other specific exceptions. In the case of employees, the agreements provide that all inventions conceived by the individual shall beare the exclusive property of the Company.Hybridon. There can beis no assurance, however, that these agreements will provide meaningful protection for the Company'sHybridon's trade secrets or adequate remedies in the event of unauthorized use or disclosurebreach of such information.agreement. Hybridon engages in collaborations and sponsored research agreements and enters into preclinical and clinical testing agreements with academic and research institutions and U.S. government agencies, such as the NIH, to take advantage of their technical expertise and staff and to gain access to clinical evaluation models, patients, and relatedcertain technology. Consistent with pharmaceutical industry and academic standards, and the rules and regulations under the Federal Technology Transfer Act of 1986, these agreements may provide that developments and results will be freely published, that information or materials supplied by Hybridon will not be treated as confidential and that Hybridon may be required to negotiate a license to any such developments and results in order to commercialize products incorporating them. There can be no assurance that the CompanyHybridon will be able successfully to obtain any such license at a reasonable cost or that such developments and results will not be made available to competitors of the CompanyHybridon on an exclusive or nonexclusive basis. See "Item 1. Business"Business -- Academic and Research Collaborations." GOVERNMENT REGULATION TheHybridon's research, clinical development and production and marketing of the Company's products and its research and development activities are subject to regulationregulated for safety, effectiveness and quality by numerous governmental authorities in the U.S.United States and other countries. The CompanyHybridon believes that it is in material compliance with all applicable federal, state and foreign legal and regulatory requirements under whichrequirements. However, it operates. However, there can be no assuranceis possible that such legal or regulatory requirements will not be amended or that new legal or regulatory requirements will not be adopted, any one ofmay change, which could have a material adverse effect on the Company'sHybridon's business or results of operations. FDA Approval In the U.S., pharmaceutical products intended for therapeutic or diagnostic use in humans are subject to rigorous FDA regulation. The process of completing clinical -30- 31 trials and obtaining FDA approvals for a new drug is likely to take a number of years and requires the expenditure of substantial resources. There can be no assurance that any product will receive such approval on a timely basis, if at all. See "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations -- Certain Factors That May Affect Future Results -- No Assurance of Regulatory Approval; Government Regulation." The steps required before a new oligonucleotide-based pharmaceutical product for use in humans may be marketed in the U.S. include (i) preclinical tests, (ii) submission to the FDA of an IND application, which must become effective before human clinical trials commence, (iii) adequate and well-controlled human clinical trials to establish the safety and effectiveness of the product, (iv) submission of a New Drug Application ("NDA") to the FDA, and (v) FDA approval of the NDA prior to any commercial sale or shipment of the product. Preclinical tests include laboratory evaluation of product chemistry and formulation, as well as animal studies, to assess the potential safety and effectiveness of the product. Compounds must be manufactured according to GMP and preclinical safety tests must be conducted by laboratories that comply with FDA regulations regarding GLP. See "Item 1. Business -- Manufacturing." The results of the preclinical tests are submitted to the FDA as part of an IND and are reviewed by the FDA prior to the commencement of human clinical trials. Unless the FDA objects to, or makes comments or raises questions concerning, an IND, the IND will become effective 30 days following its receipt by the FDA. There can be no assurance that submission of an IND will result in FDA authorization to commence clinical trials. Clinical trials involve the administration of the investigational new drug to healthy volunteers and to patients, under the supervision of a qualified principal investigator. Clinical trials are conducted in accordance with Good Clinical Practices under protocols that detail the objectives of the study, the parameters to be used to monitor safety and the effectiveness criteria to be evaluated. Each protocol must be submitted to the FDA as part of the IND. Further, each clinical study must be conducted under the auspices of an independent Institutional Review Board (an "IRB"). The IRB will consider, among other things, ethical factors, the safety of human subjects and the possible liability of the institution. Clinical trials are typically conducted in three sequential phases, although the phases may overlap. In Phase I, the investigational new drug usually is administered to healthy human subjects and is tested for safety (adverse effects), dosage, tolerance, metabolism, distribution, excretion and pharmacodynamics (clinical pharmacology). Phase II involves studies in a limited patient population to (i) determine the effectiveness of the investigational new drug for specific indications, (ii) determine dosage tolerance and optimal dosage, and (iii) identify possible adverse effects and safety risks. When an investigational new drug is found to be effective and to have -31- 32 an acceptable safety profile in Phase II evaluation, Phase III trials are undertaken to further evaluate clinical effectiveness and to further test for safety within an expanded patient population at geographically dispersed clinical study sites. There can be no assurance that Phase I, Phase II or Phase III testing will be completed successfully within any specified time period, if at all, with respect to any of the Company's products subject to such testing. Furthermore, the Company, an IRB or the FDA may suspend clinical trials at any time if it is felt that the participants are being exposed to an unacceptable health risk. The results of the pharmaceutical development, preclinical studies and clinical studies are submitted to the FDA in the form of an NDA for approval of the marketing and commercial shipment of the product. The FDA may require additional testing or information before approving the NDA. In any event, the FDA may deny an NDA if applicable regulatory criteria are not satisfied. Moreover, if regulatory approval of a product is granted, such approval may require postmarketing testing and surveillance to monitor the safety of the product or may entail limitations on the indicated uses for which it may be marketed. Finally, product approvals may be withdrawn if compliance with regulatory standards is not maintained or if problems occur following initial marketing.Approvals In addition to product approval,approvals by the CompanyFDA as described above, Hybridon may be required to obtain a satisfactory inspection by the FDA covering the Company'sHybridon's manufacturing facilities before a product manufactured by the CompanyHybridon can be marketed in the U.S.United States. The FDA will review the Company'sHybridon's manufacturing procedures and inspect its facilities and equipment for compliance with GMP and other applicable rules and regulations. Any material 19 change by the CompanyHybridon in its manufacturing process, equipment or location would necessitate additional FDA review and approval. Foreign Regulatory Approval Whether or not FDA approval has been obtained, approval of a pharmaceutical product by comparable governmental regulatory authorities in foreign countries must be obtained prior to the commencement of clinical trials and subsequent marketing of such product in such countries. The approval procedure varies from country to country, and the time required may be longer or shorter than that required for FDA approval. Under European Union ("EU") law, either of two approval procedures may apply to the Company's products: a centralized procedure, administered by the EMEA (the European Medicines Evaluation Agency); or a decentralized procedure, which requires approval by the medicines agency in each EU Member State where the Company's products will be marketed. The centralized procedure is mandatory for certain biotechnology products and available at the applicant's option for certain other products. Whichever procedure is used, the safety, efficacy and quality of the -32- 33 Company's products must be demonstrated according to demanding criteria under EU law and extensive nonclinical tests and clinical trials are likely to be required. In addition to premarket approval requirements, national laws in EU Member States will govern clinical trials of the Company's products, adherence to good manufacturing practice, advertising and promotion and other matters. In certain EU Member States, pricing or reimbursement approval may be a legal or practical precondition to marketing. Other Regulation In addition to regulations enforced by the FDA, the CompanyHybridon also is subject to regulation under the Occupational Safety and Health Act and other present and potential future federal, state or local regulations. Furthermore,In addition, because the Company's research and development involves the controlled use ofHybridon uses hazardous materials, chemicals, viruses and various radioactive compounds, the Company's operations are subject toHybridon's must comply with U.S. Department of Transportation and Environmental Protection Agency requirements and other federal, state and foreign laws and regulations regarding hazardous waste disposal, air emissions and wastewater discharge, including without limitation the Environmental Protection Act, the Toxic Substances Control Act and the Resource Conservation and Recovery Act.waste-water discharge. Although the CompanyHybridon believes that its procedures for handling and disposing of such materials complyit complies with the standards prescribed by applicable regulations, it cannot completely eliminate the risk of accidental contamination or injury from these materials cannot be completely eliminated.materials. In the event of such an accident, the CompanyHybridon could be held liable for any damages that result and anyresult. Any such liability could have a material adverse effect on the Company.Hybridon. COMPETITION The Company's products under development are expected to address several different markets defined by the potential indications for which such products are developed and ultimately approved by regulatory authorities. For several of these indications, the Company'sHybridon's proposed products will be competing with products and therapies either currently existing or expected to be developed, including antisense oligonucleotides developed by third parties.parties for the same diseases. Competition among these products will be based,affected by, among other things, on product efficacy, safety, reliability, availability, price and patent position. An important factor will beprotection. In addition, the timing of market introduction of the Company's or competitive products. Accordingly, the relative speed withat which Hybridon can develop products, complete the clinical trials and approval processes and supply commercial quantities of the products to the market is expected towill be an important competitive factor. The Company'sHybridon's competitive position will also depend upon its ability to attract and retain qualified personnel, to obtain patent protection or otherwise develop proprietary products or processes, and to secure sufficient capital resources for the often substantial period between -33- 34 technological conception andfunds to sustain it until commercial sales.sales of its drugs occur. There are a number of companies, both privately and publicly held, that are conducting research and development activities on technologies and products aimed at therapeutic modulationregulation of gene expression. The Companyexpression, including antisense drugs. Hybridon believes that the industry-wide interest in these technologies and products will continue and will accelerate as the techniques which permit their application to drug development become more widely understood. There can be no assuranceaccelerate. It is possible that the Company'sHybridon's competitors will not succeed in developing products based on oligonucleotides or other technologies that are more effective than any which are being developed by the CompanyHybridon's or which would render the Company'sHybridon's technology and products obsolete and noncompetitive prioror noncompetitive. One competitor of Hybridon has recently received FDA approval to recovery bymarket an antisense therapeutic product for the Companytreatment of the research, development and commercialization expenses incurred with respect to those products.CMV retinitis. See "Management's Discussion And Analysis Of Financial Condition And Results Of Operations -- Risk Factors -- Hybridon Faces Intense Competition, And Hybridon's Products Could Be Rendered Obsolete; Many Of Hybridon's Competitors Have Greater Resources And Experience Than Hybridon." Furthermore, because of the fundamental differences between gene expression modulation20 antisense and other technologies, there may be indicationsdiseases for which such other technologies are superior to gene expression modulation. The development by others of new treatment methods not based on gene expression modulation technology for those indications for which the Company is developing compounds could render the Company's compounds noncompetitive or obsolete. Competitors of the Company engaged in all areas of drug discovery in the U.S. and other countries are numerous and include,antisense. Hybridon has many competitors, including, among others, major pharmaceutical and chemical companies, biotechnology firms, universities and other research institutions. Many of these competitors have substantially greater financial, technical and human resources than the Company.Hybridon. In addition, many of these competitors have significantly greater experience than the CompanyHybridon in undertaking preclinical studies and human clinical trials of new pharmaceutical products and obtaining FDA and other regulatory approvals of products for use in health care. Accordingly, the Company'sHybridon's competitors may succeed in obtaining FDA or other regulatory approvals for products more rapidly than the Company.Hybridon. Furthermore, if the Company is permittedHybridon receives approval to commence commercial sales of products, it will also be competing with respect to manufacturing efficiency and marketing capabilities, areas in which it has limited or no experience. In its HSP Division operations, the Companyalso competes against a number of third parties, and thereparties. There is the possibility of internal production by the Company's customers.that Hybridon's customers could begin to produce their drugs internally or could find other sources for their manufacturing needs. Many of these third parties and customers have greater financial, technical and human resources than the Company.Hybridon. Key competitive factors will include the price and quality of the products as well as manufacturing capacity and ability to comply with specifications and to fulfill orders on a timely basis. The CompanyHybridon may be required to reduce the cost of its product offerings to meet competition. See "Item 7. Management's"Management's Discussion andAnd Analysis ofOf Financial Condition andAnd Results ofOf Operations -- CertainRisk Factors That May Affect Future Results -- Competition.Hybridon Faces Intense Competition, And Hybridon's Products Could Be Rendered Obsolete; Many Of Hybridon's Competitors Have Greater Resources And Experience Than Hybridon." -34- 35 EMPLOYEES As of March 30, 1998,31, 1999, Hybridon employed 7851 individuals full-time, of whom 4020 held advanced degrees. Sixty-threeNineteen of these employees are engaged in research and development activities and 15eight are employed in finance, corporate development and legal and general administrative activities. In addition, 27twenty-four of these employees are employees of the HSP, Division, of whom eightfive are employed in process development and quality control. Many of the Company'sHybridon's management and professional employees have had prior experience with pharmaceutical, biotechnology or medical products companies. None of the Company'sHybridon's employees is covered by a collective bargaining agreements,agreement, and management considers relations with its employees to be good. SCIENTIFIC ADVISORY BOARD The Company's Scientific Advisory Board consists of individuals with recognized expertise in gene expression modulation technology, antisense oligonucleotides, oligonucleotide biochemistry, human genetics, medicine and related fields who advise the Company about current and long-term scientific planning, research and development. The Scientific Advisory Board holds approximately three or four formal meetings annually. All members of the Scientific Advisory Board are employed by employers other than the Company, primarily academic institutions, and may have commitments to or consulting or advisory agreements with other entities that may limit their availability to the Company. These companies may also be competitors of Hybridon. Several members of the Scientific Advisory Board have, from time to time, devoted significant time and energy to the affairs of the Company. However, except for Drs. Zamecnik and Wyngaarden, who are parties to consulting agreements with the Company, no members are regularly expected to devote more than a small portion of their time to Hybridon. As part of its efforts to reduce expenditures, the Company plans to reduce the size of the Scientific Advisory Board and rely in part on individual consultants. The following persons are currently members of the Scientific Advisory Board: Paul C. Zamecnik, M.D. (Chairman) is a founder of Hybridon and serves as a director of the Company. Dr. Zamecnik has served as a Principal Scientist of the Worcester Foundation and as the Collis P. Huntington Professor of Oncologic Medicine Emeritus at the Harvard Medical School since 1979. Daniel M. Brown, Sc.D., F.R.S. has been a Fellow of King's College, University of Cambridge, since 1953, and currently serves as Vice-Provost of King's College and as an Attached Scientific Worker in the Medical Research Council Laboratory of Molecular Biology at the University of Cambridge. Dr. Brown is also an Emeritus -35- 36 Reader in Organic Chemistry at the University of Cambridge and became a Fellow of the Royal Society in 1982. Har Gobind Khorana, Ph.D. has served as a Sloan Professor in the Departments of Biology and Chemistry at the Massachusetts Institute of Technology since 1970. Dr. Khorana has been awarded numerous prestigious honors, including the Nobel Prize in Medicine or Physiology in 1968 and the National Medal of Science in 1987. Roger E. Monier, Ph.D. has served as Director of Molecular Oncology at the Institute Gustave Roussy in Paris since 1985. From 1980 to 1985, Dr. Monier served as the Director of Life Sciences at the Centre Nationale de Recherches Scientifiques in Paris. Dr. Monier was elected to the French Academy of Science in 1992. Peter Palese, Ph.D. has served as a Professor in the Department of Microbiology at Mount Sinai School of Medicine in New York since 1978 and has served as Chairman of the Department of Microbiology since 1987. Thoru Pederson, Ph.D. is a Principal Scientist of Cell Biology at the Worcester Foundation and has served as its President and Director since 1985. Dr. Pederson is also a Professor of Biochemistry and Molecular Biology at the University of Massachusetts Medical School. From February 1990 to November 1993, Dr. Pederson served as a director of the Company. Jerry A. Weisbach, Ph.D. is an independent consultant to biotechnology and pharmaceutical companies. Dr. Weisbach served as Director of Technology Transfer and as an Adjunct Professor at The Rockefeller University from 1988 to 1994. Dr. Weisbach served as Corporate Vice President of Warner-Lambert Company, an international pharmaceutical company, from 1981 to 1987 and President of the Parke- Davis Pharmaceutical Research Division of Warner-Lambert Company from 1979 to 1987. James B. Wyngaarden, M.D. a director of the Company, served as the Foreign Secretary of the National Academy of Sciences and the Institute of Medicine of the National Academy of Sciences from 1990 to 1994. Dr. Wyngaarden also served as the Director of the NIH from 1982 to 1989 and as a council member of the Human Genome Organization from 1990 to 1993 and as its Director from 1990 to 1991. Members of the Company's Scientific Advisory Board are paid $2,500 per calendar quarter for their services in such capacity and are reimbursed for their expenses incurred in connection with attendance at its meetings. Members of the Scientific Advisory Board also have received options to purchase Common Stock of the Company under the Company's stock option plans. CLINICAL ADVISORY BOARD -36- 37 The Company's Clinical Advisory Board was formally established in November 1993 to advise the Company with respect to clinical trials of the Company's product candidates. The Clinical Advisory Board holds approximately three or four formal meetings annually. The Clinical Advisory Board consists of individuals with recognized expertise in the conduct of clinical trials and the regulatory approval process. All members of the Clinical Advisory Board are employed by employers other than the Company, primarily academic institutions, and may have commitments to or consulting or advisory agreements with other entities that may limit their availability to the Company. These companies may also be competitors of Hybridon. Several members of the Clinical Advisory Board have, from time to time, devoted significant time and energy to the affairs of the Company. However, except for Drs. Wyngaarden, who is a director of and a consultant to the Company, and Drs. Groopman and Weisbach, who are consultants to the Company, no members are regularly expected to devote more than a small portion of their time to Hybridon. As part of its efforts to reduce expenditures, the Company plans to reduce the size of the Clinical Advisory Board and rely in part on individual consultants. The following persons are currently members of the Clinical Advisory Board: Dr. Wyngaarden's (Chairman) background and experience are described above under "Item 1. Business -- Scientific Advisory Board." Robert M. Chanock, M.D. has served as an infectious disease epidemiologist and laboratory virologist at the NIH since 1957. Prior to that Dr. Chanock held academic appointments at the University of Cincinnati College of Medicine and the Johns Hopkins University School of Hygiene and Public Health. Dr. Chanock has been awarded numerous prestigious honors, including the ICN International Prize in Virology in 1990, the Bristol-Myers Squibb Award for Distinguished Achievement in Infectious Diseases Research in 1993 and the Albert B. Sabin Foundation award. Vincent T. DeVita, Jr., M.D. has served as Director of the Yale Cancer Center since 1993. Dr. DeVita served as an attending physician and member of the Program of Molecular Pharmacology and Therapeutics from 1988 to 1993, and as Physician-in- Chief from 1988 to 1991, at Memorial Sloan Kettering Cancer Center. From 1980 to 1988, Dr. DeVita served as Director of the National Cancer Institute, NIH. In 1995, he was honored with the City of Medicine Award. Jerome Groopman, M.D. has served as Chief of the Division of Hematology/Oncology at the New England Deaconess Hospital since 1985. He has also served as a Professor of Medicine at Harvard Medical School since 1993. Dr. Groopman is a member of the AIDS Advisory Committee, the Biologics Committee of the FDA, the AIDS Clinical Trials Group of the NIH and the AIDS Basic Science -37- 38 Research Study Section A, NIAID. Paul Meier, Ph.D. has served as Professor and Chairman of the Department of Statistics and Division of Biological Sciences at Columbia University since 1985. Dr. Meier has served as an advisor to the FDA on the statistical analysis of clinical trials since 1991. Dr. Weisbach's background and experience are described under "Item 1. Business -- Scientific Advisory Board." Members of the Company's Clinical Advisory Board are paid $2,500 per calendar quarter for their services in such capacity and are reimbursed for their expenses incurred in connection with attendance at its meetings. ITEM 2. PROPERTIES. The Company's executive, administrative and research and development facilities, comprising approximately 91,500 square feet (a portion of which is subleased as described below), currently are located in Cambridge, Massachusetts. These facilities are held under a lease which expires in 2012, but may be extended at Hybridon's option for two additional five-year terms. The lease provides for an annual rent of approximately $38.00 per square foot for the first five years, approximately $42.00 per square foot for the second five years and approximately $47.00 per square foot for the third five years. A substantial portion of the Cambridge headquarters facility (approximately 41,500 square feet of office and laboratory space) has been subleased to a third party under an agreement extending to September 1, 1999. The Company is evaluating several long term options for the Cambridge facility, including a possible transfer of its leases or a sale of its ownership interest in the Cambridge facility. In either case, such transaction would require the Company to relocate its headquarters. In addition, the Company leases additional space in Cambridge, Massachusetts comprising approximately 26,000 square feet for a term expiring April 30, 2007 at an annual rent of approximately $23 per square foot. The Company is currently subleasing approximately 20,000 square feet of this facility to a third party under a sublease expiring September 30, 2000. The CompanyPROPERTIES Hybridon leases its 36,000 square foot manufacturing facility in Milford, Massachusetts under a lease which expires in 2004. The term of the lease may be extended at Hybridon's option for two additional five-year terms. 21 In addition, Hybridon leases supplemental laboratory space in Cambridge, Massachusetts comprising approximately 26,000 square feet for a term expiring April 30, 2007 at an annual rent of approximately $23 per square foot. Hybridon is currently subleasing approximately 20,000 square feet of this facility to its manufacturing operations, the Company conducts process and analytical chemistry operations at this facility. Effective March 31, 1998, the Company has terminated the lease for its offices in Paris, France. For a description of various arrangements relating to the Cambridge headquarters facility -38- 39 and the Paris facility, see "Certain Relationships and Related Transactions -- Transactions with Pillar S.A. and Certain Affiliates" in the Company's 1998 Proxy Statement (as defined in "Item 10. Directors and Executive Officers of the Registrant").third party under a sublease expiring September 30, 2000. ITEM 3. LEGAL PROCEEDINGS. The CompanyPROCEEDINGS Hybridon is not a party to any litigation that it believes could have a material adverse effect on the CompanyHybridon or its business. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. AtHOLDERS No matters were submitted to a Special Meetingvote of Stockholders held on November 18, 1997,security holders in the Company's stockholders, by the vote specified below, approved an amendment to the Company's Certificate of Incorporation to effect a reverse split of the Company's Common Stock, pursuant to which each five shares of Common Stock then outstanding were converted into one share of Common Stock. For Against Abstain Broker Non-Votes --- ------- ------- ---------------- 14,652,634 77,698 13,563 0quarter ended December 31, 1998. EXECUTIVE OFFICERS AND SIGNIFICANT EMPLOYEES OF THE COMPANY The executive officers and significant employees of the Company and their ages as of March 13, 199831, 1999 are as follows: NAME AGE POSITION ---- --- -------- Executive Officers E. Andrews Grinstead, III...... 52 Chairman of Board of Directors, President and Chief Executive Officer Sudhir Agrawal, D. Phil........ 44 Senior Vice President of Discovery, Chief Scientific Officer and Director Significant Employees Robert G. Andersen............. 47 Vice President of Operations and Planning and Treasurer Jose E. Gonzalez, Ph.D......... 51 Vice President of Manufacturing and General Manager, Hybridon Specialty Products Division Philippe Guinot, M.D., Ph.D.... 48 Vice President of Drug Development and General Manager, Hybridon Europe -39- 40 NAME AGE POSITION ---- --- -------- R. Russell Martin, M.D......... 62 Vice President of Drug Development Jin-Yan Tang, Ph.D............. 52 Vice President of Production Mark C. Wiggins................ 42 Vice President of Business Development and MarketingEXECUTIVE OFFICERS
NAME AGE POSITION ---- --- -------- E. Andrews Grinstead, III............. 53 Chairman of Board of Directors, President and Chief Executive Officer Sudhir Agrawal, D. Phil............... 45 Senior Vice President of Discovery, Chief Scientific Officer and Director 22 SIGNIFICANT EMPLOYEES NAME AGE POSITION - ---- --- -------- Robert G. Andersen.................... 48 Vice President of Operations and Planning and Treasurer Judith Marquis, Ph.D, D.A, B.T........ 52 Vice President of Pre-Clinical Development R. Russell Martin, M.D. .............. 63 Vice President of Drug Development Jin-Yan Tang, Ph.D. .................. 55 Vice President of Production Cheryl M. Northrup.................... 42 Vice President and General Counsel
Mr. Grinstead joined the Company in June 1991 and was appointed Chairman of the Board and Chief Executive Officer in August 1991 and President in January 1993. He has served on the Board of Directors since June 1991. Prior to joining the Company, Mr. Grinstead served as Managing Director and Group Head of the life sciences group at Paine Webber, Incorporated, an investment banking firm, from 1987 to October 1990; Managing Director and Group Head of the life sciences group at Drexel Burnham Lambert, Inc., an investment banking firm, from 1986 to 1987; and Vice President at Kidder, Peabody & Co. Incorporated, an investment banking firm, from 1984 to 1986, where he developed the life sciences corporate finance specialty group. Mr. Grinstead served in a variety of operational and executive positions with Eli Lilly and Company ("Eli Lilly"), an international pharmaceutical company, from 1976 to 1984, most recently as General Manager of Venezuelan Pharmaceutical, Animal Health and Agricultural Chemical Operations and at Lilly Corporate Staff as Administrator, Strategic Planning and Acquisitions. SinceFrom 1991 until its merger with another company in 1998, Mr. Grinstead has served as a director of EcoScience Corporation, a development stage company engaged in the development of biopesticides, and has served since 1991 as a director of Pharmos Corporation, a development stage company engaged in the development of novel pharmaceutical compounds and drug delivery systems. Mr. Grinstead also serves as a director of Meridian Medical Technologies, Inc., a pharmaceutical and medical device company. Mr. Grinstead was appointed to The President's Council of the National Academy of Sciences and the Institute of Medicine in January 1992 and the Board of the Massachusetts Biotech Council in 1997. Since 1994, Mr. Grinstead has served as a member of the Board of Trustees of the Albert B. Sabin Vaccine Foundation, a charitable foundation dedicated to disease prevention. Mr. Grinstead received an A.B. from Harvard College in 1967, a J.D. from the University of Virginia School of Law in 1974 and an M.B.A. from the Harvard Graduate School of Business Administration in 1976. Dr. Agrawal joined the Company in February 1990 and served as Principal Research Scientist from February 1990 to January 1993 and as Vice President of Discovery from December 1991 to January 1993 prior to being appointed Chief Scientific Officer in January 1993 and Senior Vice President of Discovery in March 1994. He has served on the Board of 23 Directors since March 1993. Prior to joining the Company, Dr. Agrawal served as a Foundation Scholar at the Worcester Foundation from 1987 through 1991. Dr. Agrawal served as a Research Associate at the Medical -40- 41 Research Council Laboratory of Molecular Biology in Cambridge, England, from 1985 to 1986, studying synthetic oligonucleotides. Dr. Agrawal received a B.Sc. in chemistry, botany and zoology in 1973, an M.Sc. in organic chemistry in 1975 and a D. Phil. in chemistry in 1980 from Allahabad University in India. Mr. Andersen joined the Company and was appointed Vice President of Systems Engineering and Management Information Systems in November 1996 prior to being appointed Vice President of Operations and Planning in 1997 and Treasurer of the Company in January 1998. Prior to joining the Company, Mr. Andersen served in a variety of positions at Digital Equipment Corporation, a computer company, from 1986 to 1996, most recently as Group Manager of the Applied Objects Group. From 1978 to 1986, Mr. Andersen served in a variety of positions at United Technologies Corporation, an aviation technology company, most recently as Director of Quality. Mr. Andersen received his B.E.E. in Electrical Engineering from The City College of New York in 1972 and a M.S. from Northeastern University in 1978. Dr. Gonzalez joined the Company and was appointed Vice President of Manufacturing in August 1995 and was appointed General Manager, Hybridon Specialty Products Division, in September 1997. Prior to joining the Company, Dr. Gonzalez served as Vice President of Manufacturing Operations at Enzon Corporation, a biotechnology company, from 1993 to 1995. From 1977 to 1993, Dr. Gonzalez served in a variety of positions at The Upjohn Company, a pharmaceutical company, most recently as Associate Director of Bioprocess Development. Dr. Gonzalez received a B.S. in chemistry from the University of Miami in 1969 and a Ph.D. in biochemistry from Purdue University in 1974. Dr. Guinot joined the Company and was appointed Vice President of European Drug Development and General Manager of Hybridon Europe in September 1995. Prior to joining the Company, Dr. Guinot served as a consultant to the Laboratoire Francais du Fractionnemant et des Biotechnologies (the "LFB") from 1994 to 1995, where he was responsible for conducting audits of all of the LFB's research and development programs. From 1981 to 1994, Dr. Guinot served in a variety of positions at the Beaufour-Ipsen Group, a group of affiliated pharmaceutical companies, most recently as General Manager of the Institute Henri Beaufour where he was responsible for the planning, strategy, budget and coordination of the Beaufour-Ipsen Group's product development efforts. In addition, Dr. Guinot has served as an Adjunct Professor of Medicine at the University of California, Davis since 1992, an Adjunct Professor of Physiology at New York Medical College since 1991 and Consultant Physician in Internal Medicine at Broussais Hospital in Paris. Dr. Guinot received an M.D. from the University of Paris in 1975 and a Ph.D. in biophysics from Clermont Ferrand in 1994. Dr. Martin joined the Company and served as Vice President of Clinical Research from April 1994 to February 1997 prior to being appointed Vice President of -41- 42 Drug Development in February 1997. Prior to joining the Company, Dr. Martin served in a variety of positions at Bristol Myers Squibb from 1983 to 1994, most recently as Vice President of Clinical Research (Infectious Diseases). During such period, he served as an Adjunct Associate Professor of Medicine and Associate Clinical Professor at Yale University School of medicine from 1987 to 1994, Clinical Professor at University of Connecticut School of Medicine from 1986 to 1993 and Adjunct Professor of Medicine at Baylor College of Medicine from 1993 to 1994. Prior to joining Bristol Myers Squibb, Dr. Martin served as Professor of Medicine, Microbiology and Immunology at Baylor College from 1975 to 1983. Dr. Martin received an A.B. in American studies from Yale University in 1956 and an M.D. from the Medical College of Georgia in 1960. Dr. Marquis joined the Company in April, 1995, and served as Director of Drug Safety Evaluation until January, 1998 when she was appointed Vice President of Preclinical Development. Prior to joining the Company, Dr. Marquis served as Director of Preclinical Development at Procept, Inc., from 1993 to 1995, and Director of Life Sciences Research at Arthur D. Little, Inc., from 1989 to 1993. Prior to joining the pharmaceutical industry, Dr. Marquis spent 16 years in medical research and education at Tufts University School of Medicine. Dr. Marquis received a B.S. in Biology from Trinity College of Vermont in 1973 and a Ph.D. in physiology and biophysics from the University of Vermont School of Medicine. She is board certified in toxicology and a former president of the American Board of Toxicology. 24 Ms. Northrup joined the Company in 1997 and was appointed Vice President and General Counsel in June 1998. Ms. Northrup served as Corporate Counsel to ImmuLogic Pharmaceutical Corporation from 1996 to 1997 and as a Director of the Wallace Law Registry from 1994 to 1996. Ms. Northrup also served as Director of Legal Services of the Boston Five Cents Savings Bank from 1992 until 1994 and as Associate General Counsel to American Finance Group in 1990. Prior to joining American Finance Group, Ms. Northrup was an Associate from 1981 to 1990 and a Partner from 1990 to 1991 of Peabody & Brown, a law firm in Boston, Massachusetts. Ms. Northrup received her A.B. degree from Smith College in 1978 and a J.D. degree from Boston College Law School in 1981. Dr. Tang joined the Company in 1991 and served as Senior Research Scientist from 1991 to 1993, Director of Oligonucleotide Chemistry from 1993 to 1994 and Executive Director of Process Chemistry from 1994 to April 1995 prior to being appointed Vice President of Process Development in April 1995. In November of 1997, Dr. Tang was appointed Vice President of Production. Prior to joining the Company, Dr. Tang served as a Visiting Fellow at the Worcester Foundation from 1988 to 1991. He also served as a Visiting Professor at the University of Colorado in 1988. Dr. Tang received a B.S. in biochemistry from Shanghai University of Sciences and Technology in 1965 and a Ph.D. from the Shanghai Institute of biochemistryBiochemistry in 1978. Mr. Wiggins joined the Company and was appointed Vice President of Business Development and Marketing in November 1996. Prior to joining the Company, Mr. Wiggins served in a variety of positions at Schering-Plough Corporation, a pharmaceutical company, from 1986 to 1996, most recently as the Director of Business Development. From 1980 to 1986, Mr. Wiggins held various marketing positions at Ortho Pharmaceuticals, Inc., a pharmaceutical company, and Pfizer, Inc., a pharmaceutical company. Mr. Wiggins received his B.S. in Finance from Syracuse University in 1978 and a M.B.A. from the University of Arizona in 1980. -42-25 43 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.MATTERS (a) Market Information ------------------ From January 24, 1996 until December 2, 1997, the Company'sHybridon's Common Stock was traded on the Nasdaq National Market under the symbol "HYBN." Prior to January 24, 1996, there was no established public trading market for the Company'sHybridon's Common Stock. On December 2, 1997, the Company'sHybridon's Common Stock was delisted from the Nasdaq National Market and began being quoted on the NasdaqNASD OTC Bulletin Board. Prices reflected on the NasdaqNASD OTC Bulletin Board may reflect inter-dealer prices, without retail mark-up, mark-downs or commissions and may not necessarily represent actual transactions. On December 10, 1997 the CompanyHybridon effected a one-for-five reverse stock split of its Common Stock. As a result of the reverse stock split, each five shares of Common Stock was automatically converted into one share of Common Stock, with cash paid in lieu of any fractional shares. The following table sets forth for the periods indicated the high and low sales prices per share of the Common Stock during each of the quarters set forth below as reported on the Nasdaq National Market and the NasdaqNASD OTC Bulletin Board since January 24, 1996 and as adjusted to reflect the December 1997 reverse stock split.
