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VRML > SEC Filings for VRML > Form 10-K on 1-Mar-2013All Recent SEC Filings

Show all filings for VERMILLION, INC.

Form 10-K for VERMILLION, INC.


1-Mar-2013

Annual Report


ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

You should read the following discussion and analysis in conjunction with our Consolidated Financial Statements and related Notes thereto, included on pages F-1 through F-31 of this Annual Report on Form 10-K, and "Risk Factors", which are discussed in Item 1A. The statements below contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act. See "Forward-Looking Statements" on page i.

Overview

Vermillion was originally incorporated in California on December 9, 1993, under the name Abiotic Systems. In March 1995, Abiotic Systems changed its corporate name to Ciphergen Biosystems, Inc., and subsequently on June 21, 2000, it reincorporated in Delaware. Under the name Ciphergen Biosystems, Inc., we had our initial public offering on September 28, 2000. On August 21, 2007, Ciphergen Biosystems, Inc. changed its corporate name to Vermillion, Inc.

We are dedicated to the discovery, development and commercialization of novel high-value diagnostic tests that help physicians diagnose, treat and improve outcomes for patients. Our tests are intended to help guide decisions regarding patient treatment, which may include decisions to refer patients to specialists, to perform additional testing, or to assist in the selection of therapy. A distinctive feature of our approach is to combine multiple markers into a single, reportable index score that has higher diagnostic accuracy than its constituents. Management ("we", "us" or "our") concentrate its development of novel diagnostic tests in the fields of oncology, cardiology and women's health, with our initial focus on ovarian cancer. We also intend to address clinical questions related to early disease detection, treatment response, monitoring of disease progression, prognosis and others through collaborations with leading academic and research institutions.

Our lead product, OVA1, was cleared by the FDA on September 11, 2009. OVA1 addresses a clear unmet clinical need, namely the pre-surgical identification of women who are at high risk of having a malignant ovarian tumor. Numerous studies have documented the benefit of referral of these women to gynecologic oncologists for their initial surgery. Prior to the clearance of OVA1, no blood test had been cleared by the FDA for physicians to use in the pre-surgical management of ovarian adnexal masses. OVA1 is a qualitative serum test that utilizes five well-established biomarkers and proprietary FDA-cleared software to determine the likelihood of malignancy in women over age 18, with a pelvic mass for whom surgery is planned. OVA1 was developed through large pre-clinical studies in collaboration with numerous academic medical centers encompassing over 2,500 clinical samples. OVA1 was fully validated in a prospective multi-center clinical trial encompassing 27 sites reflective of the diverse nature of the clinical centers at which ovarian adnexal masses are evaluated. The results of the clinical trial demonstrated that in a clinical cohort of 516 patients, OVA1, in conjunction with clinical evaluation, was able to identify 95.7% (154/161) of the malignant ovarian tumors overall, and to rule out malignancy with a negative predictive value ("NPV") of 94.6% (123/130). Data were presented at the 2010 International Gynecologic Cancer Society Meeting demonstrating the high sensitivity of OVA1 for epithelial ovarian cancers; overall OVA1 detected 95/96 epithelial ovarian cancer cases for a sensitivity of 99.0%, including 40/41 stage I and stage II epithelial ovarian cancers, for an overall sensitivity of 97.6% for early stage epithelial ovarian cancers, as compared to 65.9% for CA125 using the ACOG cutoffs. The improvement in sensitivity was even greater among premenopausal women; for OVA1, sensitivity for early stage epithelial ovarian cancer was 92.9% and for CA125, sensitivity was 35.7%. Overall, OVA1 detected 76% of malignancies missed by CA125, including all advanced stage malignancies. OVA1 is not indicated for use as a screening or stand-alone diagnostic assay.

OVA1 is currently being offered by Quest Diagnostics. Under the terms of our strategic alliance agreement with Quest Diagnostics, as amended, Quest Diagnostics is required to pay us a fixed payment of $50 per OVA1 performed, as well as 33% of its "gross margin" from revenue from performing OVA1, as that term is defined in


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the strategic alliance agreement as amended. Quest Diagnostics is the exclusive clinical laboratory provider of OVA1 in its exclusive territory, which consists of the US, Mexico, Britain and India, through September 11, 2014. Quest has the right to extend the exclusivity period for one additional year on the same terms and conditions. OVA1 was CE marked in September 2010, a requirement for marketing the test in the European Union. Quest Diagnostics has the right to extend the exclusivity period for an additional year beyond September 11, 2014 on the same terms and conditions. An estimated 37,840 OVA1s have been performed from the launch on March 9, 2010 through December 31, 2012.

