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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549
 FORM 10-Q (Mark One) þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 For the quarterly period ended March 31, 2005
 or o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 For the transition period from  to
 Commission file number: 001-15281 ZONAGEN, INC.  Delaware
(State or other jurisdiction of
incorporation or
organization)
    
    76-0233274
(IRS Employer
Identification No.)
 2408 Timberloch Place, Suite B-1
The Woodlands, Texas 77380
(Address of principal executive
offices and zip code) (281) 719-3400
(Registrants telephone number,
including area code) Indicate by check mark whether the Registrant (1) has filed all reports required to be filed
by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 12 months (or for
such shorter period that the Registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes þ No o Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule
12b-2 of the Exchange Act). Yes o No þ As of April 29, 2005, there were outstanding 10,079,601 shares of Common Stock, par value
$.001 per share, of the Registrant.




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ZONAGEN, INC.
(A development stage company) For the Quarter Ended March 31, 2005 INDEX PageFACTORS AFFECTING FORWARD-LOOKING STATEMENTS
    
    
    3PART I.
    
    FINANCIAL INFORMATION
    
    
    4Item 1.
    
    Financial StatementsUnaudited Condensed Consolidated Balance Sheets: March 31, 2005 and December 31, 2004
    
    
    5Unaudited Condensed Consolidated Statements of Operations: For the three months ended March 31, 2005 and 2004 and from Inception (August 20, 1987) through March 31, 2005
    
    
    6Unaudited Condensed Consolidated Statements of Cash Flows: For the three months ended March 31, 2005 and 2004 and from Inception (August 20, 1987) through March 31, 2005
    
    
    7Notes to Unaudited Condensed Consolidated Financial Statements
    
    
    8Item 2.
    
    Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    13Item 3.
    
    Quantitative and Qualitative Disclosures About Market Risk
    
    
    18Item 4.
    
    Controls and Procedures
    
    
    18PART II.
    
    OTHER INFORMATIONItem 1.
    
    Legal Proceedings
    
    
    19Item 5.
    
    Other Information
    
    
    19Item 6.
    
    Exhibits
    
    
    19SIGNATURES
    
    
    20Certification pursuant to Section 302Certification pursuant to Section 302Certification pursuant to Section 906Certification pursuant to Section 906




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FACTORS AFFECTING FORWARD-LOOKING STATEMENTS This quarterly report on Form 10-Q includes 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. The words may, anticipate, believe, expect, estimate,
project, suggest, intend and similar expressions are intended to identify forward-looking
statements. Such statements are subject to certain risks, uncertainties and assumptions. Should
one or more of these risks or uncertainties materialize, or should underlying assumptions prove
incorrect, actual results may vary materially from those anticipated, believed, expected,
estimated, projected, suggested or intended. These risks and uncertainties include risks
associated with the early stage of development of Progenta and Androxal, approval of the
Companys products by the Food and Drug Administration (FDA) and regulatory bodies in other
jurisdictions, the Companys ability to raise additional capital on acceptable terms or at all,
manufacturing uncertainties related to Progenta, the Companys ability to obtain value from its
other technologies, uncertainty relating to the Companys patent portfolio, and other risks and
uncertainties described in the Companys filings with the Securities and Exchange Commission. For
additional discussion of such risks, uncertainties and assumptions, see Item 1. Description of
Business  Business Risks included in the Companys annual report on Form 10-K for the year ended
December 31, 2004 and Part I. Financial Information  Item 2. Managements Discussion and Analysis
of Financial Condition and Results of Operations  Liquidity and Capital Resources included
elsewhere in this quarterly report on Form 10-Q. 3




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PART I. FINANCIAL INFORMATION 
 Item 1. Financial Statements The
following unaudited condensed consolidated financial statements have been prepared in accordance
with accounting principles generally accepted in the United States of America for interim financial
information and with the instructions to Form 10-Q and Rule 10 of Regulation S-X. Accordingly,
they do not include all of the information and footnotes required by accounting principles
generally accepted in the United States of America for complete financial statements. In the
opinion of management, all necessary adjustments (which include only normal recurring adjustments)
considered necessary for a fair statement of the interim periods
presented have been included. The year-end balance sheet data was
derived from audited financial statements, but does not include all
disclosures required by accounting principles generally accepted in
the United States of America. Operating results for the
three-month period ended March 31, 2005 are not necessarily indicative of the results that may be
expected for the year ended December 31, 2005. For further information, refer to the financial
statements and footnotes thereto included in the Companys annual report on Form 10-K for the year
ended December 31, 2004. 4