HIGH LOW ---- --- 1996 - ---- First Quarter (from January 24, 1996).................. $71.250 $43.750 Second Quarter.................................Quarter............................... 59.375 25.625 Third Quarter..................................Quarter................................ 59.375 33.125 Fourth Quarter.................................Quarter............................... 43.125 26.250 1997 - ---- First Quarter..................................Quarter................................ $43.125 $28.125 Second Quarter.................................Quarter............................... 35.625 25.000 Third Quarter..................................Quarter................................ 28.125 7.500 Fourth Quarter.................................Quarter............................... 4.859 2.609 26 1998 - ---- First Quarter................................ 3.359 1.000 Second Quarter............................... 2.75 1.609 Third Quarter................................ 2.516 1.125 Fourth Quarter............................... 3.25 1.125 1999 - ---- First Quarter................................ 1.953 1.000
-43- 44 The reported closing bid price of the Common Stock on the NasdaqNASD OTC Bulletin Board on MarchApril 13, 19981999 was $2.4375$1.1875 per share. (b) Holders ------- The number of stockholdersCommon Stockholders of record on MarchApril 13, 19981999 was 297.351. (c) Dividends --------- The Companydividend rate of Hybridon's Series A convertible preferred stock (the "Series A Preferred Stock") is 6.5% per annum, payable semi-annually in arrears. These dividends may be paid either in cash or in additional shares of Series A Preferred Stock, at the discretion of Hybridon. Hybridon has never declared or paid cash dividends on its capital stock and the Company does not expect to pay any cash dividends on its Common Stock or any cash dividends on the Series A Preferred Stock in the foreseeable future. The indentureIndenture under which the CompanyHybridon issued $50.0 million of the 1997its 9% Convertible Subordinated Notes (the "9% Notes") on April 2, 1997 limits the Company'sHybridon's ability to pay dividends or make other distributions on its Common Stock or to pay cash dividends on the Series A Preferred Stock. As of December 31,1998, $1.3 million in aggregate principal amount of the 9% Notes remained outstanding. In addition, the CompanyHybridon is currently prohibited from paying cash dividends under a credit facility with a commercial bank (the "Bank Credit Facility").$6,000,000 secured loan, which is owned by affiliates of two members of Hybridon's Board of Directors. See Note 7(b) to the Consolidated Financial Statements. (d) Recent Sales of Unregistered Securities --------------------------------------- During the quarterly period ended December 31, 1997,1998, the Company did not sell any securities that were not registered under the Securities Act of 1933, as amended (the "Securities Act"). -44-amended. 27 45 ITEM 6. SELECTED FINANCIAL DATA.DATA The selected financial data presented below for each of the years ended December 31, 1993, 1994, 1995, 1996 and 1997 have been derived from the Company's Consolidated Financial Statements that have been audited by Arthur Andersen LLP, independent public accountants. This financial data should be read in conjunction with the Management's Discussion and Analysis of Financial Condition and Results of Operations, the Consolidated Financial Statements and the Notes thereto and the other financial information appearing elsewhere in this Annual Report on Form 10-K.
Years Ended December 31, -------------------------------------------------------------------- 1993----------------------------------------------------------------------- 1994 1995 1996 1997 -------- -------- -------- -------- --------1998 ---- ---- ---- ---- ---- (In thousands, except per share data) Statement of Operations Data: Revenues Research and development ............ $ 917development................... $ 1,032 $ 1,186 $ 1,419 $ 945 $ 1,100 Product revenue ..................... --and service revenue................ -- -- 1,080 1,877 3,254 Royalty income ...................... --income............................. -- -- 62 48 -- Interest income ..................... 267income............................ 135 219 1,447 1,079 -------- -------- -------- -------- -------- 1,184148 ------- ------- ------- ------- ------- 1,167 1,405 4,008 3,949 4,502 Operating Expenses Research and development ............ 16,168development................... 20,024 29,685 39,390 46,828 20,977 General and administrative .......... 4,372administrative................. 6,678 6,094 11,347 11,026 Interest ............................ 38011,027 6,573 Interest................................... 69 173 124 4,536 Restructuring .......................2,932 Restructuring.............................. -- -- -- 11,020 -- ------- ------- ------- ------- ------- Total operating expenses.............. 26,771 35,952 50,861 73,410 30,482 ------- ------- ------- ------- ------- Loss from operations............................ (25,604) (34,547) (46,853) (69,461) (25,980) Extraordinary item: Gain on exchange of 9% convertible -- -- -- -- 11,020 -------- -------- -------- -------- -------- Total operating expenses ... 20,920 26,771 35,952 50,861 73,410 -------- -------- -------- -------- --------8,877 subordinated notes payable................. ------- ------- ------- ------- ------- Net Loss .................................. $(19,736)Loss........................................ (25,604) (34,547) (46,853) (69,461) (17,104) Accretion of preferred stock dividends.......... -- -- -- -- 2,689 ------- ------- ------- ------- ------- Net loss to common stockholders................. $(25,604) $(34,547) $(46,853) $(69,461) $(19,793) ======== ======== ======== ======== ======== Basic and Diluted Netnet loss per common share: Loss per Common Share(1) .................................. (55.80)share before extraordinary item... $(70.77) $(94.70) $ (10.24) $ (13.76) $ (2.19) Extraordinary Item......................... - - - - 0.75 ------- ------- ------- ------- ------- Net loss per share......................... (70.77) (94.70) (10.24) (13.76) (1.44) Accretion of preferred stock dividends..... - - - - (.23) ------- ------- ------- ------- ------- Net loss per share applicable to common shareholders............................... $ (70.77) $ (94.70) $ (10.24) $ (13.76) $ (1.67) ======== ======== ======== ======== ================== ========= ========= Shares Used in Computing Basic and Diluted Net Loss per Common Share(1)....... 354Share........................... 362 365 4,576 5,050 11,859 ======== ======== ======== ======== ======== Pro Forma Net Loss per Common Share(1) .... (11.71) (11.04) $ (11.02) $ (9.67) $ (13.76) ======== ======== ======== ======== ======== Shares Used in Computing Pro Forma Net Loss per Common Share(1)................... 1,686 2,320 3,135 4,843 5,050 ======== ======== ======== ======== ========
-45- 46
December 31, -------------------------------------------------------- 1993 1994 1995 1996 1997 -------- -------- --------- --------- --------- (In thousands) ========== ========= ========= Balance Sheet Data: Cash, cash equivalents and short-term investments(2) ......................... $ 8,767 $ 3,396 $ 5,284investments..................................... $3,396 $5,284 $ 16,419 $ 2,202 5,608 Working capital (deficit) .................. 8,357....................... (1,713) 210 8,8888,891 (24,100) (5,614) Total assets ............................... 15,243assets.................................... 11,989 19,618 41,537 35,072 16,536 Long-term debt, and capital lease obligations, net of current portion ..... 79portion.......... 1,522 1,145 9,032 3,282 6,473 9% Convertible Subordinated Notes Payable............................... --Payable................................... -- -- -- 50,000 1,306 Accumulated Deficit accumulated in the development stage ........................ (42,190) (67,794) (102,341) (149,194) (218,655) (238,448) Total stockholders' equity (deficit) ....... 12,178............ 4,774 12,447 22,855 (46,048) -------- -------- --------- -------- ---------2,249
(1) Computed on the basis described in Note 2(b) of Notes to Consolidated Financial Statements attached as APPENDIX A hereto. (2) Short-term investments consisted of U.S. government securities with maturities greater than three months but less than one year from the purchase date. -46-28 47 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.OPERATIONS GENERAL The CompanyHybridon is engaged in the discovery and development of genetic medicines based on antisense technology. The CompanyHybridon commenced operations in February 1990 and since that time has been engaged primarily in research and development efforts, development ofdeveloping its manufacturing capabilities, and organizational efforts, including recruitment of scientific and management personnel, and raising capital. To date, the Company has not received revenue from the sale of biopharmaceutical products developed by it. In order to commercialize its owntherapeutic products, the CompanyHybridon will need to address a number of technological challenges and comply with comprehensive regulatory requirements. Accordingly, it is not possible to predict the amount of funds that will be required or the length of time that will pass before the Company receives revenues from sales of any of these products. All revenues received by the CompanyHybridon to date have been derived from collaborative agreements, interest on invested funds and revenues from the custom contract manufacturing of synthetic DNA and reagent products by the Company's HSP Division. The CompanyHSP. Hybridon has very limited cash resources and substantial obligations to lenders, equipment lessors,its real estate landlords, trade creditors, and trade creditors. The Company'sothers. Hybridon's ability to continue operations in 19981999 depends on its success in raisingobtaining new funds. If the CompanyHybridon is unable to raiseobtain substantial additional new funding beginning in April 1998,by the end of May 1999, it will be required to terminate its operations or seek relief under applicable bankruptcy laws bylaws. Hybridon is currently seeking debt or equity financing in an amount sufficient to support its operations through the end of April 1998.1999, and in connection therewith, is in negotiations with several parties to obtain such financing. In the Report of Independent Public Accountants set forth in Appendix A attached to this Annual Report on Form 10-K, Arthur Andersen LLP, the Company'sHybridon's independent public accountants, states that there is substantial doubt about the Company'sHybridon's ability to continue as a going concern. As part of its efforts to seek new funding, in January 1998, the Company commenced a private offering (the "1998 Unit Financing") of up to 400 units, each unit (a "Unit") consisting of a Note Due 2007 (the "1998 Unit Notes") in the original principal amount of $100,000 and warrants to purchase Common Stock. The Company is offering the Units at a price of $100,000 per Unit. As of March 30, 1998, the Company had sold 48 Units for an aggregate purchase price of $4.8 million. There can be no assurance as to whether the Company will be able to sell any additional Units or as to the timing of the Company's sale of additional Units. See "1998 Financing Activities" below. The CompanyHybridon has incurred cumulative losses from inception through -47- 48 December 31, 19971998 of approximately $218.7$238.4 million. The CompanyHybridon implemented a restructuring plan in the second half of 1997, which it expects will significantly reduce the Company'sreduced Hybridon's operating expenses and cost requirements in 1998 from 1997 levels. However, the CompanyHybridon expects that its research and development expenses will continue to be significant in 19981999 and future years as it pursues its core drug development programs and expects to continue to incur operating losses and have significant capital requirements that it will not be able to satisfy with internally generated funds. The Company continues to explore opportunities to reduce operating expenses in an effort to conserve its cash resources. This Annual Report on Form 10-K contains forward-looking statements. For this purpose, any statements contained herein that are not statements of historical fact may be deemed to be forward-looking statements. Without limiting the foregoing,For example, the words "believes," "anticipates," "plans," "expects" and similar expressions are intended to identify forward-looking statements. Such forward-looking statements are based on management's current expectations and involve known and unknown risks, uncertainties, and other factors which may cause the actual results, performance or achievements of Hybridon to be materially different from any future results, performance, or achievements expressed or implied by such forward-looking statements. There are a number of important factors that could cause the Company'sHybridon's actual results to differ materially from those indicated by such forward-looking statements. These factors include, without limitation, those set forth below under the caption "Certain Factors That May Affect Future Results."Risk Factors." 29 RESTRUCTURING PLAN During the second half of 1997, the CompanyHybridon implemented a restructuring plan to reduce expenditures on a phased basis over the balance of 1997 and into the first half of 1998 in an effort to conserve its cash resources. As part of this restructuring plan, in addition to terminating the clinical development of GEM 91, the CompanyHybridon reduced or suspended selected programs unrelated to its core advanced chemistry antisense drug development programs, including its ribozyme program. In connection with the reduction and suspension of programs, the Company has accrued termination fees related to research contracts and has incurred restructuring charges relating to programs that have been suspended or canceled.programs. In addition, the Companyin 1997, Hybridon terminated the employment of 84a substantial number of employees at its Cambridge and Milford, Massachusetts and Paris, France facilities in the second half of 1997 and substantially reduced operations at its Paris, France office and terminated ten employees at that locationoffice. In December 1999, Hybridon began the final process of terminating all operations in August 1997. As partEurope. In 1997 Hybridon subleased a portion of the restructuring, the Company reviewed all outside testing, public relations, travel and entertainment and consulting arrangements and terminated or renegotiated variouseach of these arrangements. As part of the restructuring, the Company subleased one facilityits facilities in Cambridge, Massachusetts and(including a substantial portion of its corporateformer headquarters). In June 1998, Hybridon relocated its headquarters located at 620 Memorial Drive,from Cambridge, Massachusetts.Massachusetts to its facility in Milford, Massachusetts and subsequently sold its interest in Charles River Building Limited Partnership, which owned the former Cambridge headquarters. In connection with this transaction and the termination of the Cambridge lease in 1998, the Company received $6,163,000 in cash, which included the return of a portion of its security deposit for its Cambridge headquarters and the reclassification on the Company's balance sheet of $660,000 from restricted cash to cash and cash equivalents. The Company incurred expenses relatingCambridge facility was re-leased in September 1998 to a third party, subject to a sublease to a portion of the premises. As a result of these subleases for broker fees and renovation expenses incurred in preparing the Memorial Drive spaceactions, Hybridon was relieved of its substantial lease obligations for the new tenant. In addition,Cambridge facility, subject to a continuing liability for any defaults which may arise under the Company has accrued the estimated lease loss of subleasing the remaining space at its corporate -48- 49 headquarters. The Company has accrued the remaining lease costs prior to terminating the lease for its offices in Paris, France effective March 31, 1998. Because of the significant costs involved in terminating employees, subleasing its facilities, terminating research contracts, suspending or cancelling research programs and substantially reducing operations, the Company did not begin to experience a material decrease in its expenditure rate until the fourth quarter of 1997. The Company recorded a restructuring charge of $11.0 million for the actions that occurred in 1997.sublease. RESULTS OF OPERATIONS Years ended December 31, 1996, 1997 1996 and 19951998 Revenues The CompanyHybridon had total revenues of $4.0 million in 1996, $3.9 million in 1997, $4.0and $4.5 million in 1998. During 1996, 1997 and $1.4 million in 1995. During 1997, 1996 and 1995, the Company1998, Hybridon received revenues from research and development collaborations of $945,000, $1.4 million, $0.9 million and $1.2$1.1 million, respectively. Research and development collaboration revenues decreased in 1997 from 1996 because of the cancellation by Roche of its collaboration with Hybridon and the resulting elimination of research funding which the Company had been receiving under the Company's collaboration with Roche in 1996 and 1995, was terminated by Roche as of March 31, 1997.Roche. Research and development collaboration revenues increased in 19961998 from 1995 because collaboration revenues in 1996 included revenues earned1997, primarily due to Hybridon receiving certain payments under a collaborativeits license agreement with Searle, which the Company entered intoMethylGene, Inc. Product and service revenues were $1.1 million in January 1996. Revenues from the custom contract manufacturing of synthetic DNA and reagent products by the HSP Division were1996, $1.9 million in 1997 and $1.1$3.3 million in 1996.1998. The increase in revenues in 1997 over those in 1996 resulted from a full year of operations for the HSP, Division, which commenced operations in the third quarter of 1996. This increase in revenues in 1997 was significantly lower than the Company had anticipated. As of December 31, 1997, the1998, HSP Division had a backlog of $1,200,000. The Company$0.9 million. Hybridon anticipates filling this backlog in the first half of 1998.1999. The increase in revenues in 1998 was primarily the result of an expansion by HSP in the customer base and increased sales to certain existing customers, and was also due in part to Hybridon receiving $0.4 million in service revenue from MethylGene. 30 Revenues from interest income were $1.4 million in 1996, $1.1 million in 1997 $1.4and $0.1 million in 1996 and $219,000 in 1995.1998. The decrease in interest income in 1997 from 1996, and in 1998 from 1997 was the result of lower cash balances available for investment in 1997 than in 1996. The increase in interest income in 1996 from 1995 was the result of substantially higher cash balances available for investment as a result of the Company's initial public offering, which was completed on February 2, 1996.each year. Research and Development Expenses -49- 50 During 1996, 1997 1996 and 1995, the Company1998, Hybridon expended $39.4 million, $46.8 million $39.4 million and $29.7$21.0 million, respectively, on research and development activities. The increases in research and development expenses in 1997 andfrom 1996 reflected increasing expenses related primarily to ongoing clinical trials of the Company'sHybridon's product candidates, including (a) clinical trials of two different formulations of GEM 132, which were first initiated during the third quarter of 1996 and the first quarter of 1997, (b) clinical trials of GEM 92, which were initiated in the third quarter of 1997 and (c) clinical trials of GEM 91, which were initiated in France in October 1993 and in the U.S. in May 1994, and were terminated in July 1997. Clinical expenses related to GEM 91 decreased significantly during the second half of 1997 after the Company elected to terminateHybridon terminated development of this compound. Research and development expenses also increased in 1997 andover 1996 due to significant increases in preclinical expenses incurred to meet the filing requirements to initiate the domestic clinical trials of Hybridon's product candidates in the Company's product candidates.United States. The decrease in research and development expenses in 1998 reflects Hybridon's restructuring that commenced during the second half of 1997. The restructuring included the discontinuation of operations at Hybridon's facilities in Europe, termination of the clinical development of GEM 91 and the reduction or suspension of selected programs unrelated to Hybridon's core advanced chemistry antisense drug development program. The restructuring resulted in significant reductions in employee-related expenses, clinical and outside testing, consulting, materials and lab expenses. The facilities expense related to the research and development area increased significantly in 1997 as a result of the relocation of the corporate offices to Cambridge, Massachusetts and decreased significantly in 1998 as a result of the relocation in July 1998 from Cambridge to Milford, Massachusetts. Hybridon's facility costs in 1998 related to research and development were also reduced by the income received from subleasing its underutilized Cambridge facilities. Research and development salaries and related costs remained at approximately the same level in 1997 as 1996 because of the costs involved in terminating employees in 1997. Research and development salaries and related costs increased significantlydecreased in 1996 over 1995 as1998 from 1997 due to the substantial reduction in the number of employees engaged in research and development increased to 206 at December 31, 1996 from 124 at December 31, 1995.in 1998. Patent expenses also remained at approximately the same level in 1998 as 1997 asand 1996, as the Company limitedHybridon continued to limit the scope of patent protection that it sought as part of its effort to conserve its cash resources. Patent expenses increased in 1996 as compared to 1995, as the Company continued to develop aresources, while prosecuting and maintaining key patents and patent portfolio both domestically and internationally.applications. 31 General and Administrative Expenses The CompanyHybridon incurred general and administrative expenses of $11.3 million in 1996, $11.0 million in 1997 $11.3and $6.6 million in 1996,1998. The decrease in general and $6.1 millionadministrative expenses in 1995, respectively.1998 resulted primarily from Hybridon's restructuring program initiated during the second half of 1997 and its effect on employee-related and consulting expenses and net facilities costs. The facilities expense related to the general and administrative area increased significantly in 1997 over 1996 as a result of the relocation of the corporate offices to Cambridge, Massachusetts. However, as a result of the implementation of the restructuring plan in the second half of 1997, such increase was offset by decreases in -50- 51 general and administrative salaries and related costs and in consulting expenses in the second half of 1997. As part of1997, which carried over into 1998. Hybridon's facilities expense related to the restructuring, approximately 11 general and administrative positionsarea decreased significantly in 1998 as a result of its relocation to Milford, Massachusetts. Facility costs in 1998 were eliminated.also reduced by the income received from subleasing underutilized Cambridge facilities. General and administrative expenses related to business development, public relations and legal expenses decreased in 1998 from 1997, but remained at approximately the same level in 1997 as 1996. The increase in general and administrative expenses in 1996 from 1995 was primarily attributable to an increase in expenses for business development activity, public relations and legal expenses incurred primarily as a result of being a public company and salaries and related costs. Interest Expense Interest expense was $0.1 million in 1996, $4.5 million in 1997 $124,000and $2.9 million in 19961998. The decrease in interest expense in 1998 is mainly attributable to the exchange of approximately $48.7 million of the 9% Convertible Subordinated Notes ("the 9% Notes"), issued in the second quarter of 1997, for Series A Preferred Stock on May 5, 1998. In addition, the outstanding balance of borrowings to finance the purchase of property and $173,000equipment was reduced in 1995.May 1998, resulting in a reduction in interest expense. The increase in interest expense in 1997 from 1996 reflected an increase in the Company'sHybridon's debt outstanding associated with the Company's issuance of $50,000,000 of 1997the 9% Notes and interest incurred on borrowings to finance the purchase of property and equipment. The decrease in interest expense in 1996 from 1995 reflected a decrease in the outstanding balance of borrowings to finance the purchase of property and equipment. Restructuring Charge In connection with the implementationAs a part of theits restructuring plan, in the second half of 1997, the CompanyHybridon recorded aan $11.0 million restructuring charge of $11.0 million for the actions that occurred in 1997. The Company made cash payments of approximately $1.5 million in 1997 to provide for (i) the termination costs of certain research programs and expectsother contracts, (ii) the loss of certain leased facilities (net of sublease income and other contracts), (iii) severance, benefits and related costs for 95 terminated employees and (iv) the write down of assets to make additional cash payments of approximately $3.7 million in 1998 in connection with the restructuring.net realizable value. Net Loss As a result of the above factors, the CompanyHybridon incurred net losses before extraordinary items of $46.9 million in 1996, $69.5 million in 1997 $46.9and $26.0 million in 1996 and $34.51998. Hybridon had extraordinary income of $8.9 million in 1995.1998 resulting from the exchange of 9% Notes for Series A Preferred Stock in the second quarter of 1998. In accordance with Statement of Financial Accounting ("SFAS") No.15, Accounting by Debtors and Creditors for Troubled Debt Restructurings, the Company recorded an extraordinary gain of approximately $8.9 32 million related to the exchange. The extraordinary gain represents the difference between the carrying value of the 9% Notes tendered for exchange and the fair value of the Series A Preferred Stock issued upon the exchange, as determined by the per share sales price of such stock sold in May 1998 in the private offering described below. As a result of this transaction, Hybridon reduced its net loss before preferred stock dividends to $17.1 million in 1998. Hybridon had an accretion of preferred stock dividends of $2.7 million at December 31, 1998 to reflect the 1998 portion of dividends payable to the holders of Series A Preferred Convertible Stock, resulting in a net loss to common stockholders of $19.8 million for 1998. LIQUIDITY AND CAPITAL RESOURCES General FromSince inception, Hybridon has incurred significant losses which it has funded through December 31, 1997, the Company financed its operations, including capital expenditures, through a public offering of common stock, private placementsissuance of equity securities, debt issuances, sales by HSP, and the 1997 9% Notes and the exercise of stock options and warrants with aggregate gross proceeds totalling $212.6 million, as well as through bank and other borrowings of $10.1 million, capital leases of $5.6 -51- 52 million, research and development collaborations and milestone payments from corporate collaborators totalling $5.5 million and sales of synthetic DNA and reagent products by the HSP Division totalling $3.0 million. Through December 31, 1997, the Company utilized approximately $179.0 million to fund operating activities and $29.3 million to finance capital expenditures, including leasehold improvements at the Company's Cambridge, Massachusetts corporate headquarters and at its manufacturing facility in Milford, Massachusetts.licensing arrangements. During the year ended December 31, 1997, the Company1998, Hybridon utilized approximately $51.1$21.5 million to fund operating activities and approximately $7.5 million$472,000 for capital expenditures. The primary use of cash for operating activities was to fund the Company's cash operatingHybridon's loss before extraordinary items of $63.4$26.0 million. Capital expenditures during 19971998 included amounts expended for the build-out and equipping of the Company'sHybridon's corporate headquarters and primary research and development laboratories in Cambridge, Massachusetts and of its leased manufacturing facility in Milford, Massachusetts. The CompanyHybridon expects to purchase a minimal amount of capital equipment in 19981999 as part of its effort to conserve cash resources. Cash Resources The CompanyHybridon had cash and cash equivalents of $2.2$5.6 million at December 31, 1997. Since such1998. However, since that date, the Company has received $4.8 million in gross proceeds from the 1998 Unit Financing. However, the CompanyHybridon has expended substantially allthe majority of thesuch cash resources that it had available at December 31, 1997 and that it received subsequent to that date and continues to have substantial obligations to lenders, equipment lessors, real estate landlords, trade creditors and trade creditors.others. On March 30, 1998, the Company's1999, Hybridon's obligations included $50.0$1.3 million principal amount of 1997 9% Notes, $4.8a $6.0 million principal amount of 1998 Unit Notes, a $5.0 million Note payable to Silicon Valley Bank (the "Bank"), $3.2loan with Forum Capital Markets, LLC and others, as described below, $0.5 million of capital leasesnotes payable and approximately $7.7$2.4 million of accounts payable. Because of the Company'sHybridon's financial condition, many trade creditors are only willing to provide the CompanyHybridon with products and services on a cash on delivery basis. The Company'sHybridon's ability to continue operations in 19981999 depends on its success in raisingobtaining new funds in the 1998 Unit Financingimmediate future. Hybridon is currently seeking debt or otherwise. The Company believes that ifequity financing in an amount sufficient to support its operations through the Company raises approximately an additional $25.0 millionend of 1999, and in gross proceeds from the 1998 Unit Financing by April 30, 1998, and at least $40 million principal amount of 1997 9% Notes are exchanged for preferred stock of the Company pursuantconnection therewith, is in negotiations with several parties to the 1998 Unit Financing, thenobtain such $25 million, together with the committed collaborative research and development payments from Searle for 1998 and anticipated sales of DNA products and reagents to third parties by the HSP Division and margins on such sales, will be adequate to fund the Company's capital requirements through 1998.financing. However, there can be no assurance that the CompanyHybridon will receiveobtain any additional proceeds from the 1998 Unit Financingfunds or as to the timing thereof or obtain funds from other sources.thereof. If the Company is unable to obtain substantial additional new funding in April 1998, it willby the end of May 1999, Hybridon may be required to further curtail significantly one or more of its core drug development programs, obtain funds through arrangements with collaborative partners or others that may require it to relinquish rights to certain of its technologies, product candidates or products which it would otherwise pursue on its own or terminate its operations or seek relief under applicable bankruptcy laws bylaws. It is also possible that Hybridon's creditors may seek to commence involuntary bankruptcy proceedings against the end of April 1998. -52-Company. 33 53 Even if the CompanyHybridon obtains sufficient cash to fund its operations in 1998,1999, it will be required to raise substantial additional funds through external sources, including through collaborative relationships and public or private financings, to support its operations beyond 1998.1999. Except for research and development funding from Searle under Hybridon'sits collaborative agreement with Searle (which is subject to early termination in certain circumstances), Hybridon has no committed external sources of capital, and, as discussed above, expects no product revenues for several years from sales of the therapeutic products that it is developing (as opposed to sales of DNA products and reagents manufactured on a custom contract basisand sold by the HSP Division)HSP). No assurance can be given that additional funds will be available to fund the Company's operations for the balance of 19981999 or in future years, or, if available, that such funds will be available on acceptable terms. If additional funds are raised by issuing equity securities, further dilution to then existing stockholders will result. Additionally, the terms of any such additional financing may adversely affect the holdings or rights of then existing stockholders. If adequate funds are not available, the Company may be required to curtail significantly one or more of its core drug development programs, obtain funds through arrangements with collaborative partners or others that may require the Company to relinquish rights to certain of its technologies, product candidates or products which the Company would otherwise pursue on its own or terminate operations or seek relief under applicable bankruptcy laws. It is also possible that creditors of the Company may seek to commence involuntary bankruptcy proceedings against the Company. The Company'sHybridon's future capital requirements will depend on many factors, including continued scientific progress in its research, drug discovery and development programs, the magnitude of these programs, progress with preclinical and clinical trials, sales of DNA products and reagents to third parties by the HSP Division and the margins on such sales, the time and costs involved in obtaining regulatory approvals, the costs involved in filing, prosecuting and enforcing patent claims, competing technological and market developments, theHybridon's ability of the Company to establish and maintain collaborative academic and commercial research, development and marketing relationships, theits ability of the Company to obtain third-party financing for leasehold improvements and other capital expenditures and the costs of manufacturing scale-up and commercialization activities and arrangements. 1998 Unit FinancingFINANCING ACTIVITIES On January 22,February 6, 1998, Hybridon commenced an offer to the Company commencedholders of the 1998 Unit Financing. For a description of this financing, see -53- 54 "1998 Financing Activities" below. 1997 9% Notes to exchange the 9% Notes for Series A Preferred Stock and certain warrants of Hybridon. On April 2, 1997, the Company issued $50.0May 5, 1998, noteholders holding $48.7 million of principal and $2.4 million of accrued interest tendered such principal and accrued interest to Hybridon for 510,505 shares of Series A Preferred Stock and warrants to purchase 3,002,958 shares of common stock with an exercise price of $4.25 per share. On May 5, 1998, Hybridon completed a private offering of equity securities raising total gross proceeds of approximately $26.7 million from the 1997 9%issuance of 9,597,476 shares of common stock, 114,285 shares of Series A Preferred Stock and warrants to purchase 3,329,486 shares of common stock at $2.40 per share. The gross proceeds include the conversion of approximately $5.9 million of accounts payable, capital lease obligations and other obligations into common stock. Hybridon incurred approximately $1.6 million of cash expenses related to the private offering and issued 597,699 shares of common stock and warrants to purchase 1,720,825 shares of common stock at $2.40 per share to the placement agents. In addition, Hybridon is obligated to issue an additional 300,000 shares in connection with this transaction. For more information about this transaction, see Note 15(c) of the Notes to Consolidated Statements. 