In addition to OVA1, we have development programs in other clinical aspects of ovarian cancer as well as in peripheral arterial disease, or PAD. In the field of peripheral arterial disease, we have identified candidate biomarkers that may help to identify individuals at high risk for a decreased ankle-brachial index score, which is indicative of the likely presence of PAD. We have completed an intended-use study to develop and validate a multi-marker algorithm for the assessment of individuals at risk for peripheral arterial disease in 2011. This algorithm will be specifically directed at a primary care population in which the peripheral arterial disease blood test is expected to be used. We plan to seek a Development/Commercial Partner for this product opportunity who will work with us to complete the product development, complete the required FDA studies for approval, and eventually commercialize this product opportunity on a global basis. Current and former academic and research institutions that we have or have had collaborations with include the Johns Hopkins University School of Medicine; the University of Texas M.D. Anderson Cancer Center; University College London; the University of Texas Medical Branch; the Katholieke Universiteit Leuven; Clinic of Gynecology and Clinic of Oncology, Rigshospitalet, Copenhagen University Hospital; the Ohio State University Research Foundation; Stanford University; and the University of Kentucky.

On February 9, 2012, we entered into a Settlement Agreement and Release (the "Settlement Agreement") with Oppenheimer & Co., Inc. ("Oppenheimer") related to losses on our short and long-term investments in previous years. Under the terms of the Settlement Agreement, we received a total settlement of $1,000,000; $535,000 was paid in March 2012 and $465,000 was paid in August 2012. We received approximately $710,000 of the total settlement, net of legal and related costs.

On March 5, 2012 we announced the receipt of a notice of allowance from the USPTO for "Platelet biomarkers for cancer." The patent resulted from a collaboration with the late Dr. Judah Folkman, a renowned cancer expert, and identifies three biomarkers that can be used to assess changes in endogenous angiogenesis in a subject. Angiogenesis is commonly associated with cancer, and novel therapeutics such as bevacizumab (Avastin®) target angiogenesis to limit tumor recruitment of blood vessels. The patented biomarkers, which are associated with platelets, can be used to measure ongoing angiogenic activity. The patent covers the measurement of these biomarkers over time and correlating changes in expression with the changing level of endogenous angiogenic activity. Consequently, this patent also enables the use of these biomarkers to monitor efficacy of therapy directed at angiogenic pathways.

On March 6, 2012, the American Medical Association (AMA) Current Procedural Terminology (CPT®) Panel voted to approve an application for a Category I CPT code for OVA1, which became effective January 1, 2013.

On March 28, 2012, we announced the receipt of a notice of allowance from the USPTO for a patent, "Methods for Diagnosing Ovarian Cancer." This patent further expands the list of biomarkers we have employed in the diagnosis or status determination of ovarian cancer. In this case, the granted claims cover the use of Protein C Inhibitor (PCI) in ovarian cancer tests using blood and several other sample types.

On April 16, 2012, we announced the receipt of a notice of allowance from the USPTO for a patent, "Biomarkers for Ovarian Cancer." The patent makes claims in the uses of a urinary Small MBL-associated protein C-terminal fragment (sMAP) in the diagnosis of ovarian cancer, ovarian cancer monitoring, and patient management.


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On April 30, 2012, we announced the resolution of four non-contingent contract claims made by Bio-Rad arising from the Instrument Business Sale. In exchange for a final settlement of the non-contingent claims, Bio-Rad received $700,000 from an escrow account established by the Company for the sale transaction and the Company received approximately $1,080,000 from the escrow account.

On May 15, 2012, we announced our CEO succession plan beginning the process of identifying a successor to Gail S. Page, president and CEO. Our Board of Directors formed a search committee as part of the leadership succession plan and Ms. Page resigned from the Board of Directors.

On June 15, 2012, we announced that results of the recent PAD multi-marker intended use study were presented at the Society for Vascular Medicine's 23rd Annual Scientific Sessions, in Minneapolis, Minnesota. This meeting hosted the nation's leading vascular medicine specialists, and included sessions on PAD guidelines, policy trends, and advances in the diagnosis and treatment of vascular diseases.

The poster presented to the meeting was authored by Professor of Medicine and Associate Director of Stanford Cardiovascular Institute Dr. John Cooke, together with colleagues at the University of Colorado and is entitled "Results of a Biomarker Screen to Identify Peripheral Artery Disease." It reported the results of a multi-center clinical study involving 1,025 subjects, prospectively enrolled from the PAD at-risk population of subjects aged 70 or older, and diabetics and smokers 50 or older.