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ZONAGEN, INC. AND SUBSIDIARY
(A development stage company) 
 CONDENSED CONSOLIDATED BALANCE SHEETS  March 31,
    
    
    December 31,2005
    
    
    2004ASSETSCurrent AssetsCash and cash equivalents
    
    $
    1,620
    
    
    $
    736Marketable securities
    
    
    21,541
    
    
    
    4,800Prepaid expenses and other current assets
    
    
    238
    
    
    
    34Total current assets
    
    
    23,399
    
    
    
    5,570Fixed Assets,net
    
    
    20
    
    
    
    18Other assets
    
    
    438
    
    
    
    1,018Total assets
    
    $
    23,857
    
    
    $
    6,606LIABILITIES AND STOCKHOLDERS EQUITYCurrent LiabilitiesAccounts payable
    
    $
    939
    
    
    $
    144Accrued expenses
    
    
    213
    
    
    
    470Total current liabilities
    
    
    1,152
    
    
    
    614Commitments & ContingenciesStockholders EquityUndesignated Preferred Stock, $.001 par value, 5,000,000
shares authorized, none issued and outstanding
    
    
    
    
    
    
    Common Stock, $.001 par value, 20,000,000 shares
authorized, 12,016,636 and 11,989,936 shares issued,
respectively, 10,079,601 and 4,992,901 shares
outstanding, respectively
    
    
    12
    
    
    
    12Additional paid-in capital
    
    
    117,158
    
    
    
    114,455Deferred compensation
    
    
    (208
    )
    
    
    (234
    )Cost of treasury stock, 1,937,035 and 6,997,035 shares, respectively
    
    
    (5,948
    )
    
    
    (21,487
    )Deficit accumulated during the development stage
    
    
    (88,309
    )
    
    
    (86,754
    )Total stockholders equity
    
    
    22,705
    
    
    
    5,992Total liabilities and stockholders equity
    
    $
    23,857
    
    
    $
    6,606
 The accompanying notes are
an integral part of these condensed consolidated financial statements. 5




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ZONAGEN, INC. AND SUBSIDIARY
(A development stage company) 
 CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS  From Inception(August 20, 1987)throughThree Months Ended March 31,

    
    
    March 31,2005
    
    
    2004
    
    
    2005Revenues and other incomeLicensing fees
    
    $
    
    
    
    $
    
    
    
    $
    28,755Product royalties
    
    
    
    
    
    
    
    
    
    
    627Research and development grants
    
    
    4
    
    
    
    64
    
    
    
    1,219Interest income
    
    
    108
    
    
    
    26
    
    
    
    13,234Gain on disposal of fixed assets
    
    
    
    
    
    
    
    
    
    
    102Other Income
    
    
    
    
    
    
    35
    
    
    
    35Total revenues and other income
    
    
    112
    
    
    
    125
    
    
    
    43,972ExpensesResearch and development
    
    
    1,236
    
    
    
    477
    
    
    
    95,496General and administrative
    
    
    431
    
    
    
    434
    
    
    
    27,054Interest expense and amortization
of intangibles
    
    
    
    
    
    
    
    
    
    
    388Total expenses
    
    
    1,667
    
    
    
    911
    
    
    
    122,938Loss from continuing operations
    
    
    (1,555
    )
    
    
    (786
    )
    
    
    (78,966
    )Loss from discontinued operations
    
    
    
    
    
    
    
    
    
    
    (1,828
    )Gain on disposal
    
    
    
    
    
    
    
    
    
    
    939Net loss before cumulative effect of
change in accounting principle
    
    
    (1,555
    )
    
    
    (786
    )
    
    
    (79,855
    )Cumulative effect of change in accounting
principle
    
    
    
    
    
    
    
    
    
    
    (8,454
    )Net loss
    
    $
    (1,555
    )
    
    $
    (786
    )
    
    $
    (88,309
    )Loss per share  basic and diluted
    
    $
    (0.19
    )
    
    $
    (0.14
    )Shares used in loss per share calculation:Basic
    
    
    8,326
    
    
    
    5,492Diluted
    
    
    8,326
    
    
    
    5,492
 The accompanying notes are
an integral part of these condensed consolidated financial statements. 6




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ZONAGEN, INC. AND SUBSIDIARY
(A development stage company) 
 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS  From Inception(August 20, 1987)throughThree Months Ended March 31,