34 Credit Facility In December 1996, Hybridon entered into a five year $7,500,000 note payable with a maturity datebank. The note contained certain financial covenants that required Hybridon to maintain minimum tangible net worth and minimum liquidity and prohibited the payment of Aprildividends. The note was payable in 59 equal installments of $62,500 commencing on February 1, 2004. Under the terms1997 with a balloon payment of the 1997 9% Notes, the Company isthen remaining outstanding principal balance due on January 1, 2002. Because Hybridon was required to make semiannual interest payments oncertain prepayments of principal during 1998, the outstanding principal balance of the Notes on April 1 and October 1 of each year during which the 1997 9% Notes are outstanding.loan at November 16, 1998 was approximately $2.8 million. The outstanding principal balance of the 1997 9% Notes will become due on the maturity date. The Company made the first interest payment of $2.3 million at the beginning of October 1997. On February 6, 1998, in connection with the 1998 Unit Financing, the Company commenced an exchange offer to the holders of the 1997 9% Notes offering to issue to such holders shares of Series A Convertible Preferred Stock and warrants to purchase shares of Common Stock in exchange for such Notes, as described below under the caption "1998 Financing Activities". In addition, as of March 30, 1998, holders of approximately $42.0 million of the outstanding aggregate principal amount of the 1997 9% Notes have agreed to defer the interest payment due to them on April 1, 1998 to October 1, 1998. Bank Facility In December 1996, the Company entered into a five-year $7.5 million credit facility with the Bank to finance the leasehold improvements of the Company's manufacturing facility. The Bank Credit Facility is payable in equal monthly payments of $62,500 plus interest with a balloon payment of $3.8 million due on January 1, 2002. The Bank Credit Facility contains certain financial covenants that -54- 55 require the Company to maintain minimum tangible net worth (as defined) and minimum liquidity (as defined) and prohibits the payment of dividends. The Companylender has secured its obligations to the Bank with a lien on all of its assets. If, at specified times, the Company's minimum liquidity is less than $15.0 million, $10.0 million or $5.0 million, the Company is required to make prepayments of the Bank Credit Facility equal to 25%, 50% and 100%, respectively, of the then outstanding balance due under the Bank Credit Facility. On January 15, 1998 the Bank granted the Company a waiver of compliance with the minimum liquidity requirement at December 31, 1997, January 31, 1998 and February 28, 1998. As part of this waiver certain terms of the Bank Credit Facility were amended to increase the interest rate on the Borrower's obligations under the Bank Credit Facility to the institution's prime rate plus 5%. Prior to the amendment interest was payable at the lesser of (i) such financial institution's prime rate plus 1%, or (ii) such financial institution's LIBOR rate plus 3.5%. On March 30, 1998 the Bank granted the CompanyHybridon a waiver of compliance with the minimum tangible net worth requirement at December 31, 19971998 and March 31, 19981999 and the minimum liquidity requirement at March 31, 1998. AsApril 15, 1999. Effective November 20, 1998, Forum Capital Markets, LLC ("Forum") and certain investors associated with Pecks Management Partners Ltd. ("Pecks"; Forum and Pecks collectively, the "Lender") purchased the loan from the bank. Forum and Pecks are affiliates of March 30, 1998,two members of Hybridon's Board of Directors. In connection with this purchase, the Lender lent an additional $3.2 million to Hybridon so as to increase the outstanding principal balanceamount of the Bank Credit Facility is approximately $5.0 million. For an additional descriptionnote to $6,000,000. In addition, the terms of the Bank Credit Facilitynote payable were amended as follows: (i) the maturity was extended to November 30, 2003; (ii) the interest rate was decreased to 8%; (iii) interest is payable monthly in arrears, with the principal due in full at maturity; (iv) the note payable is convertible, at the Lender's option, in whole or in part, into shares of common stock of Hybridon at a conversion price equal to $2.40 a share; (v) the threshold of the minimum liquidity covenant was reduced from $4,000,000 to $2,000,000; and (vi) the note payable may not be prepaid, in whole or in part, at any time prior to December 1, 2000. The other terms of the note payable were unchanged. For further information about this loan, see "Note 6(a)Note 7 of the Notes to Consolidated Financial Statements." Equipment Leases In 1997, the Company financed the purchase of furniture for the Cambridge facility through a lease line transaction of approximately $1.2 million. These borrowings are payable in 60 monthly payments of approximately $26,000. In 1996, the Company financed the purchase of manufacturing equipment and other equipment at the Milford manufacturing facility through a sale/leaseback transaction of approximately $1.7 million under a $2.9 million lease line with a leasing company in the fourth quarter of 1996. These borrowings are payable in 48 monthly payments ranging from $36,000 to $50,000. In June 1997, the Company used the remaining $1.2 million under the lease line to finance the purchase of equipment through a sale/leaseback transaction. These borrowings are payable in 48 monthly payments ranging from $24,000 to $34,000. Facility Leases The Company entered into a lease for its corporate headquarters and primary research and development laboratories in Cambridge, Massachusetts and moved its operations to this facility in the first quarter of 1997. The Company's facilities costs increased significantly upon occupying the Cambridge facility. As part of the lease agreement, the Company elected to treat $5.5 million of payments to the landlord (primarily related to tenant improvements) as contributions to the capital of the Cambridge landlord in exchange for a limited partnership interest in the Cambridge landlord. All other expenses incurred to equip and build-out the facility in excess of $5.5 million are included in leasehold improvements and are not exchangeable for a partnership interest under the lease. The Cambridge landlord is an affiliate of three directors of the Company. The Company also is a party to leases for its facilities in -55- 56 Milford, Massachusetts and the ancillary facility in Cambridge, Massachusetts, under which it has significant payment obligations. Effective March 31, 1998, the Company has terminated the lease for its office space in Paris, France. As discussed in Note 15 to the Consolidated Financial Statements, at December 31, 1997 the Company had facility lease commitments amounting to approximately $59.6 million. As of December 31, 1997, the Company1998, Hybridon has future operating lease commitments of approximately $7.7 million through 2007 for its existing leases. Net Operating Loss Carryforwards As of December 31, 1998, Hybridon had approximately $206$220.0 million and $3.4$3.9 million of net operating loss and tax credit carryforwards, respectively. The Tax Reform Act of 1986 (the "Tax Act") contains certain provisions that may limit the Company'sHybridon's ability to utilize net operating loss and tax credit carryforwards in any given year if certain events occur, including cumulative changes in ownership interests in excess of 50% over a three-year period. The CompanyHybridon has completed several financings since the effective date of the Tax Act, 35 which, as of December 31, 1997,1998, have resulted in ownership changes in excess of 50%, as defined under the Tax Act. 1998 FINANCING ACTIVITIES On January 22, 1998,Act and which will limit Hybridon's ability to utilize its net operating loss carryforwards. YEAR 2000 As has been widely publicized, many computer systems and microprocessors are not programmed to accommodate dates beyond the Company commencedyear 1999. Hybridon's exposure to this year 2000 ("Y2K") problem comes not only from its own internal computer systems and microprocessors, but also from the 1998 Unit Financing referred to above undersystems and microprocessors of its key suppliers, including utility companies and payroll services. Hybridon believes that all of its internal systems will be Y2K compliant by the caption "General." The 1998 Unit Notes bear interest at a rate of 14% per annum; provided that if the 1998 Unit Financing is terminated before the Mandatory Conversion Event (as defined below) has occurred, the interest rate shall increase to 18% per annum. The Company is required to make semi-annual interest payments on the outstanding principal balanceend of the 1998 Unit Notes on April 1third quarter of 1999. Hybridon is currently evaluating all of its internal computer systems and October 1 of each year during which such 1998 Unit Notes are outstanding, with the first such payment being due on April 1, 1998, which interest payment obligation may be satisfied through the issuance of additional 1998 Unit Notes valued at their principal amount. The Company plans to satisfy the interest payment due April 1, 1998 by issuing 1998 Unit Notes. The outstanding principal balancemicroprocessors in light of the 1998 Unit NotesY2K problem. As part of this process, Hybridon has conducted an inventory of its automated instruments and other computerized equipment and is contacting applicable vendors for information regarding Y2K compliance. Hybridon will become due on December 31, 2007. The 1998 Unit Notes are secured by substantially all of the Company's assets, subject to the lien on the Company's assets held by the Bank, are subordinate to the Company's existing indebtedness to the Bank, are senior to approximately 80% of the 1997 9% Notesthen upgrade or otherwise modify its internal computer systems and microprocessors, to the extent providednecessary. Testing of all its internal computer systems and microprocessors was completed in the first quarter of 1999. Hybridon does not expect the cost of bringing all Hybridon's systems and microprocessors into Y2K compliance will be material. Approximately 50% of Hybridon's systems either have been found compliant or have already been brought into compliance. Hybridon's Y2K compliance efforts are in addition to other planned information technology ("IT") projects. While these efforts have caused and may continue to cause delays in other IT projects, Hybridon does not expect that any of these delays will have a subordination agreement executedsignificant effect on Hybridon's business or that any of Hybridon's other IT projects will be canceled or postponed to pay for the Y2K upgrades. With regard to potential supplier Y2K problems, Hybridon has compiled a list of its critical suppliers, and has sent and received back a Y2K questionnaire from each of them in order to permit Hybridon to ascertain the Y2K compliance status of each. Hybridon has not yet uncovered any key supplier Y2K problems that could have a material effect on its business. If through continued monitoring of these suppliers Hybridon becomes aware of any such problems and is not satisfied that those problems are being adequately addressed, it will take appropriate steps to find alternative suppliers. It has been acknowledged by certain holders ofgovernmental authorities that Y2K problems have the 1997 9% Notes and, except as otherwise provided in this sentence, rank on a parity with the 1997 9% Notes. The 1998 Unit Notes are not convertible at the option of the holder, but will automatically convert into a new issue of Series B Convertible Preferred Stock of the Company if the aggregate net proceedspotential to disrupt global economies, that no business is immune from the 1998 Unit Financing exceeds $20.0 millionpotentially far-reaching effects of Y2K problems, and the holders of at least 80% of the aggregate principal amount of the 1997 9% Notes have exchanged such Notes for a new issue of Series A Convertible Preferred Stock of the Company pursuantthat it is difficult to the exchange offer (the "Exchange Offer") described in the following paragraph (such two conditions, the "Mandatory Conversion Event"). The Series B Convertible Preferred Stock underlying the 1998 Unit Notes would rank as to liquidation junior to the Series A Convertible Preferred Stock issuable in the Exchange Offer. Each Unit includes warrants to purchase 15% (or, in certain circumstances, 20%) of the number of shares of Common Stock underlying the Series B Convertible Preferred Stock underlying the 1998 Unit Notes included in such Unit and may include additional warrants in certain circumstances described below. The Series B Convertible Preferred Stock, if issued, and warrants are convertible into, and exercisable for, Common Stock at a conversion or exercise price equal to the lowest of (i) 80% of the average closing bid price of the Company's Common Stock for the 30 consecutive trading days immediately preceding any closing in the 1998 Unit Financing or (ii) 80% of the average closing bid price of the Company's Common Stock for the five consecutive trading dates immediately preceding any closing in the 1998 Unit Financing; provided, however,predict with certainty what will happen after December 31, 1999. Consequently, it is possible that if on the termination date of the 1998 Unit Financing the Company has not received least $20,000,000 in net proceeds from the 1998 Unit Financing or the holders of less than $40,000,000 in principal amount of the 1997 9% Notes accept the Exchange Offer, holders of UnitsY2K problems will be entitled to receive additional warrants to purchase, at an exercise price of $0.001 per share, a number of shares of Common Stock equal to 100% of the Common Stock then issuable upon conversion of the Series B Convertible Preferred Stock then issuable upon conversion of the 1998 Unit Notes purchased by such investors, in which case the 1998 Unit Notes will not be convertible into equity securities. If the market price of the Common Stock is less than 125% of the conversion price of the Series B Preferred Stock on the one-year anniversary of the final closing date of the 1998 Unit Financing, the conversion price of the Series B Convertible Preferred Stock will be further adjusted (the "Series B Reset") to the greater of (a) the market price of the Common Stock at such time divided by 1.25 and (b) 50% of the conversion price of the Series B Convertible Preferred Stock at such time, and holders of the Series B Convertible Preferred Stock will also be entitled to receive additional warrants to purchase a number of shares of Common Stock equal to 50% of the additional number of shares of Common Stock issuable upon conversion of the Series B Convertible Preferred Stock following the Series B Reset. On February 6, 1998, the Company commenced an Exchange Offer to the holders of its 1997 9% Notes to exchange such 1997 9% Notes for Series A Convertible Preferred Stock and certain warrants of the Company. In the Exchange Offer, each $1,000 of principal amount and accrued but unpaid interest on the 1997 9% Notes may be exchanged, upon the terms and subject to the conditions set forth in the Exchange Offer documents, for 10 shares of Series A Convertible Preferred Stock, stated value $100 per share, and warrants to purchase such a number of shares of Common Stock of the Company equal to 15% of the number of shares of Common Stock into which such Series A Convertible Preferred Stock would be convertible at 212.5% of the initial conversion price of the Series B Convertible Preferred Stock (the "Stated Price"). Such Series A Convertible Preferred Stock would have a liquidation preference of $100 per share plus accrued but unpaid dividendsmaterial effect on Hybridon's business even if Hybridon takes all appropriate measures to ensure that it and would bear a dividend of the 6.5% per annum, payable on April 1 and October 1 of each year in cash or additional Series A Preferred Stock, at the option of the Company. The conversion price would be $35 per share of Common Stock through April 1, 2000 and the Stated Price thereafter, which conversion price would be reset upon the occurrence of any Series B Reset to 212.5% of the re-set Series B conversion price. Exchanging holders of 1997 9% Notes will be granted the right to designate a nominee to the Board of Directors of the Company (the "Designated Director"). There can be no assuranceits key suppliers are Y2K compliant. It is possible that the Exchange Offerconclusions reached by Hybridon from its analysis to date will be successful. On March 30, 1998, the Company amended its Exchange Offerchange, which could cause Hybridon's Y2K cost estimates and target completion dates to provide that the terms of the Series A Convertible Preferred Stock and warrants issuable in the Exchange Offer would be revised as described below if the following conditions (the "Equity Conditions") had been met no later than the date the Company accepts for exchange in the Exchange Offer at least $40 million principal amount of 1997 9% Notes: (i) the Company consummates an offering, the size of which is acceptable to the Designated Director, of units consisting of Common Stock priced (the "Common Stock Offering Price") at the greater of $2.00 and 85% of the Market Price (as defined below) of the Common Stock and warrants to purchase a number of shares of Common Stock equal to 25% of such Common Stock sold at an exercise price equal to 120% of the Common Stock Offering Price (the "120% Exercise Price"); (ii) the Company consummates an offering, with gross proceeds of at least $10 million, of Units consisting of shares of preferred stock having the same terms as the preferred stock issuable in the amended Exchange Offer, and warrants with the same 25% coverage as the warrants issuable in the amended Exchange Offer, as described in the following paragraph, but at the 120% Exercise Price (which shares are expected to be sold at a 30% discount from stated value); and (iii) all 1998 Note Units previously sold and accrued interest thereon are exchanged for Common Stock and warrants to purchase a number of shares of Common Stock equal to 30% of the Common Stock issued in such 1998 Note Unit exchange, such Common Stock and Warrants to be valued, and to have the terms, described in clause (i) above. "Market Price" means the average reported closing bid price of the Common Stock for the five consecutive trading days immediately preceding the closing date. The amended Exchange Offer provides that if the Equity Conditions are met, (a) the conversion terms of the Series A Convertible Preferred Stock will be revised as follows: (i) the conversion price will be 212.5% of the Common Stock Offering Price described above, (ii) such Series A Convertible Preferred Stock will not be convertible for one year following the closing; and (iii) such Series A Convertible Preferred Stock will have no conversion price reset mechanism and (b) the warrant coverage will increase from 15% to 25% of the number of shares of Common Stock underlying the Series A Convertible Preferred Stock (such warrants being exercisable at 212.5% of the Common Stock Offering Price) and will not have any conversion price reset provisions. The Company intends to use its best efforts to achieve the Equity Conditions, although no assurance can be given that such attempt will be successful. If the same cannot be accomplished in a timely manner, the Company will continue to proceed with the original financing plan. CERTAINchange. 36 RISK FACTORS THAT MAY AFFECT FUTURE RESULTS The following important factors, among others, could cause actual results to differ materially from those contained in forward-looking statements made in this Annual Report on Form 10-K and presented elsewhere by management from time to time. Hybridon May Never Generate Revenues From Sales Of Its Drugs Hybridon's business is at an early stage of development, and has not yet generated any revenues from the commercial sale of its drugs. Due to the various risks inherent in its business and described in the following risk factors, Hybridon may never generate revenues from sale of its drugs, and may never become profitable. See "Management's Discussion And Analysis Of Financial Condition And Results Of Operations -- Results Of Operations" and " -- Liquidity And Capital Needs; UncertaintyResources." Hybridon Has A History Of Operating Losses, And Anticipates Future Losses Hybridon has never earned a profit and has incurred substantial net operating losses. These losses were caused by lack of revenues from drug sales to offset research and development and administrative costs. Hybridon expects to incur operating losses for at least the next several years, as it plans to spend substantial amounts on research and development, including preclinical studies and clinical trials, and, if it obtains necessary regulatory approvals, on sales and marketing efforts. See "Management's Discussion And Analysis Of Financial Condition And Results Of Operations -- Results Of Operations" and " -- Liquidity And Capital Resources." Hybridon May Determine That One Or More Drugs In Development Are Commercially Impractical And Cannot Be Sold Commercially Before a drug is sold commercially, it must go through an expensive and time-consuming testing process. Hybridon's drugs are at various stages in this process, and Hybridon may at any stage determine that one or more of these drugs cannot be successfully developed. A drug may, for instance, be ineffective, have undesirable side effects, or demonstrate other therapeutic characteristics that prevent or limit its commercial use, or may prove too costly to produce in commercial quantities. If Hybridon determines that a drug cannot be successfully developed, Hybridon would not be able to generate revenues from sale of that drug. Seeking Regulatory Approval Of Drugs Is Time-Consuming And Expensive; Failure To Obtain Approval Of A Drug Would Prevent Hybridon From Selling That Drug; Failure To Comply With Ongoing Regulatory Requirements Could Cause Hybridon To Be Subject To Penalties Hybridon is subject to extensive regulation by numerous governmental authorities in the U.S. and abroad. Obtaining regulatory approval of a drug can take several years --exactly how long depends upon the type, complexity, and novelty of the drug -- and is 37 typically very expensive. The regulations that Hybridon must comply with may change, and may even become more burdensome to Hybridon. Even if Hybridon is satisfied that a drug is safe and effective, the regulatory authorities may not agree, as data from preclinical studies and clinical trials can generally be interpreted in different ways. Hybridon will need the approval of regulatory agencies in order to sell a drug. If they are unwilling to grant that approval, Hybridon will not be able to generate revenues from sale of that drug. Approval of a drug does not end the involvement of regulatory authorities. Hybridon and its approved drugs will be subject to continued review and periodic inspection. Approval of a Hybridon drug may be subject to restrictions that limit how Hybridon may market that drug. Restrictions may be imposed on the price at which Hybridon may sell its drugs. If Hybridon fails to comply with any regulations, it may be subject to fines, suspension of regulatory approvals, drug recalls, and other penalties. Delays In Patient Enrollment Could Increase The Cost Or Duration Of Hybridon's Clinical Studies Clinical trials are very costly and time-consuming. How quickly Hybridon is able to complete a clinical study depends upon several factors, including the size of the patient population, how easily patients can get to the site of the clinical study, and the criteria for determining which patients are eligible to join the study. Delays in patient enrollment could delay completion of a clinical study and increase its costs, and could also delay the commercial sale of the drug that is the subject of the clinical trial. Hybridon Must Secure Additional Funding; Risk of Insolvency The CompanyFunding To Avoid Terminating Operations Or Filing For Bankruptcy; It May Not Be Able To Secure Sufficient Additional Financing Hybridon has very limited cash resources and substantial obligations to lenders, equipment lessors,its real estate landlords, trade creditors and trade creditors. The Company commenced the 1998 Unit Financing in January 1998 and to date has received aggregate gross proceeds of approximately $4.8 million at closings held in the first quarter of 1998. The Company'sothers. Hybridon's ability to continue operations in 19981999 depends on its success in raisingobtaining new funds in the 1998 Unit Financing or otherwise. The Company believes that if it raises approximately an additional $25.0 million in gross proceeds from the 1998 Unit Financing by April 30, 1998, and at least $40 million principal amount of 1997 9% Notes are exchanged for preferred stock of the Company pursuant to the 1998 Unit Financing, then such $25 million, together with the committed collaborative research and development payments from Searle for 1998 and anticipated sales of DNA products and reagents to third parties by the HSP Division and margins on such sales, will be adequate to fund the Company's capital requirements through 1998. However, there can be no assurance that the Company will receive any additional proceeds from the 1998 Unit Financing or obtain funds from other sources.funds. If the CompanyHybridon is unable to obtain substantial additional new funding in April 1998,by the end of May 1999, it will be requiredforced to terminate its operations or seek relief under applicable -56- 57 bankruptcy laws by the end of April 1998.laws. See "Item 7. Management's"Management's Discussion andAnd Analysis ofOf Financial Condition andAnd Results ofOf Operations -- LiquidityGeneral" and Capital"-- Cash Resources." The CompanyIn their report on Hybridon's December 31, 1998 financial statements, Arthur Andersen LLP, Hybridon's independent public accountants, states that there is substantial doubt about Hybridon's ability to continue as a going concern. Hybridon anticipates that, even if it obtains sufficient cash to fund its operations in 1998,1999, it will be required to raise substantial additional funds through external sources, including through collaborative relationships and public or private financings, to support the Company'sHybridon's operations beyond 1998. No assurance can be given that additional financing will be available, or, if available, that it will be available on acceptable terms. If additional funds are raised by issuing equity securities, further dilution to then existing stockholders will result. Additionally, the terms of any such additional financing may adversely affect the holdings or rights of then existing stockholders.1999. If adequate funds are not available, the CompanyHybridon may be requiredforced to (1) further curtail significantly one or more of its research, drug discoveryrecovery or development programs, or(2) obtain funds through arrangements with collaborative partners or others that may require the CompanyHybridon to relinquish rights to certain of its technologies, productdrug 38 candidates or products whichdrugs, (3) terminate operations, or (4) seek relief under applicable bankruptcy laws. Additional Financing May Cause Stockholder Dilution If Hybridon raises additional funds by issuing equity securities, the Company would otherwise pursueownership interest of existing stockholders will be diluted. In addition, Hybridon may grant future investors rights superior to those of existing stockholders. If Hybridon Defaults Under Its Loan, It Could Be Forced To Terminate Operations Or File For Bankruptcy Hybridon is a party to a substantial loan. The lenders may accelerate the repayment date of the loan in the event of default by Hybridon. If Hybridon does default on its own, sell the HSP Division orloan, and the lenders accelerate the repayment date, the lenders could foreclose on Hybridon's assets, and this could force Hybridon to terminate operations or seek relief under applicable bankruptcy laws. ItHybridon cannot guarantee that it will not default on the loan. See "Management's Discussion And Analysis Of Financial Condition And Results Of Operations -- 1998 Financing Activities." The "Penny Stock" Rules Will Likely Have An Adverse Effect On Your Liquidity And Hybridon's Ability To Raise Additional Capital Since the Common Stock is also possiblenot listed on a national securities exchange or on a qualified automated quotation system, it is subject to the "penny stock" provisions of Rule 15g-9 under the Securities Exchange Act of 1934, as amended, which impose additional sales practice requirements on broker-dealers that creditorssell such securities. Prior to any transaction covered by this rule, the broker-dealer must receive from the purchaser a written consent to the transaction, and must reasonably determine that transactions in penny stocks are suitable for the purchaser, and that the purchaser is capable of evaluating the Company may seek to commence involuntary bankruptcy proceedings against the Company. The Company's future capitalrisks of transactions in penny stocks. These requirements will depend on many factors, including continued scientific progress in its research, drug discovery and development programs, the magnitude of these programs, progress with preclinical and clinical trials, sales of DNA products and reagents to third parties manufactured on a custom contract basis by the HSP Division and the margins on such sales, the time and costs involved in obtaining regulatory approvals, the costs involved in filing, prosecuting and enforcing patent claims, competing technological and market developments, the ability of the Company to establish and maintain collaborative academic and commercial research, development and marketing relationships, the ability of the Company to obtain third-party financing for leasehold improvements and other capital expenditures and the costs of manufacturing scale-up and commercialization activities and arrangements. Early Stage of Development; Technological Uncertainty The Company's potential pharmaceutical products are at various stages of research, preclinical testing or clinical development. There are a number of technological challenges that the Company must successfully address to complete any of its development efforts. To date, most of the Company's resourceslikely have been dedicated to applying oligonucleotide chemistry and cell biology to the research and development of potential pharmaceutical products based upon antisense technology. -57- 58 As in most drug discovery programs, the results of in vitro, tissue culture and preclinical studies by the Company may be inconclusive and may not be indicative of results that will be obtained in human clinical trials. In addition, results attained in early human clinical trials by the Company may not be indicative of results that will be obtained in later clinical trials. Neither the Company, nor to its knowledge, any other company has successfully completed human clinical trials of a product based on antisense technology, and there can be no assurance that any of the Company's products will be successfully developed. The success of any of the Company's potential pharmaceutical products depends in part on the molecular target on the genetic material chosen as the site of action of the oligonucleotide. There can be no assurance that the Company's choice will be appropriate for the treatment of the targeted disease indication in humans or that mutations in the genetic material will not result in a reduction in or loss of the efficacy or utility of a Company product. Uncertainty Associated with Clinical Trials Before obtaining regulatory approvals for the commercial sale of any of its pharmaceutical products under development, the Company must undertake extensive and costly preclinical studies and clinical trials to demonstrate that such products are safe and efficacious. The results from preclinical studies and early clinical trials are not necessarily predictive of results that will be obtained in later stages of testing or development, and there can be no assurance that the Company's clinical trials will demonstrate the safety and efficacy of any pharmaceutical products or will result in pharmaceutical products capable of being produced in commercial quantities at reasonable cost or in a marketable form. In July 1997, the Company discontinued the development of GEM 91, its first- generation antisense drug for the treatment of AIDS and HIV infection, based on a review of data from an open label Phase II clinical trial of patients with advanced HIV infection. In the Phase II trial, three of the nine subjects tested experienced decreases in platelet counts that required dose interruption. In addition, a review of the data showed inconsistent responses to the treatment and failed to confirm the decrease in cellular viremia observed in an earlier clinical trial. The Company had devoted significant funding and development efforts in GEM 91, and GEM 91 was the Company's most advanced product candidate. Although the Company is conducting clinical trials on certain oligonucleotide compounds and is developing several oligonucleotide compounds on which it plans to file IND applications with the FDA and equivalent filings outside of the U.S., there can be no assurance that necessary preclinical studies on these compounds will be completed satisfactorily or that the Company otherwise will be able to make its intended filings. Further, there can be no assurance that the Company will be -58- 59 permitted to undertake and complete human clinical trials of any of the Company's potential products, either in the U.S. or elsewhere, or, if permitted, that such products will not have undesirable side effects or other characteristics that may prevent or limit their commercial use. The rate of completion of the Company's human clinical trials, if permitted, will be dependent upon, among other factors, the rate of patient enrollment. Patient enrolment is a function of many factors, including the size of the patient population, the nature of the protocol, the availability of alternative treatments, the proximity to clinical sites and eligibility criteria for the study. Delays in planned patient enrollment might result in increased costs and delays, which could have a material adverse effect on the Company. The Company ormarket liquidity of Hybridon's securities, and therefore on Hybridon's ability to raise funds, the FDA or other regulatory agencies may suspend clinical trials atability of broker-dealers to sell Hybridon's securities, and the ability of purchasers to sell any time if the subjects or patients participating in such trials are being exposed to unacceptable health risks. History of Operating Losses and Accumulated Deficit The Company has incurred net losses since its inception. At December 31, 1997, the Company's accumulated deficit was approximately $218.7 million. Such losses have resulted principally from costs incurredtheir Hybridon securities in the Company's research and development programs and from general and administrative costs associated with the Company's development. No revenues have been generated from sales of pharmaceutical products developed by the Company and no revenues from the sale of such products are anticipated for a number of years, if ever. The Company expects to incur additional operating losses over the next several years and expects cumulative losses to increase significantly as the Company's research and development and clinical trial efforts expand. The Company expects that losses will fluctuate from quarter to quarter and that such fluctuations may be substantial. Although the HSP Division has begun to generate revenues from the sale of synthetic DNA products and reagents manufactured by it on a custom contract basis, there can be no assurance that demand for and margins on these products will not be lower than anticipated. In 1997, revenues generated from the sale of synthetic DNA products and reagents were significantly lower than anticipated. The Company's ability to achieve profitability is dependent in part on obtaining regulatory approvals for its pharmaceutical products and entering into agreements for drug discovery, development and commercialization. There can be no assurance that the Company will obtain required regulatory approvals, enter into any additional agreements for drug discovery, development and commercialization or ever achieve drug sales or profitability.secondary market. Hybridon May Be Unable To Obtain Or Enforce Patents; Its Patents and Proprietary Rights The Company'sMay Not Provide Adequate Protection Hybridon's success will depend in partto a large extent on its ability to develop patentable products(1) obtain U.S. and foreign patent protection for drug candidates and processes, (2) preserve trade secrets and (3) operate without infringing the proprietary rights of third parties. Legal standards relating to the validity of patents covering pharmaceutical and biotechnological inventions and the scope of claims made under such patents are still developing. As a result, Hybridon's ability to obtain and enforce patent protection forpatents that protect its products both in the U.S. -59- 60 and in other countries. The Company has filed and intends to file applications as appropriate for patents covering both its products and processes. However, the patent positions of pharmaceutical and biotechnology firms, including Hybridon, are generallydrugs is uncertain and involveinvolves complex legal and factual questions. No assurance can39 To obtain a patent on an invention, one must be giventhe first to invent it or the first to file a patent application for it. Hybridon also cannot be completely sure that the inventors of subject matter covered by its patents will issue from any pending or futureand patent applications owned by or licensed to Hybridon. Since patent applications in the U.S. are maintained in secrecy until patents issue, and since publication of discoveries in the scientific or patent literature tend to lag behind actual discoveries by several months, the Company cannot be certain that it waswere the first creator of inventions covered by pending patent applicationsto invent, or that it was the first to file patent applications for, suchthose inventions. Further, there canFurthermore, that Hybridon owns or licenses pending or future patent applications does not mean that patents based on those applications will ultimately be no assurance that the claims allowedissued. Existing or future patents may be challenged, infringed, invalidated, found to be unenforceable, or circumvented by others. Hybridon's rights under any issued patents will be sufficiently broad to protect the Company's technology.may not provide sufficient protection against competing drugs or otherwise cover commercially valuable drugs or processes. See "Business -- Patents, Trade Secrets and Licenses." Hybridon Could Become Involved In addition, no assurance can be given that any issued patents owned by or licensed to the Company will not be challenged, invalidated or circumvented, or that the rights granted thereunder will provide competitive advantages to the Company. The commercial success of the Company will also depend in part on its neither infringing patents issued to competitors or others nor breaching the technology licenses upon which the Company's products might be based. The Company's licenses of patents and patent applications impose various commercialization, sublicensing, insurance and other obligations on the Company. Failure of the Company to comply with these requirements could result in termination of the applicable license. The Company is aware of patents and patent applications belonging to competitors, and it is uncertain whether these patents and patent applications will require the Company to alter its products or processes, pay licensing fees or cease certain activities.Time-Consuming And Expensive Patent Litigation; Adverse Decisions In particular, competitors of the Company and other third parties may hold pending patent applications relating to antisense and other gene expression modulation technologies which may result in claims of infringement against the Company or other patent litigation. There can be no assurance that the Company will be able successfully to obtain a license to any technology that it may require or that, if obtainable, such technology can be licensed at a reasonable cost or on an exclusive basis.Patent Litigation Could Cause Hybridon To Incur Additional Costs And Experience Delays In Bringing New Drugs To Market The pharmaceutical and biotechnology industries have been characterized by extensivetime-consuming and extremely expensive litigation regarding patents and other intellectual property rights. Litigation, which could result in substantial cost to the Company,Hybridon may be necessaryrequired to enforce any patents issuedcommence, or licensedmay be made a party to, the Company and/orlitigation relating to determine the scope and validity of other parties' proprietary rights. The Companyits intellectual property rights, or the intellectual property rights of others. Such litigation could