Different multi-marker algorithms were evaluated in patients with or without PAD, in comparison with the Framingham Risk Score (FRS). The multi-marker models were also assessed for their ability to identify PAD in patients below the high-risk FRS cutoff. The best model demonstrated a c-statistic of 0.73 and more importantly, identified 17 of 20 (85%) of patients missed by the FRS high-risk cutoff.

On July 30, 2012, we announced positive results from a new prospective, multi-center clinical study of our ovarian cancer diagnostic OVA1®. The study, referred to as OVA500, was led by Dr. Robert E. Bristow, director of Gynecologic Oncology Services at University of California Irvine Healthcare in Orange, California, and deputy editor of the journal Gynecologic Oncology.

The OVA500 study confirms and extends the pioneering work of Dr. Fred Ueland published last year. It was a prospective, multi-institutional, blinded study with a new cohort of 494 patients representing the intended use population for OVA1: female patients who were scheduled to undergo surgery for an adnexal mass, enrolled from non-gynecologic oncology practices via 27 study coordination centers.

All adnexal tumor types were included in the statistical analysis of test performance. The primary objective was to assess the performance of OVA1 in the intended use population with a focus on two particularly challenging subgroups:
women with early-stage ovarian cancer, where approximately half of patients have a normal CA125 level, and pre-menopausal women, where the incidence of ovarian cancer is low and incidence of benign cysts is high.

Top-line data from the study are as follows:

Overall Performance of OVA1

• Negative predictive value was reported at 98%

• Sensitivity was reported at 96%

• Specificity was reported at 51%

Performance in the Pre-menopausal Population

• Sensitivity was reported at 94%


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Performance for Early-Stage Ovarian Cancer (I and II)

• Sensitivity was reported at 91%

OVA1 as a Risk Stratification Test (OVA1 score versus cutoff, independent of physician assessment)

• Sensitivity was reported at 92% overall:

• 91% for early-stage disease

• 94% for pre-menopausal patients

• 91% for stage I and II in pre-menopausal women with a specificity of 61%

The OVA500 results were subsequently published online by Gynecologic Oncology on November 22, 2012 in the article, "Ovarian Malignancy Risk Stratification of the Adnexal Mass Using a Multivariate Index Assay."

On October 12, 2012, we announced the payment to Quest Diagnostics of approximately $5,901,000, which we believe represents payment in full of all outstanding principal and interest under the Secured Line of Credit Agreement dated as of July 22, 2005 between the Company and Quest Diagnostics. The payoff incorporated $1,000,000 in additional principal forgiveness under the terms of the Strategic Alliance and $106,000 in previous principal curtailment payments. However, Quest Diagnostics has disputed that such milestone forgiveness was achieved or principal curtailment was made. This disputed amount of $1,106,000 is reported as short-term debt on our consolidated balance sheet at December 31, 2012.

On November 16, 2012, we announced that the Delaware Court of Chancery dismissed with prejudice a lawsuit brought against Vermillion, Inc. and its board of directors by dissident stockholders, Gyorgy B. Bessenyei and Robert S. Goggin, III.

Following the decision, a proxy filed with the Securities Exchange Commission (SEC) by an alleged stockholder group led by Bessenyei and Goggin describes Goggin as "honest and trustworthy." However, the Delaware Court of Chancery court issued findings to the contrary. The court ruled that Goggin and Bessenyei had illegally falsified documents by improperly notarizing court filings in connection with the lawsuit and, moreover, that the conduct of Goggin appeared to be a violation of the Pennsylvania rules of professional conduct applicable to Pennsylvania lawyers.

With the suit now dismissed with prejudice, which disallows its re-filing, we were able to move forward with our annual meeting. The meeting had been delayed due to the Bessenyei and Goggin lawsuit, which prohibited the company from holding a meeting until the matter was resolved.

On November 27, 2012, we announced the appointment of director Bruce A. Huebner as Interim Chief Executive Officer. He succeeded Gail S. Page, who had assisted in the transition and served as a strategic advisor to the company as requested by its board of directors. Mr. Huebner continues to serve on our board of directors.