result in adverse decisions regarding the patentability of Hybridon's inventions and products, or the enforceability, validity, or scope of protection offered by its patents. Such decisions could make Hybridon liable for substantial money damages or could bar Hybridon from the manufacture, use, or sale of certain products, resulting in additional costs and delays in bringing drugs to market. Hybridon may not have sufficient resources to bring any such proceedings to a successful conclusion. Hybridon also will havemay be required to participate in interference proceedings declared by the U.S. Patent and Trademark Office which could result(or similar proceedings in substantial cost to the Company, to determine the priority of inventions. Furthermore, the Company may have to participate at substantial costforeign countries) and in International Trade Commission proceedings to abate importationaimed at preventing the importing of products whichdrugs that would compete unfairly with products of the Company. -60- 61 Hybridon engages in collaborations, sponsored research agreementsdrugs. Such proceedings could cause Hybridon to incur considerable costs. Hybridon's Trade Secrets And Other Unpatented Proprietary Information May Become Available To Others Trade secrets and other agreements with academic researchers and institutions and government agencies. Under the terms of such agreements, third parties may have rightsunpatented proprietary information plays an important role in certain inventions developed during the course of the performance of such collaborations and agreements. The Company relies on trade secrets and proprietary know-how which itHybridon's business. Hybridon seeks to protect this information, in part by means of confidentiality agreements with its collaborators, employees, and consultants. There can be no assurance thatIf any of these agreements will notis breached, Hybridon may be breached, that the Company would havewithout adequate remedies for any breach or that the Company'sremedies. Also, Hybridon's trade secrets will not otherwisemay become known or be independently developed by competitors. AttractionThis could have a material adverse effect on Hybridon's business, and Retention ofHybridon may need to engage in costly and time-consuming litigation to protect its proprietary rights. The Loss Of Key Employees and Scientific Collaborators; Employment Agreements The Company is highly dependentMembers Of Management Could Be Damaging Hybridon depends on the principal members of its management and scientific staff, including E. Andrews Grinstead III, the Company'sHybridon's Chairman of the Board, President and its Chief Executive Officer, and Sudhir Agrawal, the Company'sHybridon's Senior Vice President of Discovery 40 and its Chief Scientific Officer, theOfficer. The loss of whosetheir services could have a material adverse effect on the Company. The Company has executed Employment Agreements with Messrs. Grinstead and Agrawal. Mr. Grinstead's agreement provides for an employment term ending on June 30, 2001 (unless sooner terminated in accordance with the provisions of the agreement), and Mr. Agrawal's agreement provides for an employment term ending on June 30, 2000 (unless sooner terminated in accordance with the agreement). For further information, see "Compensation of Executive Officers" in the Company's Proxy Statement for the Annual Meeting of Stockholders to be held on June 15, 1998.Hybridon. Hybridon May Not Be Able To Meet Its Personnel Needs; This Could Result In Delays Or Additional Costs From June 30, 1997, to March 30, 1998,31, 1999, the number of employees of the Company hasHybridon decreased from 213 to 78.51. As a result, the CompanyHybridon has lost significant expertise, and will be required tomust recruit and retain new personnel in order to perform its operations. In addition, any growth or expansion of the Company will require recruiting and retaining qualified scientific personnel to perform research and development work. There can be no assurance that under either circumstancemaintain its current level of operations, while expansion would require a further increase in scientific personnel. In addition, expansion by Hybridon would likely result in the Company willneed for additional management personnel. Hybridon may not be able to attract and retain such personnel on acceptable terms, given the competition for experienced scientists and management among numerous pharmaceutical, biotechnology and health care companies, universities, and non-profit research institutions. In addition, the Company's growth and expansion into areas and activities requiring additional expertise, such as clinical testing, governmental approvals, production and marketing, would be expected to require the addition of new management personnel and the development of additional expertise by existing management personnel. The failure to acquire such services orrecruit and retain personnel could result in delays in commercializing drugs, and could cause Hybridon to develop such expertise could have a material adverse effect on the Company. -61- 62incur additional costs. Hybridon Relies On Relationships With Research Institutions And Corporate Partners, And Would Be Harmed By A Lack Of, Or The Company'sTermination Of, Such Relationships Hybridon's success will depend in part on its continued ability to develop and maintain relationships with independent researchers and leading academic and research institutions. The competition for such relationships is intense, and thereHybridon can begive no assuranceassurances that the Companyit will be able to develop and maintain such relationships on acceptable terms. The CompanyHybridon has entered into a number of such collaborative relationships relating to specific disease targets and other research activities in order to augment its internal research capabilities and to obtain access to the specialized knowledge or expertise of its collaborative partners.expertise. The loss of any suchof these collaborative relationshiprelationships could have ana material adverse effect on the Company's ability to conductHybridon's research and development program. Similarly, strategic alliances with corporate partners, primarily pharmaceutical and biotechnology companies, may help Hybridon develop and commercialize drugs. Various problems can arise in strategic alliances. A partner responsible for conducting clinical trials and obtaining regulatory approval may fail to develop a marketable drug. A partner may decide to pursue an alternative strategy or alternative partners. A partner that has been granted marketing rights for a certain drug within a geographic area may fail to market the drug successfully. Consequently, Hybridon's current strategic alliance or those it enters into in the area targeted by such collaboration. Risks Associated withfuture may not be scientifically or commercially successful. Hybridon Specialty Products Divisionmay not able to negotiate advantageous strategic alliances in the future. The absence of, or failure of, strategic alliances could harm Hybridon's efforts to develop and commercialize its drugs. HSP's Results May Be Lower Than Currently Anticipated Through itsHSP, Hybridon Specialty Products Division, the Company manufactures oligonucleotide compounds on a custom contract basis for third parties.sale to others. The results of operations of the HSP Division will be dependent upondepend on the demand for and margins on these products. Demand for such products was significantlydrugs, which may be lower than anticipated in 1997. TheHybridon anticipates. HSP's results of operations of the HSP Divisionwill also may be affected by the price and availability of raw materials. It is possible that41 Hybridon Faces Intense Competition, And Hybridon's manufacturing capacity may not be sufficient for production of oligonucleotides both for the Company's internal needs and for saleProducts Could Be Rendered Obsolete; Many Of Hybridon's Competitors Have Greater Resources And Experience Than Hybridon Many companies are attempting to third parties. The Company's manufacturing facility must comply with GMP and other FDA regulations. See "Certain Factors That May Affect Future Results -- Limited Manufacturing Capability." The Company believes that it is currently manufacturing oligonucleotides in substantial compliance with FDA requirements for manufacturing in compliance with GMP, although its facility and procedures have not been formally inspected by the FDA and the procedures and documentation followed may havedevelop drugs similar to be enhanced in the future as the Company expands its oligonucleotide production activities. Failurethose Hybridon proposes to establish to the FDA's satisfaction compliance with GMP can result in the FDA denying authorization to initiate or continue clinical trials, to receive approval of a product or to begin or to continue commercial marketing. The Company will be competing against a number of third parties, as well as the possibility of internal production by the Company's customers, in connection with the operations of the HSP Division. Manydevelop. Some of these third partiesdrugs are likely to have greater financial, technical and human resources than the Company. Key competitive factors will include the price and quality of the products as well as manufacturing capacity and ability to comply with specifications and to fulfill orders on a timely basis. The Company may be required to reduce the cost of its product offerings to meet competition. See "Certain Factors That May Affect Future Results -- Competition." Failure to manufacture oligonucleotide compounds in accordance with the purchaser's specifications could expose the Company to breach of contract and/or product liability claims from the purchase or the purchaser's customers. The -62- 63 Company has limited experience in sales, marketing and distribution and is relying in part upon the efforts of a third party, Perkin-Elmer, in connection with the marketing and sale of products by the HSP Division. See "Certain Factors That May Affect Future Results -- Absence of Sales and Marketing Experience." Need to Establish Collaborative Commercial Relationships; Dependence on Partners Hybridon's business strategy includes entering into strategic alliances or licensing arrangements with corporate partners, primarily pharmaceutical and biotechnology companies, relating to the development and commercialization of certain of its potential products. Although the Company is party to a corporate collaboration with Searle, a subsidiary of Monsanto Company, in the field of inflammation/immunomodulation and Medtronic relating to Alzheimers, there can be no assurance that these collaborations will be scientifically or commercially successful, that the Company will be able to negotiate additional collaborations, that such collaborations will be available to the Company on acceptable terms or that any such relationships, if established, will be scientifically or commercially successful. For example, in 1997, Roche terminated the collaborative relationship with the Company that was established in 1992 without selecting any compounds for further development. The Company expects that under certain of its collaborations, the collaborative partner will have the responsibility for conducting human clinical trials, and the submission for regulatoryone has received FDA approval of the product candidate with the FDA and certain other regulatory agencies. Should the collaborative partner fail to develop a marketable product, the Company's business may be materially adversely affected. There can be no assurance that the Company's collaborative partners will not be pursuing alternative technologies or developing alternative compounds either on their own or in collaboration with others, including the Company's competitors, as a means for developing treatments for the diseases targeted by these collaborative programs. The Company's business will also be affected by the performance of its corporate partners in marketing any successfully developed products within the geographic areas in which such partners are granted marketing rights. The Company's plan is to retain manufacturing rights for many of the products its may license pursuant to arrangements with corporate partners. However, there can be no assurance that the Company will be able to retain such rights on acceptable terms, if at all, or that the Company will have the ability to produce the quantities of product required under the terms of such arrangements. Risks of Low-Priced Stock; Possible Effect of "Penny Stock" Rules on Liquidity for the Company's Securities. Since the Common Stock is not listed on a national securities exchange or on a qualified automated quotation system, it is subject to Rule 15g-9 under the Securities -63- 64 Exchange Act of 1934, as amended (the "Exchange Act"), which imposes additional sales practice requirements on broker-dealers that sell such securities. Rule 15g-9 defines a "penny stock" to be any equity security that has a market price (as therein defined) of less than $5.00 per share or with an exercise price of less than $5.00 per share, subject to certain exceptions including the securities being quoted on the Nasdaq National Market or SmallCap Market. For transactions covered by this rule, a broker-dealer must make a special suitability determination for the purchaser and have received the purchaser's written consent to the transaction prior to sale. The foregoing required penny stock restrictions would not apply to the Company's securities if the Company's Common Stock was listed on the Nasdaq National Market or SmallCap Market or met certain minimum net tangible assets or average revenue criteria. The Company's securities, however, do not qualify for exemption from the penny stock restrictions. There can be no assurance that the Common Stock will qualify for listing on the Nasdaq National Market or SmallCap Market in the foreseeable future, if at all. In any event, even if the Company's securities are exempt from such restrictions, the Company would remain subject to Section 15(b)(6) of the Exchange Act, which gives the Securities and Exchange Commission (the "Commission") the authority to restrict any person from participating in a distribution of penny stock, if the Commission finds that such a restriction would be in the public interest. The market liquidity for the Company's securities is likely to be materially adversely affected by these requirements.commercialized. In addition, such rulesthere are likely to adversely affect the Company's ability to raise funds and the ability of broker-dealers to sell the Company's securities in the secondary market. No Assurance of Regulatory Approval; Government Regulation The Company's preclinical studies and clinical trials, as well as the manufacturing and marketing of the potential products being developed by it and the products sold by the HSP Division, are subject to extensive regulation by numerous federal, state and local governmental authorities in the U.S. Similar regulatory requirements exist in other countries where the Company intends to test and market its drug candidates. Satisfaction of these requirements, which include demonstrating to the satisfaction of the FDA and foreign regulatory agencies that the product is both safe and effective, typically takes several years or more and can vary substantially based upon the type, complexity and novelty of the product. There can be no assurance that such testing will show any product to be safe or efficacious. Preclinical studies of the Company's product development candidates are subject to Good Laboratory Practices ("GLP") requirements and the manufacture of any products by the Company, including products developed by the Company and products manufactured for third parties on a custom contract basis by the HSP Division, will be subject to GMP requirements prescribed by the FDA. -64- 65 The regulatory process, which includes preclinical studies, clinical trials and post-clinical testing of each compound to establish its safety and effectiveness, takes many years and requires the expenditure of substantial resources. Delays may also be encountered and substantial costs incurred in foreign countries. There can be no assurance that, even after the passage of such time and the expenditure of such resources, regulatory approval will be obtained for any drugs developed by the Company. Data obtained from preclinical and clinical activities are subject to carrying interpretations which could delay, limit or prevent regulatory approval by the FDA or other regulatory agencies. The Company, an independent Institutional Review Board (an "IRB"), the FDA or other regulatory agencies may suspend clinical trials at any time if the participants in such trials are being exposed to unacceptable health risks. Moreover, if regulatory approval of a drug is granted, such approval may entail limitations on the indicated uses for which it may be marketed. Failure to comply with applicable regulatory requirements can, among other things, result in fines, suspension of regulatory approvals, product recalls, seizure of products, operating restrictions and criminal prosecutions. FDA policy may change and additional government regulations may be established that could prevent or daily regulatory approval of the Company's potential products. Even if initial regulatory approvals for the Company's product candidates are obtained, the Company, its products and its manufacturing facilities would be subject to continual review and periodic inspection. Moreover, additional government regulations from future legislation or administrative action may be established which could prevent or delay regulatory approval of the Company's products or further regulate the prices at which the Company's proposed products may be sold. The regulatory standards for manufacturing are applied stringently by the FDA. In addition, a marketed drug and its manufacturer are subject to continual review and any subsequent discovery of previously unknown problems with a product or manufacturer may result in restrictions on such product or manufacturer, including withdrawal of the product from the market and withdrawal of the right to manufacture the product. All of the foregoing regulatory matters also will be applicable to development, manufacturing and marketing undertaken by any strategic partners or licensees of the Company. Competition There are many companies, both private and publicly traded, that are conducting research and development activities on technologies and products similar to or competitive with the Company's antisense technologies and proposed products. For example, many other companies are actively seeking to develop products, including antisense oligonucleotides, with disease targets similar to those being pursued by the Company. Some of these competitive products are in clinical trials. -65- 66 The Company believes that the industry-wide interest in investigating the potential of gene expression modulation technologies will continue and will accelerate as the techniques which permit the design the development of drugs based on such technologies become more widely understood. There can be no assurance that the Company's competitors will not succeed in developing products based on oligonucleotides or other technologies, existing or new, which are more effective than any that are being developed by the Company, or which would render Hybridon's antisense technologies obsolete and noncompetitive. Moreover, there currently are commerciallyalready available products for the treatment of many of the disease targets being pursued by the Company. Competitorsdiseases that Hybridon's proposed drugs would treat. Any of the Company engaged in all areas ofthese drugs may prove more effective than those that Hybridon proposes to develop, and may gain or maintain greater market acceptance. Furthermore, biotechnology and drug discoveryrelated pharmaceutical technologies have undergone and continue to be subject to rapid and significant change. Hybridon expects that the technologies associated with biotechnology research and development will continue to develop rapidly. Hybridon's future will depend in the U.S. and other countries are numerous and include, among others, pharmaceutical and chemical companies, biotechnology firms, universities and other research institutions.large part on its ability to compete with these technologies. Any compounds, drugs or processes that Hybridon develops may become obsolete before it recovers expenses incurred in developing those drugs. Many of the Company'sHybridon's competitors have substantially greater financial, technical, and human resources than the Company. In addition, many of these competitorsHybridon, and have significantly greater experience than the CompanyHybridon in undertaking preclinical studies, and human clinical trials, seeking regulatory approval of new pharmaceutical productsdrugs, and obtaining FDA and other regulatory approvals of products for use in health care. Furthermore, if the Company is permitted to commence commercial sales of products, it will also be competing with respect to manufacturing efficiency and marketing capabilities, areas in which it has limited or no experience. Accordingly, the Company's competitors may succeed in obtaining FDA or other regulatory approvals for products or in commercializing such products more rapidly than the Company. Limitednew drugs. Hybridon's Manufacturing Capability While the Company believes that its existing production capacity will be sufficient to enable it to satisfy its current research needs and to support the Company's preclinical and clinical requirements for oligonucleotide compounds, the Company will need to purchase additional equipment to expand its manufacturing capacity in order to satisfy its future requirements (subject to obtaining regulatory approvals) for commercial production of its product candidates. In addition, the HSP Division is using the Company's existing production capacity to custom contract manufacture synthetic DNA products for commercial sale. As a result, depending on the level of sales by the HSP Division, and the successMay Be Adversely Affected By Problems With Suppliers Certain of the Company's product development programs, Hybridon's manufacturing capacityraw materials that Hybridon requires to manufacture oligonucleotides are available from only a few suppliers, namely those with access to the appropriate patented technology. The number of suppliers is unlikely to increase in the near future. Hybridon may not be sufficient for production for both its internal needs and sales to third parties. In addition, in order successfully to commercialize its product candidates or achieve satisfactory margins on sales, the Company may be required to reduce further the cost of production of its oligonucleotide compounds, and there can be no assurance that the Company will be able to do so. -66- 67 The manufacture of the Company's products is subject to GMP requirements prescribed by the FDA or other standards prescribed by the appropriate regulatory agency in the country of use. To the Company's knowledge, therapeutic products based on chemically-modified oligonucleotides have never been manufactured on a commercial scale. There can be no assurance that the Company will be able to manufacture products in timely fashion and at acceptable quality and price levels, that it or its suppliers can manufacture in compliance with GMP or other regulatory requirements or that it or its suppliers will be able to manufacturesecure an adequate supply of product. The Company has in the past relied in part, and may in the future rely, upon third party contractors in connection with the manufacture of some compounds. Reliance on such third parties entails a number of risks, including the possibility that such third partiesthese materials at an acceptable price. Also, due to regulatory restrictions or other problems, Hybridon's suppliers may fail to perform on an effective or timely basis or fail to abide by regulatory or contractual restrictions applicable to the Company. There are three sourcesprovide materials of supply for the nucleotide building blocks used by the Company in its current oligonucleotide manufacturing process. This process is covered by issued patents either held by or licensed to these three companies. Therefore, these companies are likely the sole suppliers to Hybridon of these nucleotide building blocks. There can be no assurance that nucleotide building blocks will be obtainable at acceptable costs, if at all. The inability of Hybridon to obtain these nucleotide building blocks from one of these suppliers, or to obtain them at an acceptable cost, could have a material adverse effect on Hybridon. Absence of Sales andquality. Hybridon's Lack Of Marketing Experience The Company expects eventually to market and sell certainCould Adversely Affect Its Ability To Commercialize Its Drugs Direct marketing of any of its prospective products directly and certain of its products through co-marketing or other licensing arrangements with third parties. The Company has limited experience in sales, marketing and distribution, and does not expect to establish a sales and marketing plan or direct sales capability with respect to the products being developed by it until such time as one or more of such products approaches marketing approval, if at all. In addition, although the Company does have a limited direct sales capability with respect to the sales of custom contract manufactured DNA products to third parties by the HSP Division, the Company has entered into a sales and marketing arrangement with Perkin-Elmer with respect to such products and is reliant in part on the efforts of Perkin-Elmer to promote these products. In order to market the products being developed by it directly, the Company will be required to developproposed drugs would require a substantial marketing staff and sales force with technical expertise and with supportingsupported by a distribution capability. There can be no assurancesystem. Given that the Company willHybridon currently has little experience in sales, marketing, or distribution, Hybridon might not be able to build suchundertake direct marketing of its drugs in a marketing staff or sales force, that the cost of establishing such a marketing staff or sales force will be justifiable in light of any product revenues or that the Company's direct sales and marketing efforts will be successful. In addition, if the Company succeeds in -67- 68 bringing one or more products to market, it may compete with other companies that currently have extensive and well-funded marketing and sales operations. There can be no assurance that the Company's marketing and sales efforts would enable it to compete successfully against such other companies. To the extent the Company enters into co-marketcost-effective manner. The alternative -- co-marketing or other licensing arrangements any revenues received by-- would allow Hybridon to avoid the Company will be dependentsignificant cost involved in partdirect marketing, but would require Hybridon to rely on the efforts of third parties and there can be no assurance that such efforts will be successful. No Assurance of Market Acceptance Pharmaceutical products, if any, resulting from the Company's research and development programs are not expected to be commercially available for a number of years. There can be no assurance that, if approved for marketing, such products will achieve market acceptance. The degree of market acceptance will depend upon a number of factors, including the receipt of regulatory approvals, the establishment and demonstration in the medical community of the clinical efficacy and safety of the Company's products and their potential advantages over existing treatment methods and reimbursement policies of government and third-party payors. There is no assurance that physicians, patients, payors or the medical community in general will accept or utilize any products that may be developed by the Company.others. 42 Hybridon Could Be Subject To Product Liability Exposure and Insurance The useClaims For Which It Is Not Fully Insured Hybridon risks being the target of any of the Company's potential productsproduct liability claims alleging that its drugs harm subjects or patients. Such claims could be asserted in connection with Hybridon drugs used in clinical trials and the commercial sale of any products, including the products being developedas well as those sold commercially. Hybridon is covered against such claims by it and the DNA products and reagents manufactured and sold on a custom contract basis by the HSP Division, may expose the Company to liability claims. These claims might be made directly by consumers, health care providers or by pharmaceutical and biotechnology companies or others selling such products. Hybridon has product liability insurance coverage, and such coverage is subjectpolicy (subject to various deductibles. Such coverage isdeductibles), but such policies are becoming increasingly expensive, and no assurance can be given that the Company willexpensive. Hybridon may not be able to maintain or obtain such insurance at reasonable cost or in sufficient amountscoverage to protect the Company againstit from incurring significant losses due to product liability claims that could have a material adverse effect on the Company.claims. Hybridon Uses Hazardous Materials, And Could Be Held Liable For Damages In The Company's research and development and manufacturingEvent Of Accidental Contamination Or Injury Hybridon's activities involvesinvolve the controlled use of hazardous materials, chemicals, viruses, and various radioactive compounds. Although the CompanyHybridon believes that its safety procedures for handling and disposing of such materials comply with the standards prescribed by federal, state, and local regulations, the risk of accidental contamination or injury from these materials cannot be completely eliminated. In the event of such an accident, the CompanyHybridon could be held liable for any damages that result and any such -68- 69 liability could have a material adverse effect on the Company. Uncertainty of Pharmaceutical Pricing and Adequateresult. Restrictions On Third-Party Reimbursement The Company'sCould Adversely Affect Hybridon's Ability To Commercialize Its Drugs Hybridon's ability to commercialize its pharmaceutical productsdrugs successfully will depend in part on the extent to which appropriate reimbursement levelsvarious third parties are willing to reimburse patients for the costcosts of such productsHybridon's drugs and related treatment are obtained fromtreatments. These third parties include government authorities, private health insurers, and other organizations, such as health maintenance organizations ("HMOs").organizations. Third-party payors are increasingly challenging the prices charged for medical products and services. There can be no assurance that any ofAccordingly, if less costly drugs are available, third-party payors may not authorize or may limit reimbursement for Hybridon's drugs, even if they are safer or more effective than the Company's potential products will be considered cost-effective or that adequate third-party reimbursement will be available to enable the Company to maintain price levels sufficient to realize an appropriate return on its investment. Alsoalternatives. In addition, the trend towardstoward managed health care in the U.S.healthcare and the concurrent growth of organizations such as HMOs, which could control or significantly influence the purchase of health care services and products, as well as legislative proposals to reduce government insurance programs may allcould result in lower pricesreimbursement and reduced demand for the Company's products. The costHybridon's drugs. Cost containment measures that health careinstituted by healthcare providers are institutingand any general healthcare reform could affect the Company'sHybridon's ability to sell its productsdrugs and may have a material adverse effect on the Company. Uncertainty of Health Care Reform Measures Federal, state and local officials and legislators (and certain foreign government officials and legislators) have proposedHybridon. Hybridon may be forced to reduce its prices; this would in turn adversely affect profitability. Hybridon cannot predict what additional legislation or are reportedly considering proposing a variety of reformsregulation relating to the health care systems in the U.S.industry or third-party coverage and abroad. The Company cannot predict what health care reform legislation, if any, willreimbursement may be enacted in the U.S.future, or elsewhere. Significantwhat effect such legislation or regulation might have on its business. In particular, Hybridon may be forced to reduce its prices; this would in turn adversely affect profitability. The Market Price Of Hybridon's Securities Is Likely To Be Volatile The market price of the securities of biotechnology companies such as Hybridon is highly volatile. The market price of Hybridon's securities could be influenced by the results of preclinical studies and clinical trials by Hybridon or its competitors, fluctuations in 43 Hybridon's operating results, announcements by Hybridon or its competitors of technological innovations or new commercial therapeutic products, changes in governmental regulation, developments in patent or other proprietary rights of Hybridon or its competitors, public concern as to the health care systemsafety of drugs developed by Hybridon, and general market conditions. Hybridon Does Not Anticipate Paying Dividends On Common Stock In The Foreseeable Future Hybridon has never paid any cash dividends on the Common Stock and does not anticipate paying any in the U.S.foreseeable future. Furthermore, the Indenture pursuant to which the 9% Notes were issued limits Hybridon's ability to pay dividends or elsewhere are likely to have a substantial impact over timesmake other distributions on the mannerCommon Stock, and Hybridon is currently prohibited under the terms of its $6,000,000 secured loan from paying cash dividends. Whether Hybridon is ultimately able to pay cash dividends on the Common Stock depends on Hybridon's future earnings, operating and financial condition, and capital requirements, and on general business conditions. Hybridon's Ability To Utilize Its Net Operating Losses And Tax Credits Is Likely To Be Severely Restricted Hybridon has substantial net operating loss and tax credit carryforwards for federal income tax purposes. These carryforwards will expire beginning on December 31, 2005. The Tax Reform Act of 1986 limits the annual use of net operating loss and tax credit carryforwards following certain ownership changes. The securities offerings conducted by Hybridon will severely restrict Hybridon's ability to utilize its net operating losses and tax credits in any particular year. Additionally, because the U.S. tax laws limit the time during which net operating loss and tax credit carryforwards may be applied against future taxable income and tax liabilities, respectively, Hybridon may never be fully able to use its net operating loss and tax credits for federal income tax purposes. Hybridon May Be Adversely Affected By Year 2000 Compliance Related Problems As has been widely publicized, many computer systems and microprocessors are not programmed to accommodate dates beyond the Company conductsyear 1999. Hybridon's exposure to this Y2K problem comes not only from its business. Such changes couldown internal computer systems and microprocessors, but also from the systems and microprocessors of its key suppliers, including utility companies and payroll services. While Hybridon believes that all of its internal systems will be Y2K compliant by the end of the third quarter of 1999, and is taking appropriate measures to ensure that its suppliers are Y2K compliant, it is nevertheless possible that Y2K problems will have a material adverse effect on the Company. The existence of pending health care reform proposals could have a material adverse effect on the Company's ability to raise capital. Furthermore, the Company's ability to commercialize its potential products may be adversely affected to the extent that such proposals have a material adverse effect on the business, financial condition and profitability of other companies that are prospective corporate partners with respect to certain of the Company's proposed products. Concentration ofHybridon's business. See "Management's Discussion And Analysis Of Financial Condition And Results Of Operations -- Year 2000." 44 Stock Ownership byBy Hybridon's Directors and ExecutiveAnd Officers The Company'sMay Delay Or Prevent A Change Of Control Hybridon's directors and executive officers and their affiliates beneficially own a significant percentage of the Company'sHybridon's outstanding Common Stock and Convertible Preferred Stock. As a result, these stockholders, if acting together, may have the ability to influence the outcome of corporate actions requiring stockholder approval. This concentration of ownership may have the effect of delaying or preventing a change in control of the -69- 70 Company.Hybridon. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Historically, Hybridon's primary exposures have been related to nondollar-denominated operating expenses in Europe. As of December 31, 1998, Hybridon's assets and liabilities related to nondollar-denominated currencies were not material. ITEM. 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.DATA All financial statements required to be filed hereunder are filed as APPENDIX A hereto, are listed under Item 14(a), and are incorporated herein by this reference. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.DISCLOSURE None. 45 PART III ITEM 10. DIRECTORS, AND EXECUTIVE OFFICERS AND CERTAIN SIGNIFICANT EMPLOYEES OF THE REGISTRANT.COMPANY The response to this item is contained in part under the caption "Executive Officers and Significant Employees of the Company" in Part I of this Annual Report on Form 10-K and in part in the Company's Proxy Statement for the Annual Meeting of Stockholders to be held on June 15, 19988, 1999 (the "1998"1999 Proxy Statement"), under the caption "Proposal 1--Election"Election of Directors," which section is incorporated herein by this reference. The 1999 Proxy Statement will be filed with the Securities and Exchange Commission (the "Commission") not later than 120 days after the fiscal year covered by this Annual Report on Form 10-K. Officers are elected on an annual basis and serve at the discretion of the Board of Directors. ITEM 11. COMPENSATION OF EXECUTIVE COMPENSATION.OFFICERS The response to this item is contained in the 19981999 Proxy Statement under the caption "Proposal 1--Election"Election of Directors," which section is incorporated herein by this reference. The 1999 Proxy Statement will be filed with the Commission not later than 120 days after the fiscal year covered by this Annual Report on Form 10-K. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.MANAGEMENT The response to this item is contained in the 19981999 Proxy Statement under the caption "Stock Ownership of Certain Beneficial Owners and Management," which section is incorporated herein by this reference. The 1999 Proxy Statement will be filed with the Commission not later than 120 days after the fiscal year covered by this Annual Report on Form 10-K. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.TRANSACTIONS The response to this item is contained in the 19981999 Proxy Statement under the caption "Certain Relationships and Related Transactions," which section is incorporated herein by this reference. -70-The 1999 Proxy Statement will be filed with the Commission not later than 120 days after the fiscal year covered by this Annual Report on Form 10-K. 46 71 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.8-K (a) The following documents are filed as APPENDIX A hereto and are included as part(1) Financial Statements. Reference is made to the Index to Consolidated Financial Statements under Item 8 of this Annual Report on Form 10-K: Financial Statements: Report of Independent Public Accountants Consolidated Balance Sheets Consolidated Statements of Operations Consolidated Statements of Stockholders' Equity (Deficit) Consolidated Statements of Cash Flows Notes to Consolidated Financial Statements (b)10-K. (2) The Company is not filing any financial statement schedules as part of this Annual Report on Form 10-K because they are not applicable or the required information is included in the financial statements or notes thereto. (c)(3) The list of Exhibits filed as a part of this Annual Report on Form 10-K are set forth on the Exhibit Index immediately preceding such Exhibits, and is incorporated herein by this reference. (d) REPORTS ON FORM(b) Reports on Form 8-K. The followingDuring the fourth quarter of 1998, the Company did not file any reports on Form 8-K wereForms 8-K. (c) Exhibits required by Item 601 of Regulation S-K with each management contract, compensatory plan or arrangement required to be filed during the last quarteridentified. Exhibit No. Description - ----------- ----------- 3.1(1) Restated Certificate of Incorporation of the Company's fiscalRegistrant, as amended. 3.2(2) Amended and Restated By-Laws of the Registrant. 3.3(3) Form of Certificate of Designation of Series A Preferred Stock. 3.4(3) Form of Certificate of Designation of Series B Preferred Stock. 4.1(2) Specimen Certificate for shares of Common Stock, $.001 par value, of the Registrant. 4.2(4) Indenture dated as of March 26, 1997 between Forum Capital Markets LLC and the Registrant. 4.3(7) Certificate of Designation of Series A Preferred Stock, par value $.01 per share, dated May 5, 1998. 4.4(7) Class A Warrant Agreement dated May 5, 1998. 4.5(7) Class B Warrant Agreement dated May 5, 1998. 4.6(7) Class C Warrant Agreement dated May 5, 1998. 4.7(7) Class D Warrant Agreement dated May 5, 1998. 47 +10.1(2) License Agreement dated February 21, 1990 and restaged as of September 8, 1993 between the Registrant and the Worcester Foundation for Biomedical Research, Inc., as amended. +10.2(2) Patent License Agreement dated September 21, 1995 between the Registrant and National Institutes of Health. +10.3(2) Patent License Agreement effective as of October 13, 1994 between the Registrant and McGill University. +10.4(2) License Agreement effective as of October 25, 1995 between the Registrant and the General Hospital Corporation. +10.5(2) License Agreement dated as of October 30, 1995 between the Registrant and Yoon S. Cho-Chung. +10.6(2) Collaborative Study Agreement effective as of December 30, 1992 between the Registrant and Medtronic, Inc. +10.7(2) System Design and Procurement Agreement dated as of December 16, 1994 between the Registrant and Pharmacia Biotech, Inc. 10.8(2) Lease dated March 10, 1994 between the Registrant and Laborer's Pension/Milford Investment Corporation for space located at 155. Fortune Boulevard, Milford, Massachusetts, including Note in the original principal amount of $750,000. 10.9(2) Registration Rights Agreement dated as of February 21, 1990 between the Registrant, the Worcester Foundation for Biomedical Research, Inc. and Paul C. Zamecnik. 10.10(2) Registration Rights Agreement dated as of June 25, 1990 between the Registrant and Nigel L. Webb. 10.11(2) Registration Rights Agreement dated as of February 6, 1992 between the Registrant and E. Andrews Grinstead, III. 10.12(2) Registration Rights Agreement dated as of February 6, 1992 between the Registrant and Anthony J. Payne. ++10.13(2) 1990 Stock Option Plan, as amended. ++10.14(2) 1995 Stock Option Plan. ++10.15(2) 1995 Director Stock Plan. ++10.16(2) 1995 Employee Stock Purchase Plan. 48 10.17(2) Form of Warrant originally issued to Pillar Investment Limited to purchase shares of Common Stock issued as placement commissions in connection with the sale of shares of Series F Convertible Preferred Stock and in consideration of financial advisory service, as amended. 10.18(2) Warrant issued to Pillar S.A. to purchase 100,000 shares of Common Stock dated as of March 1, 1994, as amended. 10.19(2) Warrant issued to Pillar S.A. to purchase 100,000 shares of Common Stock dated as of March 1, 1995. 10.20(2) Form of Warrant issued to Pillar Investment Limited to purchase shares of Common Stock issued as placement commissions in connection with the sale of Units pursuant to the Series G Agreement. ++10.21(5) Employment Agreement dated as of March 1, 1997 between the Registrant and E. Andrews Grinstead, III. 10.22(2) Indemnification Agreement dated as of February 6, 1992 between the Registrant and E. Andrews Grinstead, III. ++10.23(6) Employment Agreement dated March 1, 1997 between the Registrant and Dr. Sudhir Agrawal. ++10.24(2) Consulting Agreement dated as of February 21, 1990 between the Registrant and Dr. Paul C. Zamecnik. 10.25(2) Master Lease Agreement dated as of March 1, 1994 between the Registrant and General Electric Capital Corporation. +10.26(6) Research, Development and License Agreement dated as of January 24, 1996 between the Registrant and G.D. Searle & Co. +10.27(6) Manufacturing and Supply Agreement dated as of January 24, 1996 between the Registrant and G.D. Searle & Co. 10.28(6) Registration Rights Agreement dated as of January 24, 1996 between the Registrant and G.D. Searle & Co. 10.29(5) Loan and Security Agreement dated as of December 31, 1996 between the Registrant and Silicon Valley Bank. 10.30(7) First Amendment to Loan and Security Agreement dated March 30, 1998 between Hybridon, Inc. and Silicon Valley Bank. 10.31(8) Second Amendment to Loan and Security Agreement dated May 19, 1998, effective as of April 30, 1998, between Hybridon, Inc. and Silicon Valley Bank. 49 10.32(9) Third Amendment to Loan and Security Agreement dated September 18, 1998 between Hybridon, Inc. and Silicon Valley Bank. 10.33(9) Fourth Amendment to Loan and Security Agreement dated October 30, 1998, effective as of September 29, 1998 between Hybridon, Inc. and Silicon Valley Bank. 10.34 Fifth Amendment to Loan and Security Agreement dated December 4, 1998 between Hybridon, Inc. and Silicon Valley Bank. 10.35(5) Warrant issued to Silicon Valley Bank to purchase 65,000 shares of Common Stock dated as of December 31, 1996. 10.36(5) Registration Rights Agreement dated as of December 31, 1996 between the Registrant and Silicon Valley Bank. +10.37(5) Supply and Sales Agreement dated as of September 1, 1996 between the Registrant and P.E. Applied Biosystems. 10.38(2) Registration Rights Agreement dated as of March 26, 1997 between Forum Capital Markets LLC and the Registrant. 10.39(2) Warrant Agreement dated as of March 26, 1997 between Forum Capital Markets LLC and the Registrant. +10.40(6) Amendment No. 1 to License Agreement, dated as February 21, 1990 and restated as of September 8, 1993, by and between the Worcester Foundation for Biomedical Research, Inc. and the Registrant, dated as of November 26, 1996. 10.41(10) Letter Agreement dated May 12, 1997 between the Registrant and Pillar S.A. amending the Consulting Agreement dated as of March 1, 1994 between the Registrant and Pillar S.A. 10.42(10) Amendment dated July 15, 1997 to the Series G Convertible Preferred Stock and Warrant Purchase Agreement dated as of September 9, 1994 among the Registrant and certain purchasers, as amended. 10.43(1) Consent Agreement dated January 15, 1998 between Silicon Valley Bank and the Registrant relating to the Silicon Agreement. 10.44(11) Letter Agreement between the Registrant and Forum Capital Markets LLC and Pecks Management Partners Ltd. for the purchase of the Loan and Security Agreement with Silicon Valley Bank. 10.45(7) Financial Advisory Agreement between Registrant and Pillar Investments Ltd. dated May 5, 1998. 10.46(7) Placement Agency Agreement between Registrant and Pillar Investments Ltd. dated as of January 15, 1998. 50 +++10.47 Licensing Agreement dated March 12, 1999 by and between Hybridon, Inc. and Integrated DNA Technologies, Inc. 21.1(2) Subsidiaries of the Registrant. 23.1 Consent of Arthur Andersen LLP. 23.2 Consent of McDonnell Boehnen Hulbert & Berghoff. 27.1 Financial Data Schedule [EDGAR] - Year Ended December 31, 1998 - ------------------------------------------------ (1) Incorporated by reference to Exhibits to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1997. On November 19, 1997,(2) Incorporated by reference to Exhibits to the Company filed aRegistrant's Registration Statement on Form S-1 (File No. 33-99024). (3) Incorporated by reference to Exhibit 9(a)(1) to the Registrant's Schedule 13E-4 dated February 6, 1998. (4) Incorporated by reference to Exhibits to the Registrant's Current Report on Form 8-K dated October 18, 1997, announcing thatApril 2, 1997. (5) Incorporated by reference to Exhibits to the Company planned to commence a private offering of up to $50.0 million of its Common Stock. On December 10, 1997, the Company filed a CurrentRegistrant's Annual Report on Form 8-K, dated10-K for the year ended December 3, 1997, announcing that, effective31, 1996. (6) Incorporated by reference to Exhibits to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1995. (7) Incorporated by reference to Exhibits to the Registrant's Quarterly Report on Form 10-Q for the period ended March 31, 1998. (8) Incorporated by reference to Exhibits to the Registrant's Quarterly Report on Form 10-Q for the period ended June 30, 1998. (9) Incorporated by reference to Exhibits to the Registrant's Quarterly Report on Form 10-Q for the period ended September 30, 1998. (10) Incorporated by reference to Exhibits to the Registrant's Quarterly Report on Form 10-Q for the period ended June 30, 1997. (11) Incorporated by reference to Exhibits to the Registrant's Registration Statement on Form S-1 (File No. 333-69649). + Confidential treatment granted as ofto certain portions, which portions are omitted and filed separately with the close of businessCommission. 51 ++ Management contract or compensatory plan or arrangement required to be filed as an Exhibit to the Annual Report on Form 10-K for the year ended December 2, 1997,31, 1997. +++ Confidential treatment requested as to certain portions, which portions are omitted and filed separately with the Company's Common Stock was delisted from the Nasdaq National Market and the Company's Common Stock would be quoted on the OTC Bulletin Board commencing on December 3, 1997. -71-Commission. 52 72 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. HYBRIDON, INC. By:authorized, on this 15th day of April 1999. Hybridon, Inc. /s/ E. Andrews Grinstead, III ----------------------------------------------------------------- E. Andrews Grinstead, III Chairman of the Board, President and Chief Executive Officer Date: March 30, 1998POWER OF ATTORNEY AND SIGNATURES We, the undersigned officers and directors of Hybridon, Inc., hereby severally constitute and appoint E. Andrews Grinstead, III and Robert G. Andersen, and each of them singly, our true and lawful attorneys, with full power to them and each of them singly, to sign for us in our names in the capacities indicated below, all amendments to this Annual Report on Form 10-K, and generally to do all things in our names and on our behalf in such capacities to enable Hybridon, Inc. to comply with the provisions of the Securities Exchange Act of 1934, as amended, and all requirements of the Securities and Exchange Commission. Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, 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 TitleSignatures Titles Date --------- ----- ---- /s/ E. Andrews Grinstead, III Chairman, of the Board, March 30, 1998Chief Executive April 15, 1999 - ----------------------------- PresidentOfficer and Chief ExecutiveDirector E. Andrews Grinstead, III Officer and Director (Principal Executive Officer) /s/ Robert G. Andersen Treasurer (Principal Financial March 30, 1998April 15, 1999 - ----------------------------- Financial and Accounting Officer) Robert G. Andersen /s/Officer) Senior Vice President and - ----------------------------- Director Sudhir Agrawal, Director March 30, 1998 - ----------------------------- Sudhir Agrawal /s/ Mohamed El-Khereiji Director March 30, 1998 - ----------------------------- Mohamed El-Khereiji /s/ Youssef El-Zein Director March 30, 1998 - ----------------------------- Youssef El-Zein /s/ Nasser Menhall Director March 30, 1998 - ----------------------------- Nasser MenhallD. Phil. /s/ James B. Wyngaarden Director March 28, 1998 - ----------------------------- Director April 14, 1999 James B. Wyngaarden, Ph.D. - ----------------------------- Director Nasser Menhall /s/ Paul C. Zamecnik Director March 30, 1998April 15, 1999 - ----------------------------- Paul C. Zamecnik, -72-Ph.D. /s/ Youssef El-Zein Director April 15, 1999 - ----------------------------- Youssef El-Zein 73 Appendix/s/ Arthur W. Berry Director April 15, 1999 - ----------------------------- Arthur W. Berry /s/ Harold L. Purkey Director April 15, 1999 - ----------------------------- Harold L. Purkey /s/ Camille Chebeir Director April 15, 1999 - ----------------------------- Camille Chebeir /s/ H.F. Powell Director April 15, 1999 - ----------------------------- H.F. Powell /s/ Mohamed El-Khereij Director April 15, 1999 - ----------------------------- Mohamed El-Khereij 54 APPENDIX A INDEX PAGE Report of Independent Public AccountantsREPORT OF INDEPENDENT PUBLIC ACCOUNTANTS F-2 Consolidated Balance Sheets as of December 31, 1996 and 1997CONSOLIDATED BALANCE SHEETS F-3 Consolidated Statements of Operations for each of the three years in the period ended December 31, 1997, and for the period from inception (May 25, 1989) to December 31, 1997CONSOLIDATED STATEMENTS OF OPERATIONS F-4 Consolidated Statements of Stockholders' Equity (Deficit) for the period from inception (May 25, 1989) to December 31, 1997CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT) F-5 Consolidated Statements of Cash Flows for each of the three years in the period ended December 31, 1997, and for the period from inception (May 25, 1989) to December 31, 1997 F-6 Notes to Consolidated Financial StatementsCONSOLIDATED STATEMENTS OF CASH FLOWS F-7 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS F-8 F-1 74 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To Hybridon, Inc.: We have audited the accompanying consolidated balance sheets of Hybridon, Inc. (a Delaware corporation in the development stage)corporation) and subsidiaries as of December 31, 19961997 and 1997,1998, and the related consolidated statements of operations, stockholders' equity (deficit) and cash flows for each of the three years in the period ended December 31, 1997 and for the period from inception (May 25, 1989) to December 31, 1997.1998. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Hybridon, Inc. and subsidiaries as of December 31, 1996 and 1997 and 1998 and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1997, and for the period from inception (May 25, 1989) to December 31, 19971998, in conformity with generally accepted accounting principles. The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. Since inception, the Company has incurred significant losses which it has funded through the issuance of debt and equity securities debt issuances and through research and development collaborations and licensing agreements. As of December 31, 1997, the Company had a working capital deficit of $(24.1) million and a stockholders' deficit of $(46.0) million. Subsequent to December 31, 1997, the Company has raised $4.8 million through the equity financing discussed in Note 1, as of March 30, 1998. The Company expects such resources to fund operations through March 1998.May 1999. There is substantial doubt about the Company's ability to continue as a going concern. See Note 1 for management's plans. The financial statements do not include any adjustments that might result from the outcome of this uncertainty. See Note 1 for management's plans./s/ ARTHUR ANDERSEN LLP Boston, Massachusetts March 18, 1998February 19, 1999 (except with respect to the matters discussedmatter disclosed in Note 1 and Note 6(a)7(b) as to which the date is March 30, 1998)April 15, 1999) F-2 75 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) CONSOLIDATED BALANCE SHEETS ASSETS
ASSETS DECEMBERDecember 31, 1996 1997 1998 CURRENT ASSETS: Cash and cash equivalents $ 12,633,7422,202,202 $ 2,202,202 Short-term investments 3,785,146 --5,607,882 Accounts receivable 573,896 529,702 1,175,441 Prepaid expenses and other current assets 1,545,324 1,005,825 ------------- -------------110,827 --------------- --------------- Total current assets 18,538,108 3,737,729 ------------- -------------6,894,150 --------------- --------------- PROPERTY AND EQUIPMENT, AT COST: Leasehold improvements 9,257,516 16,027,734 11,127,035 Laboratory and other equipment 5,884,861 6,770,402 Equipment under capital leases 2,904,688 4,879,190 Office equipment 1,496,639 1,947,818 Furniture and fixtures 499,957 645,264 Construction-in-progress 2,193,400 45,409 ------------- ------------- 22,237,06114,288,083 11,432,435 --------------- --------------- 30,315,817 Less--Accumulated22,559,470 Less-Accumulated depreciation and amortization 6,596,293 11,085,013 ------------- ------------- 15,640,76813,788,979 --------------- --------------- 19,230,804 ------------- -------------8,770,491 --------------- --------------- OTHER ASSETS: Restricted cash 437,714 3,050,982 Notes receivable from officers 317,978 247,250 Deferred financing costs and other assets 1,152,034 3,354,767 612,374 Note receivable from officer 247,250 258,650 Restricted cash 3,050,982 - Investment in real estate partnership 5,450,000 5,450,000 ------------- ------------- 7,357,726- --------------- --------------- 12,102,999 ------------- ------------- $ 41,536,602871,024 --------------- --------------- $ 35,071,532 ============= =============$ 16,535,665 =============== =============== LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT) CURRENT LIABILITIES: Current portion of long-term debt and capital lease obligations $ 1,308,511 $ 7,868,474 $ 6,070,951 Accounts payable 4,064,419 8,051,817 2,368,163 Accrued expenses 4,190,766 11,917,298 Deferred revenue 86,250 -- ------------- -------------4,068,679 --------------- --------------- Total current liabilities 9,649,946 27,837,589 ------------- -------------12,507,793 --------------- --------------- LONG-TERM DEBT, AND CAPITAL LEASE OBLIGATIONS, NET OF CURRENT PORTION 9,031,852 3,282,123 ------------- -------------473,094 --------------- --------------- 9% CONVERTIBLE SUBORDINATED NOTES PAYABLE -- 50,000,000 ------------- -------------1,306,000 --------------- --------------- COMMITMENTS AND CONTINGENCIES (Notes 1011 and 15)16) STOCKHOLDERS' EQUITY (DEFICIT): Preferred stock, $.01 par value- Authorized--5,000,000Authorized-5,000,000 shares Series A convertible preferred stock- Designated-1,500,000 shares Issued and outstanding--None -- --outstanding-641,259 shares at December 31, 1998 - 6,413 (Liquidation preference of $65,168,048 at December 31, 1998) Common stock, $.001 par value- Authorized--100,000,000Authorized-100,000,000 shares Issued and outstanding--5,029,315outstandingC5,059,650 and 5,059,65015,304,825 shares at December 31, 19961997 and 1997,1998, respectively 5,029 5,060 15,305 Additional paid-in capital 173,247,476 173,695,698 Deficit accumulated during the development stage (149,193,775)241,632,024 Accumulated deficit (218,655,101) (238,447,837) Deferred compensation (1,203,926) (1,093,837) ------------- -------------(957,127) --------------- --------------- Total stockholders' (deficit) equity (deficit) 22,854,804 (46,048,180) ------------- ------------- $ 41,536,6022,248,778 --------------- --------------- $ 35,071,532 ============= =============$ 16,535,665 =============== ===============
The accompanying notes are an integral part of these consolidated financial statements. F-3 76 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) CONSOLIDATED STATEMENTS OF OPERATIONS
CUMULATIVE FROM INCEPTION (MAY 25, 1989) TO YEARS ENDED DECEMBERYears Ended December 31, DECEMBER 31, 1995 1996 1997 19971998 REVENUES: Product and service $ 1,080,175 $ 1,876,862 $ 3,253,879 Research and development $ 1,186,124 $ 1,419,389 $ 945,000 $ 5,499,263 Product revenue -- 1,080,175 1,876,862 2,957,0371,099,915 Royalty and other income -- 62,321 48,000 110,321- Interest income 218,749 1,446,762 1,079,122 3,220,739 ------------ ------------148,067 ------------- ------------- 1,404,873------------- 4,008,647 3,948,984 11,787,360 ------------ ------------4,501,861 ------------- ------------- ------------- OPERATING EXPENSES: Research and development 29,684,707 39,390,525 46,827,915 165,459,81520,977,370 General and administrative 6,094,085 11,346,670 11,026,748 47,816,6166,572,502 Interest 172,757 124,052 4,535,647 6,146,0302,932,362 Restructuring -- --- 11,020,000 11,020,000 ------------ ------------- ------------- ------------- 35,951,549------------- Total operating expenses 50,861,247 73,410,310 230,442,461 ------------ ------------30,482,234 ------------- ------------- ------------- Loss before extraordinary item (46,852,600) (69,461,326) (25,980,373) EXTRAORDINARY ITEM: Gain on exchange of 9% convertible subordinated - - 8,876,685 notes payable ------------- ------------- ------------- Net Loss (46,852,600) (69,461,326) (17,103,688) ACCRETION OF PREFERRED STOCK DIVIDENDS - - 2,689,048 ------------- ------------- ------------- Net loss $(34,546,676) $(46,852,600)applicable to common stockholders $ (46,852,600) $ (69,461,326) $(218,655,101) ============ ============$ (19,792,736) ============= ============= Basic and Diluted Net============= BASIC AND DILUTED NET LOSS PER COMMON SHARE: Loss per Common Share $ (94.70)share before extraordinary item $ (10.24) $ (13.76) ============ ============$ (2.19) Extraordinary item 0.75 - - ------------- ------------- ------------- Net loss per share (10.24) (13.76) (1.44) Accretion of preferred stock dividends - - (.23) ------------- ------------- ------------- Net loss per share applicable to common stockholders $ (10.24) $ (13.76) $ (1.67) ============= Shares Used in Computing Basic and Diluted Net Loss per Common Share 364,810============= ============= SHARES USED IN COMPUTING BASIC AND DILUTED NET LOSS PER COMMON SHARE 4,575,555 5,049,840 ============ ============11,859,350 ============= Pro Forma Net Loss per Common Share (Note 2(b)) $ (11.02) $ (9.67) $ (13.76) ============ ============ ============= Shares Used in Computing Pro Forma Net Loss per Common Share (Note 2(b)) 3,134,854 4,843,414 5,049,840 ============ ============ =============
The accompanying notes are an integral part of these consolidated financial statements. F-4 77 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
CONVERTIBLE PREFERRED STOCK COMMON STOCK NUMBER OF NUMBER OFConvertible Series A Convertible Common Stock Preferred Stock Preferred Stock Number of $.01 Par Number of $.01 Par Number of $.001 PAR SHARES $.01 PAR VALUE SHARES VALUEPar Shares Value Shares Value Shares Value Initial Issuance of Common Stock -- $ -- 133,700 $ 134 Issuance of Series A convertible preferred stock, net of cash issuance costs of $18,000 175,000 1,750 -- -- Issuance of Series B convertible preferred stock, net of cash issuance costs of $11,900 129,629 1,296 -- -- Issuance of common stock -- -- 133,460 133 Net loss -- -- -- -- ----------- ----------- ----------- ----------- Balance, December 31, 1990 304,629 3,046 267,160 267 Issuance of Series C convertible preferred stock, net of cash issuance costs of $23,197 104,000 1,040 -- -- Repurchase of common stock -- -- (52,500) (53) Deferred compensation related to restricted stock awards -- -- -- -- Amortization of deferred compensation -- -- -- -- Compensation expense related to stock option grants -- -- -- -- Net loss -- -- -- -- ----------- ----------- ----------- ----------- Balance, December 31, 1991 408,629 4,086 214,660 214 Issuance of Series C convertible preferred stock, net of cash issuance costs of $20,291 184,000 1,840 -- -- Issuance of common stock related to restricted stock awards -- -- 100,053 100 Issuance of common stock related to the exercise of stock options -- -- 34,615 35 Issuance of warrants -- -- -- -- Deferred compensation related to stock options and restricted stock awards -- -- -- -- Amortization of deferred compensation -- -- -- -- Net loss -- -- -- -- ----------- ----------- ----------- ----------- Balance, December 31, 1992 592,629 5,926 349,328 349 Issuance of Series D convertible preferred stock in exchange for convertible promissory notes payable, including accrued interest, net of cash issuance costs of $113,955 378,351 3,784 -- -- Issuance of Series E convertible preferred stock, net of cash issuance costs of $61,251 275,862 2,759 -- -- Issuance of Series F convertible preferred stock, net of cash issuance costs of $2,097,604 407,800 4,078 -- -- Issuance of common stock related to the exercise of stock options -- -- 8,725 9 Reduction in deferred compensation due to stock option termination prior to vesting -- -- -- -- Amortization of deferred compensation -- -- -- -- Net loss -- -- -- -- ----------- ----------- ----------- ----------- DEFICIT ACCUMULATED TOTAL ADDITIONAL DURING THE STOCKHOLDERS' PAID-IN DEVELOPMENT DEFERRED EQUITY CAPITAL STAGE COMPENSATION (DEFICIT) Initial Issuance of Common Stock $ 535 $ -- $ -- $ 669 Issuance of Series A convertible preferred stock, net of cash issuance costs of $18,000 855,250 -- -- 857,000 Issuance of Series B convertible preferred stock, net of cash issuance costs of $11,900 1,736,801 -- -- 1,738,097 Issuance of common stock 534 -- -- 667 Net loss -- (1,110,381) -- (1,110,381) ----------- ----------- ----------- ----------- Balance, December 31, 1990 2,593,120 (1,110,381) -- 1,486,052 Issuance of Series C convertible preferred stock, net of cash issuance costs of $23,197 2,575,763 -- -- 2,576,803 Repurchase of common stock (210) -- -- (263) Deferred compensation related to restricted stock awards 2,328,764 -- (2,328,764) -- Amortization of deferred compensation -- -- 727,738 727,738 Compensation expense related to stock option grants 669,433 -- -- 669,433 Net loss -- (6,648,899) -- (6,648,899) ----------- ----------- ----------- ----------- Balance, December 31, 1991 8,166,870 (7,759,280) (1,601,026) (1,189,136) Issuance of Series C convertible preferred stock, net of cash issuance costs of $20,291 4,577,869 -- -- 4,579,709 Issuance of common stock related to restricted stock awards 122,644 -- -- 122,744 Issuance of common stock related to the exercise of stock options 3,303 -- -- 3,338 Issuance of warrants 2,776,130 -- -- 2,776,130 Deferred compensation related to stock options and restricted stock awards 2,249,428 -- (2,249,428) -- Amortization of deferred compensation -- -- 1,332,864 1,332,864 Net loss -- (14,694,693) -- (14,694,693) ----------- ----------- ----------- ----------- Balance, December 31, 1992 17,896,244 (22,453,973) (2,517,590) (7,069,044) Issuance of Series D convertible preferred stock in exchange for convertible promissory notes payable, including accrued interest, net of cash issuance costs of $113,955 9,596,767 -- -- 9,600,551 Issuance of Series E convertible preferred stock, net of cash issuance costs of $61,251 9,935,988 -- -- 9,938,747 Issuance of Series F convertible preferred stock, net of cash issuance costs of $2,097,604 18,288,318 -- -- 18,292,396 Issuance of common stock related to the exercise of stock options 26,679 -- -- 26,688 Reduction in deferred compensation due to stock option termination prior to vesting (290,287) -- 290,287 -- Amortization of deferred compensation -- -- 1,124,839 1,124,839 Net loss -- (19,736,365) -- (19,736,365) ----------- ----------- ----------- -----------
F-5 78 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
CONVERTIBLE PREFERRED STOCK COMMON STOCK NUMBER OF NUMBER OF $.001 PAR SHARES $.01 PAR VALUE SHARES VALUE BALANCE, DECEMBER 31, 1993 1,654,642 16,547 358,053 358 Issuance of Series F convertible preferred stock, net of cash issuance costs of $79,677 116,900 1,169 -- -- Issuance of Series G convertible preferred stock, net of cash issuance costs of $1,006,841 318,302 3,183 -- -- Issuance of common stock related to the exercise of stock options -- -- 4,800 5 Cancellation of warrants -- -- -- -- Reduction in deferred compensation due to stock option termination prior to vesting -- -- -- -- Amortization of deferred compensation -- -- -- -- Net loss -- -- -- -- ----------- ----------- ----------- ----------- BALANCE, DECEMBER 31, 1994 2,089,844 20,899 362,853 363 Issuance of Series G convertible preferred stock, net of cash issuance costs of $2,409,926 1,106,591 11,066 -- -- Issuance of common stock related to the exercise of stock options -- -- 5,880 6 Amortization of deferred compensation -- -- -- -- Net loss -- -- -- -- ----------- ----------- ----------- ----------- BALANCE, DECEMBER 31, 1995 3,196,435 $ 31,965 - $ - 368,733 $ 369 Issuance of common stock related to initial public offering, net of issuance costs of $5,268,756 -- --- - - - 1,150,000 1,150 Conversion of convertible preferred stock to common stock (3,196,435) (31,965) - - 3,371,330 3,371 Issuance of common stock related to the exercise of stock options -- --- - - - 57,740 58 Issuance of common stock related to the exercise of warrants -- --- - - - 81,512 81 Deferred compensation related to grants of common stock options to nonemployees -- -- -- --- - - - - - Amortization of deferred compensation relating to grants of common stock options to nonemployees -- -- -- --- - - - - - Net loss -- -- -- --- - - - - - ----------- ---------- ----------- ---------- ----------- --------------------- BALANCE, DECEMBER 31, 1996 -- --- - - - 5,029,315 5,029 Issuance of common stock related to the exercise of stock options -- --- - - - 25,005 26 Issuance of common stock related to the exercise of warrants -- --- - - - 330 --- Issuance of common stock for services rendered -- --- - - - 5,000 5 Deferred compensation related to grants of common stock options to nonemployees -- -- -- --- - - - - - Amortization of deferred compensation relating to grants of common stock options to nonemployees -- -- -- --- - - - - - Net loss -- -- -- --- - - - - - ----------- ---------- ----------- ---------- ----------- --------------------- BALANCE, DECEMBER 31, 1997 -- $ --- - - - 5,059,650 $ 5,060 =========== =========== =========== =========== DEFICIT ACCUMULATED TOTAL ADDITIONAL DURING THE STOCKHOLDERS' PAID-IN DEVELOPMENT DEFERRED EQUITY CAPITAL STAGE COMPENSATION (DEFICIT) BALANCE, DECEMBER 31, 1993 55,453,709 (42,190,338) (1,102,464) 12,177,812 Issuance of Series F convertible preferred stock, net of cash issuance costs of $79,677 5,764,154 -- -- 5,765,323 Issuance of Series G convertible preferred stock, net of cash issuance costs of $1,006,841 11,722,072 -- -- 11,725,255 Issuance of common stock related to the exercise of stock options 13,395 -- -- 13,400 Cancellation of warrants (68,000) -- -- (68,000) Reduction in deferred compensation due to stock option termination prior to vesting (14,062) -- 14,062 --- Amortization of deferred compensation -- -- 764,228 764,228 Net loss -- (25,604,161) -- (25,604,161) -------------- -------------- -------------- -------------- BALANCE, DECEMBER 31, 1994 72,871,268 (67,794,499) (324,174) 4,773,857 Issuance of Series G convertible preferred stock, net of cash issuance costs of $2,409,926 41,842,632 -- -- 41,853,698 Issuance of common stock related to the exercise of stock options 41,494 -- -- 41,500 Amortization of deferred compensation -- -- 324,174 324,174 Net loss -- (34,546,676) -- (34,546,676) -------------- -------------- -------------- --------------Additional Accumulated Deferred Total Paid-in Deficit Compensation Stockholders' Capital Equity (Deficit) BALANCE, DECEMBER 31, 1995 114,755,394 (102,341,175) --$114,755,394 $(102,341,175) $ - $ 12,446,553 Issuance of common stock related to initial public offering, net of issuance costs of $5,268,756 52,230,094 -- --- - 52,231,244 Conversion of convertible preferred stock to common stock 28,594 -- -- ---- - - Issuance of common stock related to the exercise of stock options 1,089,618 -- --- - 1,089,676 Issuance of common stock related to the exercise of warrants 3,176,660 -- --- - 3,176,741 Deferred compensation related to grants of common stock options to nonemployees 1,967,116 --- (1,967,116) --- Amortization of deferred compensation relating to grants of common stock options to nonemployees -- --- - 763,190 763,190 Net loss --- (46,852,600) --- (46,852,600) -------------- -------------- -------------------------- ------------- ----------- ------------ BALANCE, DECEMBER 31, 1996 173,247,476 (149,193,775) (1,203,926) 22,854,804 Issuance of common stock related to the exercise of stock options 86,300 -- --- - 86,326 Issuance of common stock related to the exercise of warrants 9,075 -- --- - 9,075 Issuance of common stock for services rendered 146,869 -- --- - 146,874 Deferred compensation related to grants of common stock options to nonemployees 205,978 --- (205,978) --- Amortization of deferred compensation relating- - 316,067 316,067 Net loss - (69,461,326) - (69,461,326) ------------ ------------- ----------- ------------ BALANCE, DECEMBER 31, 1997 173,695,698 (218,655,101) (1,093,837) (46,048,180)
F-5 HYBRIDON, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT) (Continued)
Convertible Series A Convertible Common Stock Preferred Stock Preferred Stock Number of $.01 Par Number of $.01 Par Number of $.001 Par Shares Value Shares Value Shares Value Issuance of Series A convertible preferred stock and attached warrants in exchange for conversion of 9% convertible -- -- 510,504 5,105 -- -- subordinated notes payable and accrued interest Issuance of common stock and attached warrants in exchange for conversion of -- -- -- -- 3,217,154 3,217 accounts payable and other obligations Issuance of Series A convertible preferred stock -- -- 114,285 1,143 -- -- Issuance of Common Stock to Placement Agent -- -- -- -- 597,699 598 Issuance of common stock and attached warrants in exchange for conversion -- -- -- -- 3,157,322 3,157 of convertible notes payable, net of issuance costs of $566,167 Issuance of common stock and attached warrants, net of issuance costs of -- -- -- -- 3,223,000 3,223 $1,069,970 Issuance of common stock for services -- -- -- -- 50,000 50 rendered Deferred compensation related to grants of common stock options to nonemployees, -- -- 316,067 316,067-- -- -- -- net of terminations Issuance of warrants in connection with -- -- -- -- -- -- notes payable Accretion and issuance of Series A convertible preferred -- -- 16,470 165 -- -- stock dividends Amortization of deferred compensation -- -- -- -- -- -- Net loss -- (69,461,326) -- (69,461,326) -------------- -------------- -------------- ---------------- -- -- -- ------- -------- ---------- ---------- ---------- ---------- BALANCE, DECEMBER 31, 19971998 -- $ 173,695,698-- 641,259 $ (218,655,101)6,413 15,304,825 $ (1,093,837)15,305 ======= ======== ========== ========== ========== ==========
Additional Accumulated Deferred Total Paid-in Capital Deficit Compensation Stockholders' Equity (Deficit) Issuance of Series A convertible preferred stock and attached warrants in exchange for conversion of 9% convertible 39,924,887 -- -- 39,929,992 subordinated notes payable and accrued interest Issuance of common stock and attached warrants in exchange for conversion of 5,931,341 -- -- 5,934,558 accounts payable and other obligations Issuance of Series A convertible preferred stock 7,998,817 -- -- 7,999,960 Issuance of Common Stock to Placement Agent 1,194,800 -- -- 1,195,398 Issuance of common stock and attached warrants in exchange for conversion 4,230,676 -- -- 4,233,833 of convertible notes payable, net of issuance costs of $566,167 Issuance of common stock and attached warrants, net of issuance costs of 6,873,453 -- -- 6,876,676 $1,069,970 Issuance of common stock for services 93,700 -- -- 93,750 rendered Deferred compensation related to grants of stock options to nonemployees, 109,734 -- (109,734) -- net of terminations Issuance of warrants in connection with 85,433 -- -- 85,433 notes payable Accretion and issuance of Series A convertible preferred 2,688,883 (2,689,048) -- -- stock dividends Amortization of deferred compensation -- -- 246,444 246,444 Net loss -- (17,103,688) -- (17,103,688) ------------- ------------- ------------- ------------- BALANCE, DECEMBER 31, 1998 $ (46,048,180) ============== ============== ============== ==============241,632,024 $(238,447,837) $ (957,127) $ 2,248,778 ============= ============= ============= =============
The accompanying notes are an integral part of these consolidated financial statements. F-6 79
HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) CONSOLIDATED STATEMENTS OF CASH FLOWS
CUMULATIVE FROM INCEPTION (MAY 25, 1989) YEARS ENDED DECEMBERYears Ended December 31, TO DECEMBER 31, 1995 1996 1997 1997 1998 CASH FLOWS FROM OPERATING ACTIVITIES: Net loss $(34,546,676) $(46,852,600) $(69,461,326) $(218,655,101)$(17,103,688) Adjustments to reconcile net loss to net cash used in operating activities-activitiesB Extraordinary gain on exchange of 9% convertible -- -- (8,876,685) subordinated notes payable Depreciation and amortization 2,023,553 2,393,751 4,488,719 11,186,4544,057,286 Issuance of common stock for services rendered -- -- 146,874 146,874 Compensation on grant93,750 Amortization of stock options, warrants and restricted stock 324,174deferred compensation 763,190 316,067 8,123,798 Amortization of discount on convertible promissory notes payable -- -- -- 690,157246,444 Amortization of deferred financing costs -- 479,737 160,813 Noncash portion of restructuring charge -- 479,737 696,469 Write-down of assets related to restructuring1,255,000 -- -- 600,000 600,000 Noncash interest on convertible promissory notes payable -- -- -- 260,799 Changes in assets and liabilities-liabilitiesB Accounts receivable -- (573,896) 44,194 (529,702)(645,739) Prepaid expenses and other current assets (769,562) (593,797) 539,499 (1,005,825) Notes894,998 Note receivable from officers 8,446officer (9,845) 70,728 (247,250)(11,400) Accounts payable and accrued2,010,981 3,987,398 (3,059,002) Accrued expenses 483,585 2,747,122 11,713,930 19,969,116736,141 7,071,532 1,565,806 Deferred revenue -- -- (86,250) -- Amounts payable to related parties (80,351) (12,500) -- (200,000) ------------ ------------ ------------ ------------- Net cash used in operating activities (32,556,831) (42,138,575) (51,147,828) (178,964,211)(22,677,417) ------------ ------------ ------------ ------------- CASH FLOWS FROM INVESTING ACTIVITIES: (Increase) decrease in short-term investments -- (3,785,146) 3,785,146 -- Purchases of property and equipment (4,889,624) (8,902,989) (7,509,755) (29,312,465) Investment in(471,949) Proceeds from sale of property and equipment -- -- 714,400 (Investment in) sale of real estate partnership (1,698,448) (3,751,552) -- (5,450,000)5,450,000 ------------ ------------ ------------ ------------- Net cash used in(used in) provided by investing activities (6,588,072) (16,439,687) (3,724,609) (34,762,465)5,692,451 ------------ ------------ ------------ ------------- CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from issuance of Series A convertible preferred stock 41,853,698 -- -- 96,584,1547,999,960 Proceeds from issuance of common stock related to stock 1,089,676 86,326 -- options and restricted stock grants 41,500 1,089,676 86,326 1,260,928 Net proceeds from issuance of common stock -- 52,231,244 -- 52,355,324 Repurchase of common stock -- -- -- (263)6,876,676 Proceeds from notes payable -- 7,500,000 -- 9,450,0006,000,000 Proceeds from issuance of convertible promissory notes payable -- -- 50,000,000 59,191,744 Proceeds from long-term debt -- -- -- 662,1074,233,833 Proceeds from issuance of common stock related to stock warrants -- 3,176,741 9,075 3,185,816-- warrants Proceeds from sale/leaseback of fixed assets -- 1,722,333 1,205,502 4,001,018-- Payments on long-term debt and capital leases (537,977) (446,163) (1,564,268) (3,365,880) (Increase) decrease(7,296,646) Decrease (increase) in deferred financing costs 251,921 (2,820,790) (400,000) Decrease (increase) in restricted cash and other assets (44,912) 401,990 (2,474,948) (4,139,131) (Increase) decrease in deferred financing costs (278,927) 251,921 (2,820,790) (3,256,939)2,976,823 ------------ ------------ ------------ ------------- Net cash provided by financing activities 41,033,382 65,927,742 44,440,897 215,928,87820,390,646 ------------ ------------ ------------ ------------- NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 1,888,479 7,349,480 (10,431,540) 2,202,2023,405,680 CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 3,395,783YEAR 5,284,262 12,633,742 --2,202,202 ------------ ------------ ------------ ------------- CASH AND CASH EQUIVALENTS, END OF PERIOD $ 5,284,262YEAR $ 12,633,742 $ 2,202,202 $ 2,202,2025,607,882 ============ ============ ============ =============
The accompanying notes are an integral part of these consolidated financial statements. F-7 80 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (1) ORGANIZATION Hybridon, Inc. (the Company) was incorporated in the State of Delaware on May 25, 1989. The Company is engaged in the discovery and development of novel genetic medicines based primarily on antisense technology. The Company is in the development stage. Since inception, the Company has devoted substantially all of its efforts toward product research and development, its custom contract manufacturing business (Hybridon Specialty Products or HSP) and raising capital. Management anticipates that substantially all future revenues will be derived from the sale of proprietary biopharmaceutical products under development or to be developed in the future, and custom contract manufacturing of synthetic DNA products and reagent products (by the Hybridon Specialty Products Division (HSPD))HSP), as well as from research and development revenues and fees and royalties derived from licensing of the Company's technology. Accordingly, although the Company has begun to generate revenues from its custom contract manufacturing business, the Company is dependent on the proceeds from possible future sales of debt and equity securities debt financings and research and development collaborations in order to fund future operations. There is substantial doubt concerning its ability to continue as a going concern. As of December 31, 1998, the Company had cash and cash equivalents of approximately $5.6 million. The Company expects such resources to fund operations through May 1999. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty. The Comapny is curently seeking debt or equity financing in an amount sufficient to support its operations through the end of 1999, and in connection therewith, is in negotiations with several parties to obtain such financing. If the Company is unable to obtain this sufficient amount of additional funding in May 1999, it will be forced to terminate its operations or seek relief under applicable bankruptcy law by the end of May 1999. On December 3, 1997, the Company was delisted from the Nasdaq Stock Market, Inc. (NASDAQ) because the Company was not in compliance with the continued listing requirements of the NASDAQ National Market. The Company is currently trading on the NASDAQNASD OTC Bulletin Board. As of December 31, 1997, the Company had a working capital deficit of $(24.1) million and a stockholders' deficit of $(46.0) million. Although the Company has raised approximately $4.8 million in gross proceeds from the 1998 Unit Financing, subsequent to December 31, 1997, the Company continues to have very limited cash resources and substantial obligations to lenders. The Company's ability to continue operations in 1998 depends on its success in raising new funds. There is substantial doubt concerning the Company's ability to continue as a going concern. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty. If the Company is unable to obtain a substantial amount of additional funding in April 1998, it will be required to terminate its operations or seek relief under applicable bankruptcy law by the end of April 1998. Management's plans to obtain additional financing are described below. On January 22, 1998, the Company commenced a private placement (the 1998 Unit Financing) of units consisting of notes (the 1998 Unit Notes) and warrants to issue common stock. The 1998 Unit Financing is being offered through Pillar Investments Ltd., an entity with which two directors of the Company are affiliated and which is a significant shareholder of the Company (the placement agent), as the Company's placement agent, on a best effort basis. As consideration for these services, Pillar Investments Ltd., will receive fees consisting of 9% of the gross proceeds of the 1998 Unit Financing, a non-accountable expense allowance equal to 4% of the gross proceeds of the 1998 Unit Financing and warrants to purchase common stock. The 1998 Unit Notes bear interest at a rate of 14% per annum; provided that if the 1998 Unit Financing is terminated before the Mandatory Conversion Event (as defined below) has occurred, the interest rate shall increase to 18% per annum. The Company is required to make semi-annual interest payments on the outstanding principal balance of the 1998 Unit Notes on April 1 and October 1 of each year during which such 1998 Unit Notes are outstanding, with the first such payment being due on April 1, 1998, which interest payment obligation may be satisfied through the issuance of additional 1998 Unit Notes valued at their principal amount. The Company plans to satisfy the interest payment due April 1, 1998 by issuing 1998 Unit Notes. The outstanding principal balance of the 1998 Unit Notes will become due on December 31, 2007. The 1998 Unit Notes are secured by substantially all of the Company's assets, subject to the lien on the Company's assets held by the Bank, are subordinate to the Company's existing indebtedness to the Bank, are senior to approximately 80% of the 9.0% Convertible Subordinated Notes ( the 9% Notes, see Note 6(d)) to the extent provided in a subordination agreement executed by certain holders of the 9% Notes and, except as otherwise provided in this sentence, rank on a parity with the 9% Notes. The 1998 Unit Notes are not convertible at the option of the holder, but will automatically convert into a new issue of Series B Convertible Preferred Stock of the Company if the aggregate net proceeds from the 1998 Unit Financing exceeds $20.0 million and the holders of at least 80% of the aggregate principal amount of the 9% Notes have exchanged such Notes for a new issue of Series A Convertible Preferred Stock of the Company pursuant to the exchange offer (the Exchange Offer) described in the following paragraph (such two conditions, the Mandatory Conversion Event). The Series B Convertible Preferred Stock underlying the 1998 Unit Notes would rank as to liquidation junior to the Series A Convertible Preferred Stock issuable in the Exchange Offer. Each Unit includes warrants to purchase 15% (or, in certain circumstances, 20%) of the number of shares of common stock underlying the Series B Convertible Preferred Stock underlying the 1998 Unit Notes included in such Unit and may include additional warrants in certain circumstances described below. The Series B Convertible Preferred Stock, if issued, and warrants are convertible into, and exercisable for, common stock at a conversion or exercise price equal to the lowest of (i) 80% of the average closing bid price of the Company's common stock for the 30 consecutive trading days immediately preceding any closing in the 1998 Unit Financing or (ii) 80% of the average closing bid price of the Company's common stock for the five consecutive trading dates immediately preceding any closing in the 1998 Unit Financing; provided, however, that if on the termination date of the 1998 Unit Financing the Company has not received at least $20,000,000 in net proceeds from the 1998 Unit Financing or the holders of less than $40,000,000 in principal amount of the 9% Notes accept the Exchange Offer, holders of Units will be entitled to receive additional warrants to purchase, at an exercise price of $0.001 per share, a number of shares of common stock equal to 100% of the common stock then issuable upon conversion of the Series B Convertible Preferred Stock then issuable upon conversion of the 1998 Unit Notes purchased by such investors, in which case the 1998 Unit Notes will not be convertible into equity securities. If the market price of the common stock is less than 125% of the conversion price of the Series B Preferred Stock on the one-year anniversary of the final closing date of the 1998 Unit Financing, the conversion price of the Series B Convertible Preferred Stock will be further adjusted (the Series B Reset) to the greater of (a) the market price of the common stock at such time divided by 1.25 and (b) 50% of the conversion price of the Series B Convertible Preferred Stock at such time, and holders of the Series B Convertible Preferred Stock will also be entitled to receive additional warrants to purchase a number of shares of common stock equal to 50% of the additional number of shares of common stock issuable upon conversion of the Series B Convertible Preferred Stock following the Series B Reset. As of March 30, 1998, the Company has received $4.8 million of gross proceeds from the 1998 Unit Financing. On February 6, 1998, the Company commenced an Exchange Offer to the holders of the 9% Notes to exchange the 9% Notes for a Series A Convertible Preferred Stock and certain warrants of the Company. In the Exchange Offer, each $1,000 of principal amount and accrued but unpaid interest on the 9% Notes may be exchanged, upon the terms and subject to the conditions set forth in the Exchange Offer documents, for 10 shares of Series A Convertible Preferred Stock, stated value $100 per share, and warrants to purchase such a number of shares of common stock of the Company equal to 15% of the number of shares of common stock into which such Series A Convertible Preferred Stock would be convertible at 212.5% of the initial conversion price of the Series B Convertible Preferred Stock (the Stated Price). Such Series A Convertible Preferred Stock would have a liquidation preference of $100 per share plus accrued but unpaid dividends and would bear a dividend of the 6.5% per annum, payable on April 1 and October 1 of each year in cash or additional Series A Preferred Stock, at the option of the Company. The conversion price would be $35 per share of common stock through April 1, 2000 and the Stated Price thereafter, which conversion price would be reset upon the occurrence of any Series B Reset to 212.5% of the re-set Series B conversion price. Exchanging holders of the 9% Notes will be granted the right to designate the nominee to the Board of Directors of the Company (the Designated Director). As part of the Exchange Offer, approximately 82% of the 9% Note holders have consented as of March 30, 1998 to defer the interest payment due on April 1, 1998 to October 1, 1998. There can be no assurance that the Exchange Offer will be successful. On March 30, 1998, the Company amended its Exchange Offer to provide that the terms of the Series A Convertible Preferred Stock and warrants issuable in the Exchange Offer would be revised as described below if the following conditions (the Equity Conditions) had been met no later than the date the Company accepts for exchange in the Exchange Offer at least $40 million principal amount of the 9% Notes: (i) the Company consummates an offering, the size of which is acceptable to the Designated Director, of units consisting of common stock priced (the Common Stock Offering Price) at the greater of $2.00 and 85% of the Market Price (as defined below) of the common stock and warrants to purchase a number of shares of common stock equal to 25% of such Common Stock sold at an exercise price equal to 120% of the Common Stock Offering Price (the 120% Exercise Price); (ii) the Company consummates an offering, with gross proceeds of at least $10 million, of Units consisting of shares of preferred stock having the same terms as the preferred stock issuable in the amended Exchange Offer, and warrants with the same 25% coverage as the warrants issuable in the amended Exchange Offer, as described in the following paragraph, but at the 120% Exercise Price (which shares are expected to be sold at a 30% discount from stated value); and (iii) all 1998 Note Units previously sold and accrued interest thereon are exchanged for common stock and warrants to purchase a number of shares of common stock equal to 30% of the common stock issued in such 1998 Note Unit exchange, such common stock and warrants to be valued, and to have the terms, described in clause (i) above. Market Price means the average reported closing bid price of the common stock for the five consecutive trading days immediately preceding the closing date. The amended Exchange Offer provides that if the Equity Conditions are met, (a) the conversion terms of the Series A Convertible Preferred Stock will be revised as follows: (i) the conversion price will be 212.5% of the Common Stock Offering Price described above; (ii) such Series A Convertible Preferred Stock will not be convertible for one year following the closing; and (iii) such Series A Convertible Preferred Stock will have no conversion price reset mechanism and (b) the warrant coverage will increase from 15% to 25% of the number of shares of common stock underlying the Series A Convertible Preferred Stock (such warrants being exercisable at 212.5% of the Common Stock Offering Price) and will not have any conversion price reset provisions. F-8 81 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)delisting. (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (a) Use ofManagement Estimates in the Preparation of Financial Statementsand Uncertainties The preparation of financial statements in conformity with generally accepted accounting principles 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. The Company is subject to a number of risks and uncertainties similar to those of other companies of the same size within the biotechnology industry, such as uncertainty with clinical trials, uncertainty of additional funding and history of operating losses. F-8 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) (b) Principles of Consolidation The accompanying consolidated financial statements include the results of the Company and its subsidiaries, Hybridon S.A. (Europe), a French corporation, and Hybridon Canada, Inc. (an inactive majority-owned subsidiary). The consolidated financial statements also reflect the Company's 30% interest in MethylGene, Inc. (MethylGene), a Canadian corporation which is accounted for under the equity method (see Note 14). All material intercompany balances and transactions have been eliminated in consolidation. (c) Cash Equivalents The Company considers all highly liquid investments with maturities of three months or less when purchased to be cash equivalents. Cash and cash equivalents and restricted cash at December 31, 1997 and 1998 consisted of the following (at amortized cost, which approximates fair market value):
1997 1998 Cash and cash equivalents- Cash and money market funds $1,702,272 $3,865,365 Corporate bond 499,930 1,742,517 ---------- ---------- Total cash and cash equivalents $2,202,202 $5,607,882 ========== ========== Restricted cash- Note payable to bank (Note 7(a)) $1,758,542 $ - Foreign bank account (Note 6) 1,034,618 - Capital lease obligations (Note 7(d)) 257,822 - ---------- ---------- $3,050,982 $ - ========== ==========
(d) Depreciation and Amortization Depreciation and amortization are computed using the straight-line method based on the estimated useful lives of the related assets as follows: Asset Classification Estimated Useful Life Leasehold improvements Life of lease Laboratory equipment and other 3-5 years F-9 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) (e) Accrued Expenses At December 31, 1997 and 1998, accrued expenses consist of the following:
1997 1998 Restructuring (Note 3) $8,316,148 $469,485 Interest 1,125,000 29,385 Payroll and related costs 742,452 1,151,742 Outside research and clinical costs 1,231,818 797,593 Professional fees 150,000 149,957 Contingent stock (Notes 7(b) and 15(c)) - 1,000,000 Other 351,880 470,517 ----------- ---------- $11,917,298 $4,068,679 =========== ==========
(f) Reclassifications Certain amounts in the prior periods consolidated financial statements have been reclassified to conform with the current period's presentation. (g) Revenue Recognition The Company has recorded revenue under the consulting and research agreements discussed in Notes 8, 9 and 14. Revenue is recognized as earned on a straight-line basis over the term of the agreement, which approximates when work is performed and costs are incurred. Revenues from product and service sales are recognized when the products are shipped or the services are performed. Product revenue during 1997 and 1998 represents revenues from the sale of oligonucleotides manufactured on a custom contract basis by HSP. (h) Research and Development Expenses The Company charges research and development expenses to operations as incurred. (i) Patent Costs The Company charges patent expenses to operations as incurred. F-10 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) (j) Comprehensive Loss The Company applies SFAS No. 130, Reporting Comprehensive Income. Comprehensive loss is defined as the change in equity of a business enterprise during a period from transactions and other events and circumstances from nonowner sources. The Company's comprehensive loss is the same as the reported net loss for all periods presented. (k) Net Loss per Common Share Effective December 31, theThe Company adopted Statement of Financial Accounting Standards (SFAS)applies SFAS No 128, Earnings per Share. Under SFAS No. 128, basic net loss per common share is computed using the weighted average number of shares of common stock outstanding during the period. Diluted net loss per common share is the same as basic net loss per common share as the effects of the Company's potential common stock equivalents are antidilutive. The Company has applied the provisions of SFAS No. 128 retroactively to all periods presented. In accordance with staff Accounting Bulleting (SAB) No. 98, the Company has determined that there were no nominal issuances of capital in the period prior to the Company's initial public offering (IPO). Antidilutive securities which consist of stock options, warrants and warrantsconvertible preferred stock (on an as-converted basis) that are not included in diluted net loss per common share were 2,441,436, 2,595,496, 2,404,561 and 2,404,56127,774,883 for 1995, 1996, 1997, and 1997,1998, respectively. The calculation of pro forma basic net loss per share assumes that all series of convertible preferred stock had been converted to common stock as of the original issuance date. Calculations of net loss per common share and potential common share are as follows:
1995 1996 1997 Net loss $(34,546,676) $(46,852,600) $(69,461,326) ============ ============ ============ Weighted average shares outstanding 364,810 4,575,555 5,049,840 ============ ============ ============ Basic and diluted net loss per share $ (94.70) $ (10.24) $ (13.76) ============ ============ ============ Weighted average shares outstanding 364,810 4,575,555 5,049,840 Convertible preferred stock 2,770,044 267,859 -- ============ ============ ============ Pro forma weighted average shares outstanding 3,134,854 4,843,414 5,049,840 ============ ============ ============ Pro forma basic and diluted net loss per share $ (11.02) $ (9.67) $ (13.76) ============ ============ ============
F-9 82 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) (c) Principles of Consolidation The accompanying consolidated financial statements include the results of the Company and its subsidiaries, Hybridon S.A. (Europe), a French corporation and Hybridon Canada, Inc. (an inactive majority-owned subsidiary). The consolidated financial statements also reflect the Company's 49% interest in MethylGene, Inc. (MethylGene), a Canadian corporation which is accounted for under the equity method (see Note 13). All material intercompany balances and transactions have been eliminated in consolidation. (d) Cash Equivalents and Short-Term Investments(l) Segment Reporting The Company applies SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities. Under SFAS No. 115, debt securities that the Company has the positive intent and ability to hold to maturity are reported at amortized cost and are classified as held-to-maturity securities. These securities include cash equivalents, short term investments and restricted cash. At December 31, 1996 and 1997, the Company has classified all investments as held-to-maturity. The Company considers all highly liquid investments with maturities of three months or less when purchased to be cash equivalents. Short-term investments mature within one year of the balance sheet date. Cash and cash equivalents, short-term investments and restricted cash at December 31, 1996 and 1997 consisted of the following (at amortized cost, which approximates fair market value): DECEMBER 31, 1996 1997 Cash and Cash Equivalents- Cash and money market funds $10,144,367 $1,702,272 Corporate bond -- 499,930 U.S. government securities 2,489,375 -- ----------- ---------- Total cash and cash equivalents $12,633,742 $2,202,202 =========== ========== Short-Term Investments- U.S. government securities $ 3,785,146 $ -- =========== ========== Restricted Cash (Note 5)- Certificates of deposit $ 437,714 $2,016,364 Savings Account -- 1,034,618 ----------- ---------- $ 437,714 $3,050,982 =========== ========== F-10 83 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) (e) Depreciation and Amortization Depreciation and amortization are computed using the straight-line method based on the estimated useful lives of the related assets as follows: ESTIMATED ASSET CLASSIFICATION USEFUL LIFE Leasehold improvements Life of lease Laboratory equipment 5 years Equipment under capital lease 5 years Office equipment 3-5 years Furniture and fixtures 5 years (f) Accrued Expenses Accrued expenses on the accompanying consolidated balance sheets consist of the following: DECEMBER 31, 1996 1997 Restructuring $ -- $ 8,316,148 Interest -- 1,125,000 Payroll and related costs 1,593,451 742,452 Outside research and clinical costs 1,381,124 1,231,818 Professional fees 390,440 150,000 Other 825,751 351,880 ----------- ----------- $ 4,190,766 $11,917,298 =========== =========== (g) Revenue Recognition The Company has recorded research and development revenue under the consulting and research agreements discussed in Notes 7 and 8. Revenue is recognized as earned on a straight-line basis over the term of the agreement, which approximates when work is performed and costs are incurred. Revenues from product sales are recognized when the products are shipped. Product revenue during 1996 and 1997 represents revenues from the sale of oligonucleoutides manufactured on a custom contract basis by HSPD. F-11 84 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) (h) Research and Development Expenses The Company charges research and development expenses to operations as incurred. (i) Patent Costs The Company charges patent expenses to operations as incurred. (j) Reclassifications Certain amounts in the prior periods consolidated financial statements have been reclassified to conform with the current periods presentation. (k) New Accounting Standards In June 1997, the Financial Accounting Standards Board (FASB) issued SFAS No. 130, Reporting Comprehensive Income. SFAS No. 130 requires disclosure of all components of comprehensive income on an annual basis and interim basis. Comprehensive income is defined as the change in equity of a business enterprise during a period from transactions and other events and circumstances from nonowner sources. SFAS No. 130 is effective for fiscal years beginning after December 15, 1997. The Company does not expect this accounting pronouncement to materially effect its financial statements. In July 1997, the FASB issued SFAS No. 131, Disclosures About Segments of an Enterprise and Related Information. SFAS No. 131 establishes standards for reporting information regarding operating segments in annual financial statements and requires certain financial and supplementaryselected information for those segments to be disclosed on an annual andpresented in interim basis for each reportable segment of an enterprise.financial reports issued to stockholders. SFAS No. 131 is effectivealso establishes standards for fiscal years beginning after December 15, 1997. Unless impracticable, companies would be requiredrelated disclosures about products and services and geographic areas. To date, the Company has viewed its operations and manages its business as principally one operating segment. As a result, the financial information disclosed herein, represents all of the material financial information related to restate prior period information upon adoption. The Company does not expect this accounting pronouncement to materially effect its financial statements.the Company's principal operating segment. All of the Company's revenues are generated in the United States and substantially all assets are located in the United States. (3) RESTRUCTURING Beginning in July 1997, the Company implemented a restructuring plan to reduce expenditures on a phased basis over the balance of 1997 in an effort to conserve its cash resources. As part of this restructuring plan, in addition to terminating the clinical development of GEM 91, the Company's first generation antisense drug for the treatment of AIDS and HIV infection, the Company reduced or suspended selected programs unrelated to its core advanced chemistry antisense drug research and development programs, including its ribozyme program.programs. In connection with the reduction in programs, the Company has accrued termination fees related to research contracts and has incurred restructuring chargeswritten off assets related to programs that have been suspended or canceled. As part of the restructuring, all outside testing, public relations, travel and entertainment and consulting arrangements were reviewed and where appropriate the terms were F-12 85 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) renegotiated, contracts cancelled or the terms were significantly reduced. In addition,As a result of the implementation of these changes, the Company terminated the employment of 84 employees at its F-11 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) Cambridge and Milford, Massachusetts, facilities since July ofin 1997 and substantially reducedclosed its operations at itsin Paris, France, office and terminated 1011 employees at that location in August 1997.location. In connection with the restructuring, the Company entered into two different sub-leasingsubleasing arrangements. TheDuring 1997, the Company has sub-leased one facilitysubleased a portion of each of its facilities in Cambridge, Massachusetts and(including a substantial portion of its former headquarters located at 620 Memorial Drive (the Cambridge Massachusetts.Headquarters). The Company incurred expenses relating to these sub-leasessubleases for broker fees and renovation expenses incurred in preparing the Memorial DriveCambridge Headquarters space for the new tenant. In addition, the Company has accrued the estimated lease loss of subleasing 620 Memorial Drive.the Cambridge Headquarters which were vacated during 1998. The Company hasalso subleased its office in Paris, France, and accrued the remainingestimated lease costs of its Paris, France office prior to terminating the lease effective March 31, 1998.loss. The following are the significant components of the $11,020,000 charge for restructuring: Estimated loss on facility leases $ 6,930,000restructuring (in thousands):
To be Paid as of Restructuring Non-Cash Cash December 31, Charge Portion Disbursed 1998 ------ ------- --------- ---- Estimated loss on facility leases $ 6,372 $ 5,976 $ 356 $ 40 Employee severance, benefits and 2,738 -- 2,548 190 related costs Write-down of assets to net realizable 946 946 -- -- value Termination costs of certain 964 672 53 239 research programs ------- ------- ------- ------- $11,020 $ 7,594 $ 2,957 $ 469 ======= ======= ======= =======
The Company disbursed cash totaling approximately $1,453,000 and related costs 2,579,000 Writedown$1,504,000 in 1997 and 1998, respectively, with respect to the restructuring. The remaining accrued amount of assets to net realizable value 600,000 Terminationapproximately $469,000 will be paid during 1999. (4) INVESTMENT IN REAL ESTATE PARTNERSHIP Under the terms of the lease for the Cambridge Headquarters (the Cambridge Lease), the Company accounted for $5,450,000 of its payments for a portion of the costs of certain development programs 911,000 ----------- $11,020,000 =========== The total cash impactconstruction of the restructuring amountedleased premises as contributions to approximately $5,165,000. The total cash paid asthe capital of the Cambridge landlord in exchange for a limited partnership interest in the Cambridge landlord (the Partnership Interest). Under the terms of the Partnership Interest, the Company exercised its right to sell back the Partnership Interest and received payment of the $5,450,000 in 1998. F-12 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) (5) NOTE RECEIVABLE FROM OFFICER At December 31, 1997 was approximately $1,453,000 and the remaining amount will be paid in 1998. (4) NOTES RECEIVABLE FROM OFFICERS At December 31, 1996 and 19971998 the Company had noteshas a note receivable from officer, including accrued interest, from officers of $317,978$247,250 and $247,250,$258,650, respectively. As of December 31, 1997 oneThe note remains outstanding withhas an interest rate of 6.0% per annum and matures in April 2001. F-13 86 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) (5)(6) RESTRICTED CASH At December 31, 1996 and 1997, restricted cash was made up of the following: 1996 1997 Capital lease obligations (Note 6(c)) $ 437,714 $ 257,822 Note payable to bank (Note 6(a)) -- 1,758,542 Foreign bank account -- 1,034,618 ---------- ---------- $ 437,714 $3,050,982 ========== ==========- BVH In November 1997, the Company was notified by Bank Fur Vermogensanlagen Und Handel AG (BVH) that the Federal Banking Supervisory Office (BAKred) in Germany had imposed a moratorium effective as of August 19, 1997 on BVH and had closed BVH for business. Accordingly, the Company classified its deposit with BVH as restricted cash. The Company has contacted BVH and is actively pursuing the release of its deposit or sale ofsold the deposit to a third party, including possiblythe Cambridge Landlord, an entity affiliated with a directoraffiliate of certain directors of the Company. The Company, expects to recover substantially all of its depositand recovered the full amount in BVH through such means. However, the timing of the recovery may be over a period of up to one year. There can be no assurance that the Company will be able to recover all of its deposit or that the Company will not be required to write off a portion of the $1,034,618. Through March 18, 1998, the Company had recovered $250,000 of the BVH deposit. (6)1998. (7) LONG-TERM DEBT AND CAPITAL LEASE OBLIGATIONS Future minimum principal payments due under various notes payable, excluding the 9% convertible subordinated notes (the 9% Notes) due April 1, 2004, are as follows at December 31, 1998: December 31, Amount ------------ ------ 1999 $ 6,070,951 2000 80,746 2001 91,892 2002 104,576 2003 119,010 Thereafter 76,870 --------------- Total long-term debt obligations 6,544,045 Less--Current portion 6,070,951 --------------- $ 473,094 =============== (a) Note Payable to a Bank In December 1996, the Company entered into a five yearfive-year $7,500,000 note payable withto a bank. The note contains certain financial covenants that require the Company to maintain minimum tangible net worth and minimum liquidity and prohibits the payment of dividends. On January 15, 1998 and March 30,In November 1998, the Company received waiversoutstanding balance of approximately $2,895,000 was purchased from the bank by Forum Capital Markets, LLC (Forum) and certain investors associated with Pecks Management Partners Ltd. (Pecks) (collectively, the Lenders), which included the following terms: (1) a waiverare affiliates of any event of default that would otherwise arise as a resulttwo members of the 1998 Unit Financing discussed in Note 1; (2) a requirement that the Company deposit at least 50%Company's Board of its unencumbered cash with the bank, including proceeds raised from the 1998 Unit Financing discussed in Note 1; (3) in an event of default, a requirement that all net cash proceeds of any dispositions of assets of the Company permitted by the bank, as defined, shall be applied as a prepayment against the note (if the Company is not in default, only 50% of the net proceeds will be applied against the note); (4) a waiver of covenants of non-compliance through March 31, 1998 and; (5) an increase in the interest rate to the bank's prime rate plus 5%. Prior to the amendment the note bore interest at either the bank's prime rate plus 1% or LIBOR plus 3.5% (9.5% at December 31, 1997), at the Company's election. The Company has secured the obligations under the note with a lien on all of its assets, including intellectual property. The note is payable in 59 equal installments of $62,500 commencing on February 1, 1997 with a balloon payment of $3,812,500, due on January 1, 2002. Prior to the amendments discussed above, if at specified times, the Company's minimum liquidity is less than $15,000,000, $10,000,000, or $5,000,000, the Company is required to pledge cash collateral to the bank equal to 25%, 50% or 100%, respectively, of the then outstanding balance under the F-14Directors. F-13 87 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) (b) Note Payable to Lenders In connection with the purchase by the Lenders of the note pursuantpayable to the bank, the Lenders lent an additional $3,200,000 so as to increase the outstanding principal amount of the note to $6,000,000. The terms of the note payable were amended as follows: (i) the maturity was extended to November 30, 2003; (ii) the interest rate was decreased to 8%; (iii) interest is payable monthly in arrears, with the principal due in full at maturity of the loan; (iv) the note payable is convertible, at the Lenders' option, in whole or in part, into shares of common stock at a cash pledge agreement. During 1997,conversion price equal to $2.40 per share; (v) the Company'snote includes a minimum liquidity, had fallen below $15,000,000as defined covenant of $2,000,000; and (vi) the note payable may not be prepaid, in whole or in part, at any time prior to December 1, 2000. On March 30, 1999, the Company deposited $1,758,542received a waiver for noncompliance with the minimum tangible net worth covenant effective as collateral underof December 31, 1998 and March 31, 1999. On April 15, 1999, the cash pledge agreement.Company also received a waiver for noncompliance with the minimun liquidity covenant effective as of April 15, 1999. The Company has classified the outstanding balance of $6,873,332$6,000,000 at December 31, 19971998 as a current liability in the accompanying consolidated balance sheet as it does not currently have the financing to remain in compliance with the financial covenants. Also, inIn connection with the purchase of the note payable, Forum is entitled to receive $400,000 as a fee, which Forum has agreed to reinvest by purchasing common stock or preferred stock, both with attached warrants. The Company has recorded the Company issued 5 year$400,000 as a deferred financing cost, which will be amortized to interest expense over the term of the note and an accrued expense for the issuance of common stock or preferred stock, both with attached warrants, which will occur in 1999. In addition, Forum is entitled to receive warrants to purchase 13,000$400,000 of shares of common stock of the Company at an exercise pricethe per share valuation of $34.49the next financing, or $3.00 per share. Theseshare if the financing is not completed by May 1, 1999. The Company determined the