On January 3, 2013, the Company received a letter (the "Delisting Notice") from the NASDAQ Stock Market LLC ("NASDAQ") notifying the Company that it is not in compliance with NASDAQ's Listing Rule 5620(a), which requires the Company to hold an annual meeting of shareholders no later than one year after the end of the Company's fiscal year-end, and Listing Rule 5620(b), which requires the Company to solicit proxies and provide proxy statements for such meeting and to provide copies of such proxy solicitation to NASDAQ. The Delisting Notice stated that unless the Company requested an appeal of this determination, trading of the Company's common stock would be suspended on January 14, 2013, and a Form 25-NSE would be filed with the SEC, which would remove the Company's securities from listing and registration on NASDAQ. The Company filed an appeal which stayed the delisting action while the appeal is pending.

The annual meeting was delayed due to a lawsuit brought against the Company and its board of directors by dissident stockholders, Gyorgy B. Bessenyei and Robert S. Goggin, III, which prohibited the Company from


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holding a meeting until the matter was resolved. As previously announced by the Company, the case was dismissed with prejudice on November 16, 2012. The Company has scheduled the 2012 Annual Meeting for March 21, 2013.

Critical Accounting Policies and Estimates

The notes to the consolidated financial statements contain a summary of the Company's significant accounting policies that are presented in Part II Item 8, "Financial Statements and Supplementary Data", of this Annual Report on Form 10-K. We believe that it is important to have an understanding of certain policies, along with the related estimates that we are required to make in recording the financial transactions of the Company, in order to have a complete picture of the Company's financial condition. In addition, in arriving at these estimates, we are required to make complex and subjective judgments, many of which include a high degree of uncertainty. The following is a discussion of these critical accounting policies and significant estimates related to these policies.

Revenue Recognition

Product Revenue. We derive our product revenues from sales of OVA1 through Quest Diagnostics. We recognize product revenues for tests performed when the following revenue recognition criteria are met: (1) persuasive evidence that an arrangement exists; (2) delivery has occurred or services have been rendered;
(3) the fee is fixed or determinable; and (4) collectability is reasonably assured.

License Revenue. Under the terms of the secured line of credit with Quest Diagnostics, portions of the borrowed principal amounts may be forgiven upon our achievement of certain milestones relating to the development, regulatory approval and commercialization of certain diagnostic tests. We account for forgiveness of principal debt balances as license revenues over the term of the exclusive sales period that Quest Diagnostics receives upon commercialization of an approved diagnostic test as we do not have a sufficient history of product sales that provides a reasonable basis for estimating future product sales. We recognize license revenue on a straight-line basis over the remaining period of Quest Diagnostics' sales exclusivity ending in September 2015.

Research and Development Costs

Research and development costs are expensed as incurred. Research and development costs consist primarily of payroll and related costs, materials and supplies used in the development of new products, and fees paid to third parties that conduct certain research and development activities on behalf of the Company. In addition, acquisitions of assets to be consumed in research and development, with no alternative future use, are expensed as incurred as research and development costs. Software development costs incurred in the research and development of new products are expensed as incurred until technological feasibility is established.

Patent Costs

Costs incurred in filing, prosecuting and maintaining patents (principally legal fees) are expensed as incurred and recorded within selling, general and administrative expenses on the consolidated statements of operations and comprehensive loss. Such costs aggregated approximately $312,000 and $363,000 for the years ended December 31, 2012 and 2011, respectively.

Stock-Based Compensation

We record the fair value of non-cash stock-based compensation costs for stock options and stock purchase rights related to our 2010 Stock Incentive Plan (the "2010 Plan") and 2000 Stock Plan (the "2000 Plan"). We estimate the fair value of stock options using a Black-Scholes option valuation model. This model requires the input of subjective assumptions including expected stock price volatility, expected life and estimated forfeitures


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of each award. We use the straight-line method to amortize the fair value over the vesting period of the award. Due to the limited amount of historical data available to us, particularly with respect to stock-price volatility, option exercise patterns and forfeitures, the actual value of stock options and stock purchase rights could differ from our estimates.

We also record the fair value of non-cash stock-based compensation costs for equity instruments issued to non-employees. We recalculate costs for these options each reporting period using a Black-Scholes option valuation model. Because we recalculate these costs each reporting period, changes in assumptions used in our calculations, including changes in the fair value of our common stock, can result in significant changes in the amounts we record from one reporting period to another.