value of the warrants are fully exercisable at December 31, 1997. (b)to be $85,433, by using the Black-Scholes option pricing model. The Company has recorded this $85,433 as a deferred financing cost, which will be amortized to interest expense over the term of the note. (c) Note Payable to Landlord In December 1994, the Company issued a $750,000 promissory note to its landlord to fund specific construction costs associated with the development of its manufacturing plant in Milford, Massachusetts. The promissory note bears interest at 13% per annum and is to be paid in equal monthly installments of principal and interest over the remainder of the 10-year lease term. (c)(d) Capital Lease Obligations The Company hashad entered into various capital leases for equipment. In 1994,During 1998, the Company received $1,073,000 as a part of a sale/leaseback transaction with a leasing company. These lease amounts are subject to interest at an effective rate of 4.29% and are being paid in equal installments of approximately $24,000 over 48-months through June 1998. In connection with this lease agreement, the Company is required to maintain a certain amount of cash in escrow as collateral. At December 31, 1997, the Company had $257,822 in escrow related to the agreement. In December 1996, the Company sold certain laboratory equipment to a leasing company, atsettled its original cost of $1,722,333. In connection with this transaction, the Company entered into a capital lease to lease the equipment from this leasing company for 48 monthly payments ranging from $36,000 to $50,000. The sale of the equipment resulted in a gain of $291,960 which has been offset against the cost of the asset in the accompanying consolidated balance sheet and is being amortized over the life of the lease. In June 1997, the Company sold additional laboratory equipment to the leasing company, at its original cost of $1,205,502. In connection with this transaction, the Company entered into a capital lease to lease the equipment from this leasing company for 24 monthly payments ranging from $24,000 to $34,000. The sale of the equipment resulted in a gain of $127,378, which has been offset against the cost of the asset in the accompanying consolidated balance sheet and is being amortized over the life of the lease. In January 1997, the Company entered into a five year $1,169,000 lease with a leasing company to finance certain furniture and fixtures in the Cambridge facility. The lease bears interest at a F-15 88 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) rate of 13.7% and is payable in 60 equal monthly installments of approximately $26,000 through February 2002. Future minimum payments due under various notes payable and capital lease obligations excludingin full through the 9% Notes due April 1, 2004, are as follows at December 31, 1997: CALENDAR YEAR AMOUNT 1998 $ 8,206,684 1999 1,404,777 2000 1,324,184 2001 601,038 2002 136,000 Thereafter 195,881 ----------- Total long-term debtissuance of common stock and capital 11,868,564 lease obligations Less--Amount representing interest 717,967 ----------- Principal obligations 11,150,597 Less--Current portion 7,868,474 ----------- $ 3,282,123 =========== (d) 9.0%warrants (see Note 15 (c)). (e) 9% Convertible Subordinated Notes Payable On April 2, 1997, the Company issued $50,000,000 of 9.0% convertible subordinated notes (thethe 9% Notes).Notes. Under the terms of the 9% Notes, the Company must make semiannual interest payments on the outstanding principal balance through the maturity date of April 1, 2004. If the 9% Notes are converted prior to April 1, 2000, F-14 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) the Noteholdersnoteholders are entitled to receive accrued interest from the date of the most recent interest payment through the conversion date. The 9% Notes are subordinate to substantially all of the Company's existing indebtedness. The 9% Notes are convertible at any time prior to the maturity date at a conversion price equal to $35.0625, subject to adjustment under certain circumstances, as defined. F-16 89 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) Beginning April 1, 2000, the Company may redeem the 9% Notes at its option for a 4.5% premium over the original issuance price provided that from April 1, 2000 to March 31, 2001, the 9% Notes may not be redeemed unless the closing price of the common stock equals or exceeds 150% of the conversion price for a period of at least 20 out of 30 consecutive trading days and the 9% Notes are redeemed within 60 days after such trading period. The premium decreases by 1.5% each year through March 31, 2003. Upon a change of control of the Company, as defined, the Company will be required to offer to repurchase the 9% Notes at 150% of the original issuance price. (7)On February 6, 1998, the Company commenced an exchange offer to the holders of the 9% Notes to exchange the 9% Notes for Series A convertible preferred stock and warrants. On May 5, 1998, noteholders holding $48,694,000 of principal and $2,361,850 of accrued interest tendered such principal and accrued interest to the Company for 510,505 shares of Series A convertible preferred stock and warrants to purchase 3,002,958 shares of common stock with an exercise price of $4.25 per share. In accordance with SFAS No. 15, Accounting by Debtors and Creditors for Troubled Debt Restructurings, the Company recorded an extraordinary gain of $8,876,685 related to the exchange. The extraordinary gain represents the difference between the carrying value of the 9% Notes plus accrued interest, less $2,249,173 of deferred financing costs written off, and the fair value of the Series A convertible preferred stock, as determined by the per share sales price of Series A convertible preferred stock sold in the 1998 Unit Financing (see Note 15(c)), and warrants to purchase common stock issued by the Company. (8) G.D. SEARLE & CO. AGREEMENT In January 1996, the Company and G.D. Searle & Co. (Searle) entered into a collaboration relating to research and development of therapeutic antisense compounds directed at upcompounds. According to eight molecularthe collaboration agreement, as modified in April 1998, targets can be selected from those in the fieldfields of cancer, cardiovascular disease and inflammation/immunomodulation (the Searle Field). Pursuant to the collaboration, the parties are conducting research and development relating to a compound directed at a molecular target in the Searle Field designated by Searle.MDM2. In this project, Searle is funding certain research and development efforts by the Company, and each ofboth Searle and the Company have committed certain of its own personnel to the collaboration. The initial phase of research and development activities relating to the initial target will be conducted through the earlier of (i) the achievement of certain product candidate milestones, orand (ii) 36 months after commencement of the collaboration,January 31, 2000, subject to early termination by Searle (although in any event Searle is required to F-17 90 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) pay 18 months of research and development funding).Searle. The parties may extend the initial collaboration by mutual agreement, including agreement as to additional research funding by Searle. In addition, under the collaboration, Searle has the right at its option, to designate up to six additional molecular targets in the Searle Field (the Additional Targets) for collaborative research and development with the Company on terms substantially consistent with the terms F-15 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) of the collaboration applicable to the initial molecular target. This right is exercisable by Searle with respect to each of the Additional Targets upon the payment by Searle of certain research payments (beyond the project-specific payments relating to the particular Additional Target) and the purchase of additional common stock from the Company by Searle (at the then fair market value). The aggregate amount to be paid by Searle for such research payments and equity investment in order to designate each of the Additional Targets is $10,000,000 per Additional Target. In the event that Searle designates all of the Additional Targets, the aggregate amount to be paid by Searle for research payments will be $24,000,000, and the aggregate amount to be paid by Searle in equity investment will be $36,000,000. If Searle has not designated all of the Additional Targets by the time it advances the product candidate for the initial molecular target toreaches a certain stagesstage of preclinical development, Searle will be required to purchase an additional $10,000,000 of common stock (at the then fair market value) on specified dates in order to maintain its right to designate any of the Additional Targets that it has not yet designated.Targets. The payment for any such common stock will be creditable against the equity investment portion of the payments to be made by Searle with respect to the designation of any of the Additional Targets that Searle has not yet designated. Searle also has the right, at its option, to designate a molecular target in the Searle Field to develop a therapeutic agent for cancer that acts through immunomodulation (the Searle Cancer Target) for collaborative research and development with the Company on terms substantially consistent with the terms of the collaboration applicable to the initial molecular target. At the time of such designation, Searle will be required to make certain research payments to the Company and purchase additional common stock from the Company (at the then fair market value). The aggregate amount to be paid by Searle for such research payments and equity investment will range from $12,000,000 (composed of $5,000,000 in research payments and $7,000,000 in equity investment) if the Searle Cancer Target is designated in 1997 to $26,000,000 (composed of $21,000,000 in research payments and $5,000,000 in equity investment) if the Searle Cancer Target is designated in 2000. Searle has exclusive rights to commercialize any products resulting from the collaboration. If Searle determines, in its sole discretion,elects to commercialize a product, Searle will fund and perform preclinical tests and clinical trials of the product candidate and will be responsible for regulatory approvals for and marketing of the product. In certain instances and for specified periods of time, theThe Company has agreed to perform research and development work in the Searle Field exclusively with Searle. In addition, as tofor each product candidate, the Company will be entitled to milestone payments from Searle totaling up to an aggregate of $10,000,000 upon the achievement of certain development benchmarks. The Company also will be entitled to royalties from net sales of products resulting from F-18 91 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) the collaboration. Subject to satisfying certain conditions relating to its manufacturing capacities and capabilities, the Company will retain manufacturing rights, and Searle will be required to purchase its requirements of products from the Company on an exclusive basis at specified transfer prices. Upon a change in control of the Company, Searle would have the right to terminate the Company's manufacturing rights, although the royalty payable would be increased in such event. Under the collaboration, inIn the event that Searle designates (and makes the required payments and equity investments for) all of the Additional Targets or in certain other instances relating to Hybridon's failureif Hybridon fails to satisfy certain requirements relating to its manufacturing capacities and capabilities, Searle will have the right exercisable in its sole discretion, to require Hybridon to form a joint venture with Searle, for the development of products in the Searle Field (other than products relating to molecular targets that have already been designated by Searle) to which each party will contribute $50,000,000 in cash, although the Company's cash contribution would be reduced by the value of the technology and other rights contributed by the Company to the joint venture.as defined. The Company and Searle would each own 50% of the joint venture, although Searle's ownership interest in the joint venture would increase based upon a formula to up to a maximum of 75% if the joint venture is established in certain instances relating to the Company's failure to satisfy certain requirements relating to its manufacturing capacities and capabilities. During 1996, 1997 and 1997,1998, the Company earned $400,000, $600,000 and $600,000, respectively, in research and development revenues from Searle. Under the collaboration, Searle also purchased 200,000 shares of common stock in the Company's initial public offering of common stockCompany at the initial public offering price as discussed in Note 14(b). (8)of $50.00 per share. F-16 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) (9) F. HOFFMANN-LA ROCHE LTD. (ROCHE) COLLABORATION In December 1992, the Company and Roche entered into a collaboration involving the application of Hybridon'sthe Company's antisense oligonucleotide chemistry to the development ofdevelop compounds for the treatment of hepatitis B, hepatitis C and human papilloma virus. Under this collaboration, Roche funded research and development efforts relating to the collaboration and committed personnel of its own to the collaboration. In 1995, Roche notified the Company that it had selected an antisense oligonucleotide directed at hepatitis C as a lead compound for further development and made a milestone payment to the Company in connection with such designation. In the third quarter of 1996, Roche notified the Company that it had selected an antisense oligonucleotide directed at human papilloma virus as a lead compound for further development, and in the fourth quarter of 1996, made a milestone payment to the Company in connection with such designation. At such time, Roche also notified the Company that Roche had elected not to continue the hepatitis B program under the research and development collaboration. In addition, Roche notified the Company that Roche F-19 92 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) was exercising its option to terminate the entire research and development phase of the collaboration as of March 31, 1997. On September 3, 1997, Roche notified the Company that it had decided not to pursue further collaboration with the Company and was terminating the collaboration effective February 28, 1998. The Company has recorded $1,186,124, $1,019,389 and $345,000 of research and development revenue related to this collaboration in 1995, 1996 and 1997, respectively. In conjunctionDue to the termination of the collaboration, as discussed above, the Company recognized no revenue with the Roche Collaboration, Roche purchased 163,678 shares of common stock for $6,000,000. Roche was also issued five-year warrants for the purchase of 110,345 shares of common stock at an initial price of $57.50 per share, such exercise price increases commencing on August 12, 1995 on an annual basis at a compound rate of 25%. At December 31, 1997, the exercise price of these warrants are $112.30 per share. The warrants expired on February 12,respect to this collaboration in 1998. (9)(10) MEDTRONIC, INC. COLLABORATIVE STUDY AGREEMENT In May 1994, the Company and Medtronic, Inc. (Medtronic) entered into a collaborative study agreement (the Medtronic Agreement) involving the development of antisense compounds for the treatment of Alzheimer's disease and a drug delivery system to deliver such compounds into the central nervous system. The agreement provides that the Company will beis responsible for the development of, and hold all rights to, any drug developed pursuant to this collaboration, and Medtronic will beis responsible for the development of, and hold all rights to, any delivery system developed pursuant to this collaboration. The parties may extend this collaboration by mutual agreement to other neurodegenerative disease targets. The research and development to be conductedCompany is determined and supervised by a committee comprised of an equal number of designees of the Company and Medtronic. As part of the Medtronic Agreement, Medtronic purchased 131,667 shares of common stock for $5,000,000. (10)not currently conducting any activities under this collaboration. (11) LICENSING AGREEMENT The Company has entered into a licensing agreement with the Worcester Foundation for Biomedical Research, Inc., which has merged in 1997 intowith the University of Massachusetts Medical Center, (the Foundation License), under which the Company has received exclusive licenses to technology in certain patents and patent applications. The Company is required to make royalty payments based on future sales of products employing the technology or falling under claims of a F-20 93 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) patent, as well as a specified percentage of sublicense income received related to the licensed technology. Additionally, the Company is required to pay an annual maintenance fee through the life of the patents. (11)(12) PHARMACIA BIOTECH, INC. AGREEMENTCOLLABORATION In December 1994, the Company and Pharmacia Biotech, Inc. (Pharmacia) entered into a collaboration involving the design and development of a large-scale oligonucleotide synthesis machine. Following completion of the machine in December 1996, the collaboration expired, in December 1996, and Pharmacia retained the right to sell the machine to third parties, subject to an obligation to pay the Company royalties on such third partythird-party sales. During 1996 and 1997, the Company has received $62,321 and $48,000, respectively, of royalty income related to such third partythird-party sales. (12)The Company recognized no royalty income related to this collaboration for 1998. F-17 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) (13) PERKIN-ELMER CORPORATION SALES AND SUPPLY AGREEMENT In September 1996, the Company and the Applied Biosystems Division of Perkin-Elmer Corporation (Perkin-Elmer) signed a four yearfour-year sales and supply agreement under which Perkin-Elmer agreed to refer potential customers to HSPDHSP for the manufacture of custom oligonucleotides and the Company agreed that amidites for the manufacture of these oligonucleotides would be purchased from Perkin-Elmer and a percentage of the sales price wouldwill be paid to Perkin-Elmer. In addition, Perkin-Elmer licensed to the Company its oligonucleotide synthesis patents. (13)(14) INVESTMENT IN METHYLGENE, INC. In January 1996, the Company and certainthree Canadian institutional investors formed a Quebec company, MethylGene, Inc. (MethylGene) to develop and market certain compounds and procedures to be agreed upon by the Company and MethylGene. The Company has granted to MethylGene exclusive worldwide licenses and sublicenses in respect of certain technology relating to the methylgeneMethylGene fields. These fields, as amended, are defined as (i) antisense compounds to inhibit DNA methyltransferase for the treatment of cancers,any disease; (ii) other methods of inhibiting DNA methyltransferase for the treatment of any indications,disease; and (iii) antisense compounds to inhibit a secondup to two additional molecular target other than DNA methyltransferasetargets for the treatment of cancers, to be agreed upon by the Company and MethylGene. In December 1997, the Company and MethylGene expanded the methylgene fields to include (a) antisense compounds to inhibit DNA methyltransferase for any indication and (b) antisense compounds to inhibit a second and third molecular target for any indications, as may be selected by MethylGene, so long as such molecular targets are not already targeted by the Company. In addition, the Company and MethylGene have entered into a supply agreement pursuant to which MethylGene is obligated to purchase from the Company all required formulated bulk oligonucleotides at specified transfer prices. The Company acquired a 49% interest in MethylGene for approximately $734,000, and the Canadian investors acquired a 51% interest in MethylGene for a total of approximately $5,500,000 (the Institution Investors).$5,500,000. The Institutional Investorsinstitutional investors have the right to exchange (the MethylGene Exchange) all (but not less than all) of their shares of stock in MethylGene for an aggregate of 100,000 shares of Hybridon common stock (subject to adjustment for F-21 94 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) stock splits, stock dividends and the like). This option is exercisable only during a 90-day period commencing on the earlier of the date five years after the closing of the Institutional Investors'institutional investors' investment in MethylGene or the date on which MethylGene ceases operations. This option terminates sooner if MethylGene raises certain additional amounts of equity or debt financing or if MethylGene enters into a corporate collaboration that meets certain requirements. Subsequent to December 31, 1997,During 1998, MethylGene raised additional proceeds from outside investors that decreased the Company's interest to 30%, which did not terminate the MethyGene Exchange available to the Institutional Investors.. The Company is accounting for its investment in MethylGene under the equity method and, due to the existence of the investors exchange rights, the Company has recorded, up to its original investment, 100% of MethylGene's losses in the accompanying consolidated statement of operations. (14)In May 1998, this agreement was amended to grant MethylGene a non-exclusive right to use any and all antisense chemistries discovered by the Company or any of its affiliates for a period commencing on May 5, 1998 and ending on the earlier of (i) the effective date of termination by MethylGene of its contract for development services to be provided by the Company; (ii) May 5, F-18 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) 1999, unless MethylGene exercises its option to continue contracting for development services provided by the Company; or (iii) May 5, 2000. As additional consideration for this nonexclusive right, MethylGene is required to pay the Company certain milestone amounts, as defined, and transferred 300,000 shares of MethylGene's Class B shares to the Company. The Company has placed no value on these shares. During 1996, 1997 and 1998, the Company recognized $49,565, $101,894 and $1,685,932, respectively, of product and service revenue related to this agreement. (15) STOCKHOLDERS' EQUITY (DEFICIT) (a) Common Stock The Company has 100,000,000 authorized shares of common stock, $.001 par value, of which 5,059,65015,304,825 shares were issued and outstanding at December 31, 1997.1998. (b) Initial Public Offering (IPO) On February 2, 1996, the Company completed its initial public offeringIPO of 1,150,000 shares of common stock at $50.00 per share. The sale of common stock resulted in net proceeds to the Company of approximately $52,231,000$52,231,244 after deducting expenses related to the offering. (c) Reverse1998 Unit Financing On May 5, 1998, the Company completed a private offering of equity securities raising total gross proceeds of $26,681,164 from the issuance of 9,597,476 shares of common stock, 114,285 shares of Series A convertible preferred stock and warrants to purchase 3,329,486 shares of common stock at $2.40 per share. The gross proceeds include the conversion of $5,934,558 of accounts payable, capital lease obligations and other obligations into common stock. The Company incurred $1,636,137 of cash expenses related to the private offering and issued 597,699 shares of common stock and warrants to purchase 1,720,825 shares of common stock at $2.40 per share to the placement agents. The compensation received by Pillar, a company affiliated with certain directors of the Company, with respect to the offshore component of the private offering (Offshore Offering) consisted of (i) 9% of gross proceeds of such Offshore Offerings and (ii) a nonaccountable expense allowance equal to 4% of gross proceeds of such Offshore Offering. Pillar received $1,636,137 and warrants to purchase 1,111,630 shares of common stock at $2.40 per share. In addition, Pillar is entitled to receive 300,000 shares of common stock in connection with its efforts in assisting the Company in restructuring its balance sheet. The Company has recorded $600,000 of general and administrative expense in the accompanying consolidated statement of operations during 1998, which represents the value of this common stock on May 5, 1998 with an offsetting amount to accrued expenses for the shares to be issued. These shares will be issued in 1999. F-19 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) (d) Units Issued to Primedica Corporation In connection with the unit financing (see Note 15(c)) the Company issued 250,000 shares of common stock and 62,500 warrants to purchase common stock to Primedica Corporation (Primedica) for future services to be provided. The services shall commence upon the Company's request after (i) the Company's securities are listed on a nationally recognized exchange, and (ii) the average closing price of the Company's common stock is at least $2.00 per share for the twenty-day trading period preceding the contract commencement date. In the event that the Company does not use these services as a result of the failure to meet the contract conditions, Primedica shall forfeit to the Company all or part of the common stock and warrants held by Primedica. The Company has recorded these shares as issued and outstanding at December 31, 1998 at par value. The Company will record the value of these services as the services are rendered. (e) Stock Split On December 10, 1997, the Board of Directors declared a one-for-five reverse split of its common stock. Share quantities and related per share amounts have been retroactively restated to reflect the reverse stock split. F-22 95 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) (d)(f) Warrants The Company has the following exercisable warrants outstanding and exercisable for the purchase of common stock at December 31, 1997: EXERCISE PRICE EXPIRATION DATE SHARES PER SHARE February 12, 1998 110,345 $112.30 March 31, 1998-October 25, 2000 953,936 50.00 February 28, 2000 20,000 37.50 December 31, 2001 13,000 34.49 April 2, 2002 71,301 35.06 --------- ------- 1,168,582 ========= Average per share exercise price $ 54.59 ======= As a component of the sale of preferred stock in 1994 and 1995, the Company issued to the investors in such offering warrants for the purchase of 585,425 shares of common stock at $40.00 to $50.00 per share. Warrants to purchase 331,382 shares of common stock at an exercise price of $50.00 per share expire on March 31, 1998, and the remaining warrants for the purchase of 254,043 shares of common stock at an exercise price of $40.00 per share expired on October 25, 1997.1998:
Outstanding Exercise Price Exercisable Exercise Price Expiration Date Warrants per Share Warrants per Share --------------- -------- --------- -------- --------- February 4, 1999-October 25, 2000 551,201 $50.00 551,201 $50.00 February 28, 2000 20,000 37.50 20,000 37.50 December 31, 2001 13,000 34.49 13,000 34.49 May 4, 2003 8,641,503 2.40-4.25 4,378,044 2.40 --------------- --------------- 9,225,704 4,962,245 =============== =============== Weighted average exercise price $5.48 $7.91 per share ===== =====
Five-year warrants to purchase 368,620 shares of common stock at $50.00 per share were issued in 1994 and 1995 as a component of the compensation for services of several placement agents of the Company's convertible preferred stock. Of these warrants, 304,335 were issued to a company that is controlled by two directors of the Company (see Note 15(a)16(b)). The remaining 64,285 warrants were issued to various other companies that acted as placement agents. (e)See Note 15(c) for information relating to warrants issued to placement agents in connection with the 1998 Unit Financing. F-20 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) As consideration of the agreements made by Forum consenting to the Company's 1998 private placements and waiving certain obligations of the Company to Forum, the Company agreed to amend the warrant to purchase 71,301 shares of common stock at an exercise price of $35.06 per share, issued to Forum in connection with 9% notes so that the exercise price will be equal to $4.25 per share, and the number of shares of common stock purchasable upon exercise thereof will be increased to 588,235, in each case subject to adjustment; provided, however, that such warrant will also be amended to provide that such warrant may not be exercised until May 5, 1999 and the transactions contemplated by such private placements and by the exchange offer will not trigger any anti-dilution adjustments to the exercise price thereof or the number of shares of common stock subject thereto. (g) Stock Options In 1990 and 1995, the Company established the 1990 Stock Option Plan (the 1990 Option Plan) and the 1995 Stock Option Plan (the 1995 Option Plan), respectively, which provide for the grant of incentive stock options and nonqualified stock options. Options granted under these plans vest over various periods and expire no later than 10 years from the date of grant. However, under the 1990 Option Plan, in the event of a change in control (as defined in the 1990 Plan), the exercise dates of all options then outstanding shall be accelerated in full and any restrictions on exercising outstanding options issued pursuant to the 1990 Option Plan shall terminate. In October 1995, the Company terminated the issuance of additional options under the 1990 Option Plan. As of December 31, 1997,1998, options to purchase a total of 604,863525,638 shares of common stock remained outstanding under the 1990 Option Plan. F-23 96 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) A total of 700,000 shares of common stock may be issued upon the exercise of options granted under the 1995 Option Plan. The maximum number of shares with respect to which options may be granted to any employee under the 1995 Option Plan shall not exceed 500,000 shares of common stock during any calendar year. The Compensation Committee of the Board of Directors has the authority to select the employees to whom options are granted and determine the terms of each option, including (i) the number of shares of common stock subject to the option; (ii) when the option becomes exercisable; (iii) the option exercise price, which, in the case of incentive stock options, must be at least 100% (110% in the case of incentive stock options granted to a stockholder owning in excess of 10% of the Company's common stock) of the fair market value of the common stock as of the date of grant; and (iv) the duration of the option (which, in the case of incentive stock options, may not exceed 10 years). As of December 31, 1997,1998, options to purchase a total of 534,914550,534 shares of common stock remained outstanding under the 1995 Option Plan. In October 1995, the Company adopted the 1995 Director Stock Option Plan (the Director Plan). A total of 50,000 shares of common stock may be issued upon the exercise of options granted under the Director Plan. Under the terms of the Director Plan, options to purchase 1,000 shares of common stock were granted to eligible directors upon the closing of the Company's initial public offering at the fair market value of the common stock on the date of the closing. Thereafter, options to purchase 1,000 shares of common stock will be granted to each eligible director on F-21 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) May 1 of each year commencing in 1997. All options will vest on the first anniversary of the date of grant or, in the case of annual options, on April 30 of each year with respect to options granted in the previous year. As of December 31, 1997,1998, options to purchase a total of 14,00021,000 shares of common stock remained outstanding under the Director Plan. In May 1997, the Company adopted the 1997 Stock Option Plan (the 1997 Option Plan), which provides and has reserved and may issue up to 4,500,000 shares for the grant of incentive and non-qualifiednonqualified stock options. A total of 600,000 shares of common stock may be issued upon the exercise of options granted to any employee under the 1997 Option Plan. The maximum number of shares with respect to which options may be granted to any employee under the 1997 Option Plan shall not exceed 500,000 shares of common stock during any calendar year. The Compensation Committee of the Board of Directors has the authority to select the employees to whom options are granted and determine the terms of each option, including (i) the number of shares of common stock subject to the option; (ii) when the option becomes exercisable; (iii) the option exercise price, which, in the case of incentive stock options, must be at least 100% (110% in the case of incentive stock) of the fair market value of the common stock as of the date of grant; and (iv) the duration of the option (which, in the case of incentive stock options, may not exceed ten years). As of December 31, 1997,1998, options to purchase a total of 36,7202,363,560 shares of common stock remained outstanding under the 1997 Option Plan. F-24 97 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) All stockStock option activity since inceptionfor the three years ended December 31, 1998 is summarized as follows:
WEIGHTED NUMBER EXERCISE PRICE AVERAGE PRICE OF SHARES PER SHARE PER SHAREWeighted Number Exercise Price Average Price of Shares per Share per Share Options granted 66,940 $ .01 $ .01 Options exercised (33,460) .01 .01 ---------- ----------------- -------- Outstanding, December 31, 1990 33,480 .01 .01 Options granted 1,700 .01 .01 Options terminated (540) .01 .01 ---------- ----------------- -------- Outstanding, December 31, 1991 34,640 .01 .01 Options granted 192,540 1.25 - 25.00 9.90 Options exercised (34,615) .01 - 5.00 .10 Options terminated (4,865) 2.50 - 5.00 2.80 ---------- ----------------- -------- Outstanding, December 31, 1992 187,700 .01 - 25.00 10.05 Options granted 288,108 17.50 - 62.50 41.90 Options exercised (8,725) .01 - 5.00 3.05 Options terminated (25,275) .01 - 50.00 3.95 ---------- ----------------- -------- Outstanding, December 31, 1993 441,808 .01 - 62.50 31.30 Options granted 134,500 25.00 - 35.00 26.65 Options exercised (4,800) .01 - 5.00 2.80 Options terminated (15,000) .01 - 25.00 19.15 ---------- ----------------- -------- Outstanding, December 31, 1994 556,508 .01 - 62.50 30.50 Options granted 407,108 37.50 - 50.00 37.75 Options exercised (5,880) 2.50 - 25.00 7.05 Options terminated (219,528) 2.50 - 62.50 49.10 ---------- ----------------- -------- Outstanding, December 31, 1995 738,208 $ .01 - $ 50.00 29.15 Options granted$29.15 Granted 476,020 25.00 - 65.60 49.55 Options exercisedExercised (57,740) .01 - 37.50 18.85 Options terminatedTerminated (20,100) 25.00 - 57.85 40.20 ---------- ----------------- --------------- Outstanding, December 31, 1996 1,136,388 1.25 - 65.60 38.05 Options grantedGranted 315,675 27.50 - 32.50 30.75 Options exercisedExercise (25,005) 1.25 - 40.00 12.60 Options terminatedTerminated (236,561) 2.50 - 65.60 40.35 ---------- ----------------- ----------------- Outstanding, December 31, 1997 1,190,497 $ .011.25 - $ 65.60 $ 36.18 ==========Granted 2,513,000 2.00 - 3.13 2.00 Terminated (242,765) 2.50 - 57.85 37.79 -------- Outstanding, December 31, 1998 3,460,732 $1.25 - $65.60 $11.25 ========= ================ ============== Exercisable, December 31, 1996 622,930 $1.25 - $65.60 $32.55 ========= ================ ====== Exercisable, December 31, 1997 740,780 $ .01$1.25 - $ 65.60 $ 34.40 ==========$65.60 $34.40 ========= ================ ============== Exercisable, December 31, 1998 1,650,021 $1.25 $65.60 $17.13 ========= ================ ======
F-25F-22 98 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued)
Options Outstanding Options Exercisable Weighted Weighted Weighted Average Average Average Remaining Exercise Exercise Range of Exercise Number Contractual Price per Number Price per Prices Outstanding Life Share Outstanding Share $ 1.25 10,000 3.10 $ 1.25 10,000 $ 1.25 2.00 - 2.37 2,505,000 9.56 2.00 901,562 2.00 2.44 - 3.13 18,800 6.03 2.61 10,800 2.50 4.25 - 5.00 1,200 3.75 5.00 1,200 3.75 17.50 - 25.00 197,330 3.54 23.21 191,331 23.15 27.50 - 31.66 168,974 7.45 30.50 76,017 30.28 35.00 - 36.25 30,000 6.73 35.71 30,000 35.71 37.50 - 37.50 316,048 4.72 37.50 282,583 37.50 38.13 - 43.75 47,900 7.81 40.64 24,648 40.73 50.00 17,700 6.35 50.00 11,700 50.00 57.85 - 65.60 147,780 6.08 58.22 110,180 58.34 ------------- ------------- 3,460,732 $ 11.25 1,650,021 $17.13 ============= ======== ============= ======
In October 1995, the FASB issued SFAS No. 123, Accounting for Stock-Based Compensation. SFAS No. 123 requires the measurement of the fair value of stock options or warrants granted to employees to be included in the statement of operations or disclosed in the notes to financial statements. The Company has determined that it will continue to account for stock-based compensation for employees under Accounting Principles Board Opinion No. 25 and elect the disclosure-only alternative under SFAS No. 123. In 1996, 1997 and 1997,1998, the Company recorded $1,967,116, $205,978 and $205,978$109,734, respectively, of deferred compensation related to grants to nonemployees, whichnet of terminations. Deferred compensation will be amortized over the vesting period of the options. The Company has recorded compensation expense of $763,190, $316,067 and $316,067$246,444 in 1996, 1997 and 1997, respectively.1998, respectively, related to these grants to nonemployees. The Company has computed the pro forma disclosures require by SFAS No. 123 for all stock options and warrants granted after January 1, 1995 using the Black-Scholes option pricing model. The assumptions used for the three years ended December 31, 1998 are as follows: DECEMBER 31, 1995
1996 1997 1998 Risk free interest rate 6.41% 6.14% 6.22% 5.15% Expected dividend yield -- -- --- - - Expected lives 6 years 6 years 6 years Expected volatility 60% 60% 60%
The Black-Scholes option-pricingoption pricing model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option-pricingoption pricing models require the input of highly subjective assumptions including expected stock price F-23 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) volatility. Because the Company's employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options. F-26 99 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) The effect of applying SFAS No. 123 for the three years ended December 31, 1998 would be as follows:
DECEMBER 31, 1995 1996 1997 1998 Net Loss, as reported: $ (34,546,676)loss applicable to common stockholders- As reported $ (46,852,600) $ (69,461,326) ================ =============== ===============$ (19,792,736) ================= ================= ================= Pro forma Net Loss: $ (41,447,381) $ (52,890,455) $ (73,402,170) ================ =============== ===============$ (23,131,304) ================= ================= ================= Basic and Diluted net loss asper common shares- As reported Basic and Diluted $ (94.70) $ (10.24) $ (13.76) ========= ========= =========$(10.24) $(13.76) $(1.67) ======= ======== ======= Pro forma $ (11.02) $ (9.67) $ -- ========= ========= ========= Basic and Diluted net loss, pro forma Basic and Diluted $ (113.61) $ (11.56) $ (14.54) ========= ========= ========= Pro forma $ (13.22) $ (10.92) $ -- ========= ========= =========$(11.56) $(14.54) $(1.95) ======= ======== =======
(f)(h) Employee Stock Purchase Plan In October 1995, the Company adopted the 1995 Employee Stock Purchase Plan (the Purchase Plan), under which up to 100,000 shares of common stock may be issued to participating employees of the Company, as defined, or its subsidiaries. All full-time employees of the Company, except those who would immediately after the grant own 5% or more of the total combined voting power or value of the stock of the Company or any subsidiary, are eligible to participate. On the first day of a designated payroll deduction period (the Offering Period), the Company will grant to each eligible employee who has elected to participate in the Purchase Plan an option to purchase shares of common stock as follows: the employee may authorize an amount (a whole percentage from 1% to 10% of such employee's regular pay) to be deducted by the Company from such pay during the Offering Period. On the last day of the Offering Period, the employee is deemed to have exercised the option, at the option exercise price, to the extent of accumulated payroll deductions. Under the terms of the Purchase Plan, the option price is an amount equal to 85% of the fair market value per share of the common stock on either the first day or the last day of the Offering Period, whichever is lower. In no event may an employee purchase in any one Offering Period a number of shares which is more than 15% of the employee's annualized base F-27 100 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) pay divided by 85% of the market value of a share of common stock on the commencement date of the Offering Period. The Compensation Committee may, in its discretion, choose an Offering Period of 12 months or less for each of the Offerings and choose a different Offering Period for each Offering. No shares have been issued under the Plan. (g)(i) Preferred Stock The restated Certificate of Incorporation of the Company permits its Board of Directors to issue up to 5,000,000 shares of preferred stock, par value $.01 per share (the Preferred Stock), in one or more series, to designate the number of shares constituting such series, and fix by resolution, F-24 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) the powers, privileges, preferences and relative, optional or special rights thereof, including liquidation preferences and dividends, and conversion and redemption rights of each such series. NoDuring 1998, the Company designated 1,500,000 shares as Series A convertible preferred stock. (j) Series A Convertible Preferred Stock The rights and preferences of the Series A convertible preferred stock are as follows: Dividends The holders of the Series A convertible preferred stock, as of March 15 or September 15, are entitled to receive dividends payable at the rate of 6.5% per annum, payable semi-annually in arrears. Such dividends shall accrue from the date of issuance of such share and shall be paid semi-annually on April 1 and October 1 of each year. Such dividends shall be paid, at the election of the Company, either in cash or additional duly authorized, fully paid and non assessable shares of Preferred Stock are currently outstanding. F-28Series A convertible preferred stock. In calculating the number of shares of Series A convertible preferred stock to be paid with respect to each dividend, the Series A convertible preferred stock shall be valued at $100.00 per share. During 1998, the Company recorded a total accretion of $2,689,048 for the dividend on Series A preferred stock and issued 16,470 shares of Series A convertible preferred stock as a dividend. Liquidation In the event of a liquidation, dissolution or winding up of the Company, whether voluntary or involuntary, after payment or provision for payment of debts and other liabilities of the Company, the holder of the Series A convertible preferred stock then outstanding shall be entitled to be paid out of the assets of the Company available for distribution to its stockholders, an amount equal to $100.00 per share plus all accrued but unpaid dividends. If the assets to be distributed to the holders of the Series A convertible preferred stock shall be insufficient to permit the payment of the full preferential amounts, then the assets of the Company shall be distributed ratably to the holders of the Series A convertible preferred stock on the basis of the number of shares of Series A convertible preferred stock held. All shares of Series A convertible preferred stock shall rank as to payment upon the occurrence of any liquidation event senior to the common stock. Conversion Commencing after May 6, 1999, but not prior thereto, the shares of Series A convertible preferred stock shall be convertible, in whole or in part, at the option of the holder into fully paid and nonassessable shares of common stock at $4.25 per share, subject to adjustment as defined. F-25 101 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) (15)Mandatory Conversion At any time after May 6, 1998, the Company at its option, may cause the Series A convertible preferred stock to be converted in whole or in part, on a pro rata basis, into fully paid and nonassessable shares of common stock using a conversion price equal to $4.00 if the closing bid price, as defined, of the common stock shall have equaled or exceeded 250% of the conversion price, $4.25, subject to adjustment as defined, for at least 20 trading days in any 30 consecutive trading day period ending three days prior to the date of notice of conversion (such event, the Market Trigger). At any time after April 1, 2000, the Company, at its option, may redeem the Series A convertible preferred stock for cash equal to $100.00 per share plus all accrued and unpaid dividends at such time, if the Market Trigger has occurred in the period ending three days prior to the date of notice of redemption. (16) COMMITMENTS AND CONTINGENCIES (a) Facilities The Company has entered intoleases its facility in Milford, Massachusetts, under a lease for a production plant in Milford, Massachusetts. The leasewhich has a 10-year10- year term, which commenced on July 1, 1994, with certain extension options. On February 4, 1994, the Company entered into a lease for an approximately 91,500 square-foot building inthe Cambridge Massachusetts (the Cambridge Lease). The Cambridge Lease is with a partnership that is affiliated with threecertain directors of the Company. The Cambridge Lease has a term of 15 years, commencing February 1, 1997, and may be extended for three additional five-year terms at the option of the Company. The Cambridge Lease provides for annual rent of $37.79 per year per F-29 102 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) square foot for the first five years, $42.73 per year per square foot for the second five years and $47.00 per year per square foot for the third five years. As compensation for arranging this lease, the Company issued Pillar Limited (see Note 15(a)) five-year warrants for the purchase of 100,000 shares of the Company's common stock at an exercise price of $50.00 per share. These warrants are exercisable through February 4, 1999. Under the terms ofexpired subsequent to December 31, 1998. The Company vacated the Cambridge, Lease, the Company electedMassachusetts, facility in June 1998 and moved its corporate facilities to treat $5,450,000 of its payments for a portion of the costs of the construction of the leased premises (primarily relating to tenant improvements) as contributions to the capital of the Cambridge landlord in exchange for a limited partnership interest in the Cambridge landlord (the Partnership Interest)Milford, Massachusetts (see Note 3). The Company's Partnership Interest represents a 32.15% interest in the Cambridge Landlord. The Company's right to receive distributions of cash generated from operations or from any sale or refinancing of the property would be subordinate to the distribution to certain other limited partners of priority amounts currently totaling approximately $6,500,000 (approximately $3,500,000 of which is subject to annual increase at a rate of between 12% and 15% as a result of a cumulative return to one of the limited partners of the Cambridge Landlord). In the case of a sale or refinancing of the property, after payment of the priorities described in the preceding sentence, the Company would be entitled to a return of its capital contribution and, thereafter, to its pro rata share of the remaining funds available for distribution. The Company has the right, at any time prior to February 2000 to sell the Partnership Interest back to certain limited partners of the Cambridge Landlord for a price equal to the greater of (i) the total paid for the Partnership Interest ($5,450,000) or (ii) the fair market value of the Partnership Interest at the time. The assets of these limited partners are limited to their investment in the Cambridge Landlord. Future approximate minimum rent payments as of December 31, 1997,1998, under theexisting lease agreements through 2012 discussed above,2007, net of sublease agreements are as follows: CALENDAR YEAR AMOUNTDecember 31, Amount ------------ ------ 1999 $ 614,000 2000 784,000 2001 1,213,000 2002 1,209,000 2003 1,213,000 Thereafter 2,338,000 --------------- $ 7,371,000 =============== F-26 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 $ 2,275,000 1999 2,831,000 2000 4,248,000 2001 4,677,000 2002 4,991,000 Thereafter 40,586,000 ----------- $59,608,000 ===========(Continued) During 1995, 1996, 1997 and 1997,1998, facility rent expense net of sublease revenue was approximately $2,142,000, $2,352,000, $4,613,000 and $4,613,000,$3,871,000, respectively. F-30 103 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) (a) Consulting(b) Related-Party Agreements with Affiliates of Stockholders and Directors The Company has entered into consulting agreements, stock placement agreements and an advisory agreement with several companies that are controlled by two shareholders and directors of the Company. The terms of the agreements with the affiliated companies,Company including Forum, S.A. Pillar Investment N.V. (Pillar Investment), Pillar S.A. (formerly Commerce Consult S.A.) and Pillar Investment Limited (formerly Ash Properties Limited) (Pillar Limited), are described below. In March 1994, the Company entered into a consulting agreement with Pillar S.A., which was amended in March 1995 (the 1994 Pillar Consulting Agreement). Under the 1994 Pillar Consulting Agreement, the Company agreed to pay to Pillar S.A. cash compensation for financial advisoryDuring 1996, 1997 and managerial services in connection with the Company's overseas operations, including support services in connection with contracts, agreements and arrangements with the Agence Nationale de Recherches sur le SIDA (ANRS), and for overhead costs and reimbursement of certain authorized out-of-pocket expenditures. The Company is committed to pay Pillar S.A. a monthly fee of approximately $96,000 with respect to this agreement. The agreement expires on February 28, 1998, as amended. During 1995, 1996 and 1997, the Company had expensed $1,226,000, $1,106,000, $998,000 and $998,000$1,300,000, respectively, under this consulting agreement, respectively. In connectionand advisory agreements with the 1994 Pillar Consulting Agreement, the Company issued to Pillar S.A. two, five-year warrants to purchase up to 40,000 shares of the Company's common stock. The first warrant was issued on March 1, 1994 at an exercise price of $50.00 per share and will expire on February 28, 1999 and is fully exercisable as of December 31, 1997. The second warrant was issued on March 1, 1995 at an exercise price of $37.50 per share and will expire on February 28, 2000 and is fully exercisable as of December 31, 1997. All of the warrants issued to Pillar S.A. under the 1994 Pillar Consulting Agreements and certain other warrants previously issued to Pillar S.A. provide that within 15 days after the date of any exercise, in full or in part, Pillar S.A. will pay to the Company an amount in cash equal to the lesser of (i) 50% of all amounts paid to Pillar S.A. as compensation under the various Pillar S.A. consulting agreements and (ii) the positive difference, if any, between the aggregate fair market value of the shares of common stock purchased upon such exercise and the aggregate exercise price for such shares. On September 9, 1994, the Company entered into modifications to its arrangements with Pillar S.A. and its affiliates, including: (i) a reduction in the exercise price of certain warrants previously issued to $50.00 per share; (ii) an amendment to the terms of each of the warrants issued to Pillar S.A. and its affiliates described above to provide for cashless exercise in connection with a sale or change in control of the Company; (iii) a grant of additional five-year warrants (the Additional Pillar Warrants) to purchase 22,800 shares of Common Stock at an F-31 104 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) exercise price of $50.00 per share; and a right of first negotiation for Pillar S.A. to provide seed financing for any spin-offs by the Company which do not involve or relate to antisense therapeutic compounds. On July 8, 1995, the Company entered into an agreement (the Pillar Europe Agreement) with Pillar S.A. pursuant to which Pillar S.A. agreed to provide to the Company certain consulting, advisory and related services and serve as the Company's exclusive agent in connection with potential corporate partnerships in Europe and as a nonexclusive placement agent of the Company in connection with future private placements of securities of the Company for a period of two years. As discussed below, the Pillar Europe Agreement was significantly amended on November 1, 1995. The Company and Pillar S.A. agreed to modify the Pillar Europe Agreement to provide that (i) Pillar would cease to serve as the Company's exclusive agent in connection with potential corporate partnerships in Europe but would continue to serve as a nonexclusive agent in such respect; (ii) Pillar would receive a retainer of $26,470 per month for the balance of the term of the Pillar Europe Agreement; (iii) certain fees to be received by Pillar in connection with European license or collaboration agreements would only be payable to Pillar in connection with potential collaborations with five specified French pharmaceutical companies; and (iv) any compensation payable to Pillar S.A. in connection with its services with respect to other corporate collaborations or any placements of securities would be negotiated on a case-by-case basis and would be subject to the approval of the independent members of the Board of Directors of the Company. In consideration of such modification, the Company paid Pillar in 1995 a fee totaling $300,000. Pillar Limited acted as a placement agent for the Company for certain sales of convertible preferred stock outside the United States and, in addition, provided the Company with certain financial advisory services with respect to the sale of such preferred stock outside the United States. In connection with such services, Pillar earned fees of $492,604 and $2,020,751 during 1994 and 1995, respectively. Pillar received payment for such fees through $2,435,883 of cash payments and through the issuance of five-year warrants for the purchase of 438,267 shares of common stock at $50.00 per share, expiring on various dates beginning on July 14, 1998 through October 25, 2000. (b)parties. (c) Other Research and Development Agreements The Company has entered into consulting and research agreements with the universities, research and testing organizations and individuals, under which consulting and research support is provided to the Company. These agreements are for varying terms through F-32 105 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) and provide for certain minimum annual or per diem fees plus reimbursable expenses to be paid during the contract periods. Future minimum fees payable under these contracts as of December 31, 19971998 are approximately as follows: CALENDAR YEAR AMOUNT 1998December 31, Amount ------------ ------ 1999 $ 253,000 1999 129,000 ---------582,000 2000 392,000 2001 279,000 --------------- $ 382,000 =========1,253,000 =============== Total fees and expenses under these contracts were approximately $5,470,000, $7,171,000, $9,372,000 and $9,372,000$2,011,000 during 1995, 1996, 1997 and 1997,1998, respectively. (c)(d) Employment Agreements The Company has entered into employment agreements with certain of its executive officers which provide for, among other things, each officer's annual salary, cash bonus, fringe benefits, and vacation and severance arrangements. Under the agreements, the officers are generally entitled to receive severance payments of two to three year's base salary. (16)F-27 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) (e) Contingencies From time to time, the Company may be exposed to various types of litigation. The Company is not engaged in any legal proceedings that are expected, individually or in the aggregate, to have a material adverse effect on the Company's financial condition or results of operations. (17) INCOME TAXES The Company applies SFAS No. 109, Accounting for Income Taxes. At December 31, 1997,1998, the Company had net operating loss and tax credit carryforwards for federal income tax purposes of approximately $205,997,000$219,993,000 and $3,436,000,$3,936,000, respectively, available to reduce federal taxable income and federal income taxes, respectively. The Tax Reform Act of 1986 (the Act), enacted in October 1986, limits the amount of net operating loss and credit carryforwards that companies may utilize in any one year in the event of cumulative changes in ownership over a three-year period in excess of 50%. The Company has completed several financings since the effective date of the Act, which, as of December 31, 1997,1998, have resulted in ownership changes in excess of 50%, as defined under the Act.Act and which will limit the Company's ability to utilize its net operating loss carryforwards. Ownership changes in future periods may limitplace additional limits on the Company's ability to utilize net operating loss and tax credit carryforwards. F-33 106 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) The federal net operating loss carryforwards and tax credit carryforwards expire approximately as follows: NET OPERATING LOSS TAX CREDIT EXPIRATION DATE CARRYFORWARDS CARRYFORWARDSNet Operating Loss Tax Credit Expiration Date Carryforwards Carryforwards --------------- ------------- ------------- December 31, 2005 $ 666,000 $ 15,000 2006 3,040,000 88,000 2007 7,897,000 278,000 2008 18,300,000 627,000 2009 25,670,000 689,000 2010 36,134,000 496,000 2011 44,947,000 493,000 2012 69,343,00060,087,000 750,000 ------------- -----------2018 23,252,000 500,000 ------------ ------------ $219,993,000 $ 205,997,000 $ 3,436,000 ============= =========== The3,936,000 ============ ============ F-28 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) At December 31, 1997 and 1998, the components of the deferred tax amounts, carryforwards and the valuation allowanceassets are approximately as follows: DECEMBER 31, 1996 1997 1998 ---- ---- Operating loss carryforwards $ 54,661,00078,696,000 $ 82,399,00087,997,000 Temporary differences 1,325,000 5,243,0005,137,000 2,677,000 Tax credit carryforwards 2,686,000 3,436,000 3,936,000 ------------ ------------ 58,672,000 91,078,00087,269,000 94,610,000 Valuation allowance (58,672,000) (91,078,000)(87,269,000) (94,610,000) ------------ ------------ $ --- $ --- ============ ============ A valuation allowance has been provided, as it is uncertain ifmore likely than not the Company will not realize the deferred tax asset. The net change in the total valuation allowance during 19971998 was an increase of approximately $32,406,000. F-34 107 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) (17)$7,341,000. (18) EMPLOYEE BENEFIT PLAN On October 10, 1991, the Company adopted an employee benefit plan under Section 401(k) of the Internal Revenue Code. The plan allows employees to make contributions up to a specified percentage of their compensation. Under the plan, the Company may, but is not obligated to, match a portion of the employees' contributions up to a defined maximum. The Company is currently matching 50% of employee contributions to the plan, up to 6% of the employee's annual base salary, and charged to operations approximately $125,000, $224,000, $253,000 and $253,000 during 1995, 1996, 1997 and 1997,1998, respectively. F-35 108 HYBRIDON, INC. AND SUBSIDIARIES (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued) (18)(19) SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION The accompanying consolidated financial statements include the followingSupplemental disclosure of cash flow information:information for the three years in the period ended December 31, 1998 are as follows:
CUMULATIVE FROM INCEPTION (MAY 25, 1989) --------------DECEMBER 31------------- TO DECEMBER 31, 1995 1996 1997 19971998 SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash paid during the period for interest $ 172,757124,052 $ 124,052 $3,264,596 $3,630,450 ============ ========== ========== ========== SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING ACTIVITIES:3,264,596 $ 1,666,127 ============== ============== =========== Purchase of property and equipment under capital leases $ 90,562 $1,722,333 $2,374,502 $5,604,370 ============ ========== ========== ========== SUPPLEMENTAL DISCLOSURE OF NONCASH FINANCING ACTIVITIES: Issuance of Series C convertible preferred stock in exchange for convertible promissory notes1,722,333 $ --2,374,502 $ -- $ -- $1,700,000 Issuance of Series D convertible preferred stock in exchange for convertible -- -- -- 9,382,384 promissory notes and accrued interest Issuance of Series E convertible preferred stock in exchange for subscriptions receivable -- -- -- 555,117 Issuance of Series F convertible preferred -- -- -- 2,535,000 stock in exchange for subscriptions receivable -- -- -- 2,535,000 Issuance of Series G convertible preferred stock in exchange for subscriptions receivable -- -- -- 906,016 Issuance of convertible promissory notes in exchange for subscriptions receivable -- -- -- 937,000 Issuance of stock warrants in exchange for deferred financing costs -- -- 238,000 Cancellation of warrants and reduction of deferred financing costs -- -- -- 68,000- ============== ============== =========== Conversion of preferred stock into common stock --$ 159,822 -- 159,822$ - $ - ============== ============== =========== Deferred compensation related to grants of stock options to $ 1,967,116 $ 205,978 $ 109,734 nonemployees, net of terminations ============== ============== =========== F-29 HYBRIDON, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 (Continued) Issuance of Series A convertible preferred stock and attached $ - $ - $51,055,850 warrants in exchange for conversion of 9% convertible ============== ============== =========== subordinated notes payable and accrued interest Accretion of Series A convertible preferred stock dividends $ - $ - $ 2,689,048 ============== ============== =========== Issuance of common stock and attached warrants in exchange $ - $ - $ 4,800,000 for services rendered -- -- 146,874 146,874 Deferred compensation related to restrictedconversion of convertible promissory notes payable ============== ============== =========== Issuance of common stock awards and grantattached warrants in exchange $ - $ - $ 5,934,558 for conversion of stock options -- 1,967,116 205,978 6,751,286accounts payable and other obligations ============== ============== ===========
F-36(20) RESTATEMENT In March 1999, the Company restated its June 30, 1998 and September 30, 1998 financial statements to reflect the accretion on the Series A convertible preferred stock, and record $600,000 of general and administrative expense for the 300,000 shares of common stock that Pillar is entitled to receive in connection with its efforts in assisting the Company in restructuring its balance sheet. (21) ORIGENIX TECHNOLOGIES, INC. In January 1999, the Company and certain institutional investors formed a Montreal company, OriGenix Technologies Inc. (OriGenix), to develop and market drugs for the treatment of infectious diseases. The Company received a 49% interest in OriGenix in consideration of certain research and development efforts previously undertaken by the Company which were made available to OriGenix. The Company has also licensed certain antisense compounds and other technology to OriGenix. If certain conditions are satisfied by OriGenix, the institutional investors are committed to make an additional investment, at which time the Company's ownership interest in OriGenix will be reduced 40%. The institutional investors acquired a 51% interest in OriGenix for a total of approximately $4.0 million. The Company will account for its investment in OriGenix under the equity method. F-30 109 EXHIBIT INDEX Exhibit No. Description - ----------- ----------- 3.13.1(1) Restated Certificate of Incorporation of the Registrant, as amended. 3.2*3.2(2) Amended and Restated By-Laws of the Registrant. 3.3###3.3(3) Form of Certificate of Designation of Series A Preferred Stock. 3.4###3.4(3) Form of Certificate of Designation of Series B Preferred Stock. 4.1*4.1(2) Specimen Certificate for shares of Common Stock, $.00l$.001 par value, of the Registrant. 4.2#4.2(4) Indenture dated as of March 26, 1997 between Forum Capital Markets L.P.LLC and the Registrant. +10.1*4.3(7) Certificate of Designation of Series A Preferred Stock, par value $.01 per share, dated May 5, 1998. 4.4(7) Class A Warrant Agreement dated May 5, 1998. 4.5(7) Class B Warrant Agreement dated May 5, 1998. 4.6(7) Class C Warrant Agreement dated May 5, 1998. 4.7(7) Class D Warrant Agreement dated May 5, 1998. +10.1(2) License Agreement dated February 21, 1990 and restatedrestaged as of September 8, 1993 between the Registrant and the Worcester Foundation for Biomedical Research, Inc., as amended. +10.2*+10.2(2) Patent License Agreement dated September 21, 1995 between the Registrant and National Institutes of Health. +10.3*+10.3(2) Patent License Agreement effective as of October 13, 1994 between the Registrant and McGill University. +10.4*+10.4(2) License Agreement effective as of October 25, 1995 between the Registrant and Thethe General Hospital Corporation. +10.5*+10.5(2) License Agreement dated as of October 30, 1995 between the Registrant and Yoon S. Cho-Chung. +10.6*+10.6(2) Collaborative Study Agreement effective as of December 30, 1992 between the Registrant and Medtronic, Inc. +10.7* +10.7(2) System Design and Procurement Agreement dated as of December 16, 1994 between the Registrant and Pharmacia Biotech, Inc. 10.8*10.8(2) Lease dated March 10, 1994 between the Registrant and Laborer's Pension/Milford Investment Corporation for space located at 155 110155. Fortune Boulevard, Milford, Massachusetts, including Note in the original principal amount of $750,000. 10.9* Lease dated February 4, 1994 between the Registrant and Charles River Building Limited Partnership for space located at 620 Memorial Drive, Cambridge, Massachusetts. 10.10* Series G Convertible Preferred Stock and Warrant Purchase Agreement dated as of September 9, 1994 among the Registrant and certain Purchasers, as amended (the "Series G Agreement"). 10.11*10.9(2) Registration Rights Agreement dated as of February 21, 1990 between the Registrant, the Worcester Foundation for Biomedical Research, Inc. and Paul C. Zamecnik. 10.12*10.10(2) Registration Rights Agreement dated as of June 25, 1990 between the Registrant and Nigel L. Webb. 10.13*10.11(2) Registration Rights Agreement dated as of February 6, 1992 between the Registrant and E. Andrews Grinstead, III. 10.14*10.12(2) Registration Rights Agreement dated as of February 6, 1992 between the Registrant and Anthony J. Payne. ++10.15*10.13(2) 1990 Stock Option Plan, as amended. ++10.16*10.14(2) 1995 Stock Option Plan. ++10.17*10.15(2) 1995 Director Stock Plan. ++10.18*10.16(2) 1995 Employee Stock Purchase Plan. 10.19*10.17(2) Form of Warrant to purchase shares of Series C Convertible Preferred Stock originally issued to Pillar Investment Limited (formerly known as Ash Properties Limited), as amended. 10.20* Form of Warrant to purchase shares of Common Stock issued in connection with the issuance of the Registrant's series of notes known as its 10% Convertible Subordinated Notes due September 16, 1993 and the Registrant's 10% Convertible Subordinated Note Due March 19, 1993, as amended. 10.21* Warrant issued to Pillar S.A. to purchase up to 175,000 shares of Common Stock dated as of December 1, 1992, as amended. 111 10.22* Form of Warrant originally issued to Pillar Investment Limited to purchase 427,126 shares of Common Stock dated as of February 15, 1993, as amended. 10.23* Form of Warrant originally issued to Pillar Investment Limited to purchase 350,000 shares of Common Stock dated as of February 15, 1993, as amended. 10.24* Warrant issued to Pillar Investment Limited to purchase 500,000 shares of Common Stock dated as of February 4, 1994, as amended. 10.25* Form of Warrant issued to Pillar Investment Limited to purchase shares of Common Stock issued as placement commissions in connection with the sale of shares of Series F Convertible Preferred Stock and in consideration of financial advisory services,service, as amended. 10.26*10.18(2) Warrant issued to Pillar S.A. to purchase 100,000 shares of Common Stock dated as of March 1, 1994, as amended. 10.27* Form of Warrant to purchase shares of Common Stock issued as part of the Units (as defined in the Series G Agreement) issued and sold to investors pursuant to the Series G Agreement on or prior to March 31, 1995, as amended. 10.28* Form of Warrant to purchase shares of Common Stock issued as part of the Units issued and sold to investors pursuant to the Series G; Agreement after March 31, 1995. 10.29*10.19(2) Warrant issued to Pillar S.A. to purchase 100,000 shares of Common Stock dated as of March 1, 1995. 10.30*10.20(2) Form of Warrant issued to Pillar Investment Limited to purchase shares of Common Stock issued as placement commissions in connection with the sale of Units pursuant to the Series G Agreement. ++10.31***10.21(5) Employment Agreement dated as of March 1, 1997 between the Registrant and E. Andrews Grinstead, III. 10.32*10.22(2) Indemnification Agreement dated as of February 6, 1992 between the Registrant and E. Andrews Grinstead, III. ++10.33**10.23(6) Employment Agreement dated March 1, 1997 between the Registrant and Dr. Sudhir Agrawal. 112 ++10.34*10.24(2) Consulting Agreement dated as of February 21, 1990 between the Registrant and Dr. Paul C. Zamecnik. 10.35* Consulting Agreement dated as of March 1, 1994 between the Registrant and Pillar S.A. 10.36* Consulting Agreement dated as of July 8, 1995 between the Registrant and Pillar S.A., as amended. 10.37*10.25(2) Master Lease Agreement dated as of March 1, 1994 between the Registrant and General Electric Capital Corporation. 10.38* First Amendment to Lease dated as of November 30, 1995 between the Registrant and Charles River Building Limited Partnership for space located at 620 Memorial Drive, Cambridge, Massachusetts. +10.39**+10.26(6) Research, Development and License Agreement dated as of January 24, 1996 between the Registrant and G.D. Searle & Co. +10.40**+10.27(6) Manufacturing and Supply Agreement dated as of January 24, 1996 between the Registrant and G.D. Searle & Co. 10.41**10.28(6) Registration Rights Agreement dated as of January 24, 1996 between the Registrant and G.D. Sear1eSearle & Co. 10.42** Second Amendment to Lease dated as of February 23, 1996 between the Registrant and Charles River Building Limited Partnership for space located at 620 Memorial Drive, Cambridge, Massachusetts. 10.43** Third Amendment to Lease dated as of February 28, 1996 between the Registrant and Charles River Building Limited Partnership for space located at 620 Memorial Drive, Cambridge, Massachusetts. 10.44*** Fourth Amendment to Lease dated as of July 25, 1996 between the Registrant and Charles River Building Limited Partnership for space located at 620 Memorial Drive, Cambridge, Massachusetts. 10.45*** Fifth Amendment to Lease dated as of March 14, 1997 between the Registrant and Charles River Building Limited Partnership for space located at 620 Memorial Drive, Cambridge, Massachusetts. 10.46***10.29(5) Loan and Security Agreement dated as of December 31, 1996 between the Registrant and Silicon Valley Bank (the "Silicon Agreement"). 113 10.47***Bank. 10.30(7) First Amendment to Loan and Security Agreement dated March 30, 1998 between Hybridon, Inc. and Silicon Valley Bank. 10.31(8) Second Amendment to Loan and Security Agreement dated May 19, 1998, effective as of April 30, 1998, between Hybridon, Inc. and Silicon Valley Bank. 10.32(9) Third Amendment to Loan and Security Agreement dated September 18, 1998 between Hybridon, Inc. and Silicon Valley Bank. 10.33(9) Fourth Amendment to Loan and Security Agreement dated October 30, 1998, effective as of September 29, 1998 between Hybridon, Inc. and Silicon Valley Bank. 10.34 Fifth Amendment to Loan and Security Agreement dated December 4, 1998 between Hybridon, Inc. and Silicon Valley Bank. 10.35(5) Warrant issued to Silicon Valley Bank to purchase 65,000 shares of Common Stock dated as of December 31, 1996. 10.48***10.36(5) Registration Rights Agreement dated as of December 31, 1996 between the Registrant and Silicon Valley Bank. 10.49*** Master Equipment Lease Agreement dated as of October 25, 1996 between the Registrant and Finova Technology Finance, Inc. +++10.50***+10.37(5) Supply and Sales Agreement dated as of September 1, 1996 between the Registrant and P.E. Applied Biosystems. 10.51#10.38(2) Registration Rights Agreement dated as of March 26, 1997 between Forum Capital Markets L.P.LLC and the Registrant. 10.52# 10.39(2) Warrant Agreement dated as of March 26, 1997 between Forum Capital Markets L.P.LLC and the Registrant. +++10.53##+10.40(6) Amendment No. 1 to License Agreement, dated as February 21, 1990 and restated as of September 8, 1993, by and between the Worcester Foundation for Biomedical Research, Inc. and the Registrant, dated as of November 26, 1996. 10.54##10.41(10) Letter Agreement dated May 12, 1997 between the Registrant and Pillar S.A. amending the Consulting Agreement dated as of March 1, 1994 between the Registrant and Pillar S.A. 10.55##10.42(10) Amendment dated July 15, 1997 to the Series G Convertible Preferred Stock and Warrant Purchase Agreement dated as of September 9, 1994 among the Registrant and certain purchasers, as amended. 10.56## Sixth Amendment to Lease dated April 1997 between the Registrant and Charles River Building Limited Partnership for space located at 620 Memorial Drive, Cambridge, Massachusetts. 10.5710.43(1) Consent Agreement dated January 15, 1998 between Silicon Valley Bank and the Registrant relating to the Silicon Agreement. 10.58### Form of Unit Purchase10.44(11) Letter Agreement (the "Unit Purchase Agreement") in connection with the sale of Notes due 2007 by and amongbetween the Registrant and certain purchasers. 10.59### Form of Notes due 2007Forum Capital Markets LLC and Pecks Management Partners Ltd. for the purchase of the Loan and Security Agreement with Silicon Valley Bank. 10.45(7) Financial Advisory Agreement between Registrant issued to or issuable pursuant to the Unit Purchase Agreement. 114 10.60### Formand Pillar Investments Ltd. dated May 5, 1998. 10.46(7) Placement Agency Agreement between Registrant and Pillar Investments Ltd. dated as of Warrants of the Registrant issued or issuable purusant to the Unit Purchase Agreement. 21.*January 15, 1998. +++10.47 Licensing Agreement dated March 12, 1999 by and between Hybridon, Inc. and Integrated DNA Technologies, Inc. 21.1(2) Subsidiaries of the Registrant. 23.1 Consent of Arthur Andersen LLP. 23.2 Consent of McDonnell Boehnen Hulbert & Berghoff. 27.1 Financial Data Schedule [EDGAR] - Year Ended December 31, 1997 27.2 Financial Data Schedule [EDGAR]1998 - Year Ended------------------------------------------------ (1) Incorporated by reference to Exhibits to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1996 - ---------- *1997. (2) Incorporated by reference to Exhibits to the Registrant's Registration Statement on Form S-1 (File No. 33-99024). **(3) Incorporated by reference to Exhibit 9(a)(1) to the Registrant's Schedule 13E-4 dated February 6, 1998. (4) Incorporated by reference to Exhibits to the Registrant's Current Report on Form 8-K dated April 2, 1997. (5) Incorporated by reference to Exhibits to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1996. (6) Incorporated by reference to Exhibits to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1995. ***(7) Incorporated by reference to Exhibits to the Registrant's AnnualQuarterly Report on Form 10-K10-Q for the yearperiod ended DecemberMarch 31, 1996. #1998. (8) Incorporated by reference to Exhibits to the Registrant's CurrentQuarterly Report on Form 8-K dated April 2, 1997. ##10-Q for the period ended June 30, 1998. (9) Incorporated by reference to Exhibits to the Registrant's Quarterly Report on Form 10-Q for the period ended September 30, 1998. (10) Incorporated by reference to Exhibits to the Registrant's Quarterly Report on Form 10-Q for the period ended June 30, 1997. ###(11) Incorporated by reference to Exhibit 9(a)(1)Exhibits to the Registrant's Schedule 13E-4 dated February 6, 1998.Registration Statement on Form S-1 (File No. 333-69649). + Confidential treatment granted as to certain portions, which portions are omitted and filed separately with the Commission. ++ Management contract or compensatory plan or arrangement required to be filed as an Exhibit to thisthe Annual Report on Form 10-K.10-K for the year ended December 31, 1997. +++ Confidential treatment requested as to certain portions, which portions are omitted and filed separately with the Commission.