Contingencies

We account for contingencies in accordance with ASC 450 Contingencies ("ASC 450"). ASC 450 requires that an estimated loss from a loss contingency shall be accrued when information available prior to issuance of the financial statements indicates that it is probable that an asset has been impaired or a liability has been incurred at the date of the financial statements and when the amount of the loss can be reasonably estimated. Accounting for contingencies such as legal and contract dispute matters requires us to use our judgment. We believe that our accruals for these matters are adequate. Nevertheless, the actual loss from a loss contingency might differ from our estimates.

Income Taxes

Our income tax policy records the estimated future tax effects of temporary differences between the tax basis of assets and liabilities and amounts reported in the accompanying balance sheets, as well as operating loss and tax credit carry forwards. We have recorded a full valuation allowance to reduce our deferred tax assets, as based on available objective evidence; it is more likely than not that the deferred tax assets will not be realized. In the event that we were to determine that we would be able to realize our deferred tax assets in the future, an adjustment to the deferred tax assets would increase net income in the period such determination was made.

Recently Adopted Accounting Pronouncements

Comprehensive Income-In June 2011, the FASB issued new guidance on the presentation of comprehensive income. Specifically, the new guidance allows an entity to present components of net income and other comprehensive income in one continuous statement, referred to as the statement of comprehensive income, or in two separate, but consecutive statements. The new guidance eliminates the current option to report other comprehensive income and its components in the statement of changes in equity. While the new guidance changes the presentation of comprehensive income, there are no changes to the components that are recognized in net income or other comprehensive income under current accounting guidance. We adopted this pronouncement in the first quarter of 2012, and it had no effect on our financial position, results of operations or cash flows but did impact the way we present comprehensive income.


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Results of Operations-Year Ended December 31, 2012 as compared to Year Ended December 31, 2011

The selected summary financial and operating data of Vermillion for the years ended December 31, 2012 and 2011 were as follows:

                                             Year Ended December 31,             Increase (Decrease)
(dollars in thousands)                        2012              2011            Amount             %
Revenue:
Product                                    $     1,640        $   1,469       $       171            12
License                                            454              454                -             -

Total revenue                                    2,094            1,923               171             9
Cost of revenue:
Product                                            131              129                 2             2

Total cost of revenue                              131              129                 2             2

Gross profit                                     1,963            1,794               169             9
Operating expenses:
Research and development                         2,216            5,387            (3,171 )         (59 )
Sales and marketing                              4,653            5,539              (886 )         (16 )
General and administrative                       4,508            8,509            (4,001 )         (47 )

Total operating expenses                        11,377           19,435            (8,058 )         (41 )
Loss from operations                            (9,414 )        (17,641 )           8,227           (47 )
Interest income                                     28               64               (36 )         (56 )
Interest expense                                  (206 )           (396 )             190           (48 )
Gain on sale of instrument business              1,830               -              1,830            -
Gain on litigation settlement, net                 710               -                710            -
Change in fair value of warrants                    -               378              (378 )          -
Reorganization items                                88              (96 )             184          (192 )
Other expense, net                                (182 )            (99 )             (83 )          84

Loss before income taxes                        (7,146 )        (17,790 )          10,644           (60 )
Income tax benefit (expense)                        -                -                 -             -

Net loss                                   $    (7,146 )      $ (17,790 )     $    10,644           (60 )

Product Revenue. Product revenue was $1,640,000 for the year ended December 31, 2012 compared to $1,469,000 for the same period in 2011. We recognized product revenue for the year ended December 31, 2012 for the sale of OVA1 through Quest Diagnostics. Quest Diagnostics performed approximately 16,460 OVA1 tests during the year ended December 31, 2012 compared to approximately 15,225 tests for the same period in 2011. Product revenue increased $171,000 for the year ended December 31, 2012 compared to the same period in 2011 due to the increased volume of tests as well as the recognition of deferred revenue upon meeting the criteria for revenue recognition. We recognized $816,000 of deferred revenue in 2012 upon receipt of an annual royalty report from Quest Diagnostics. During 2011, we recognized $549,000 of deferred revenue related to 2011 in addition to $160,000 of deferred revenue related to 2010 upon receipt of two annual royalty reports from Quest Diagnostics.

The 2012 annual royalty report of $816,000 was based upon 13,709 OVA1 tests reported by Quest Diagnostics as resolved in 2012, or an average of $60 per test resolved. The resolved volume includes both reimbursed and unreimbursed tests for which the payment status was considered final by Quest Diagnostics as of December 31, 2012. Tests that do not yet have a final resolution for 2012 will be included in a future annual royalty report. By comparison, the 2011 annual royalty report of $549,000 was based upon 11,708 OVA1 tests reported by Quest . . .

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