    
    
    March 31,2005
    
    
    2004
    
    
    2005Cash Flows from Operating ActivitiesNet loss
    
    $
    (1,555
    )
    
    $
    (786
    )
    
    $
    (88,309
    )Gain on disposal of discontinued operations
    
    
    
    
    
    
    
    
    
    
    (939
    )Gain on disposal of fixed assets
    
    
    
    
    
    
    
    
    
    
    (102
    )Adjustments to reconcile net loss to net cash
used in operating activities:Noncash financing costs
    
    
    
    
    
    
    
    
    
    
    316Noncash inventory impairment
    
    
    
    
    
    
    
    
    
    
    4,417Noncash patent impairment
    
    
    
    
    
    
    
    
    
    
    1,339Noncash decrease in accounts payable
    
    
    
    
    
    
    
    
    
    
    (1,308
    )Depreciation and amortization
    
    
    1
    
    
    
    2
    
    
    
    3,774Noncash expenses related to stock-based
transactions
    
    
    4
    
    
    
    
    
    
    
    2,732Common stock issued for agreement not to
compete
    
    
    
    
    
    
    
    
    
    
    200Series B Preferred Stock issued for consulting
services
    
    
    
    
    
    
    
    
    
    
    18Maturities (purchases) of marketable securities
    
    
    (16,740
    )
    
    
    (4,100
    )
    
    
    6,995Changes in operating assets and liabilities
(net effects of purchase of businesses in 1988 and 1994):Decrease (increase) in receivables
    
    
    
    
    
    
    
    
    
    
    (199
    )Decrease (increase) in inventory
    
    
    
    
    
    
    
    
    
    
    (4,447
    )Decrease (increase) in prepaid expenses and other
current assets
    
    
    (205
    )
    
    
    (42
    )
    
    
    60(Decrease) increase in accounts payable and
accrued expenses
    
    
    538
    
    
    
    (145
    )
    
    
    2,347Decrease (increase) in other assets
    
    
    600
    
    
    
    284
    
    
    
    Net cash used in operating activities
    
    
    (17,357
    )
    
    
    (4,787
    )
    
    
    (73,106
    )Cash Flows from Investing ActivitiesMaturities (purchases) of marketable securities
    
    
    
    
    
    
    
    
    
    
    (28,723
    )Capital expenditures
    
    
    (3
    )
    
    
    (3
    )
    
    
    (2,292
    )Purchase of technology rights and other assets
    
    
    (21
    )
    
    
    (53
    )
    
    
    (2,459
    )Proceeds from sale of PP&E
    
    
    
    
    
    
    
    
    
    
    225Cash acquired in purchase of FTI
    
    
    
    
    
    
    
    
    
    
    3Proceeds from sale of subsidiary, less
$12,345 for operating losses during
1990 phase-out period
    
    
    
    
    
    
    
    
    
    
    138Proceeds from sale of the assets of FTI
    
    
    
    
    
    
    
    
    
    
    2,250Increase in net assets held for disposal
    
    
    
    
    
    
    
    
    
    
    (213
    )Net cash used in investing activities
    
    
    (24
    )
    
    
    (56
    )
    
    
    (31,071
    )Cash Flows from Financing ActivitiesProceeds from issuance of common stock, net of
offering costs
    
    
    18,180
    
    
    
    
    
    
    
    102,404Exercise of stock options
    
    
    85
    
    
    
    
    
    
    
    85Proceeds from issuance of preferred stock
    
    
    
    
    
    
    
    
    
    
    23,688Purchase of treasury stock
    
    
    
    
    
    
    (13,956
    )
    
    
    (21,487
    )Proceeds from issuance of notes payable
    
    
    
    
    
    
    
    
    
    
    2,839Principal payments on notes payable
    
    
    
    
    
    
    
    
    
    
    (1,732
    )Net cash provided by (used in) financing activities
    
    
    18,265
    
    
    
    (13,956
    )
    
    
    105,797Net increase (decrease) in cash and cash equivalents
    
    
    884
    
    
    
    (18,799
    )
    
    
    1,620Cash and cash equivalents at beginning of period
    
    
    736
    
    
    
    20,946
    
    
    
    Cash and cash equivalents at end of period
    
    $
    1,620
    
    
    $
    2,147
    
    
    $
    1,620
 The accompanying notes are
an integral part of these condensed consolidated financial statements. 7




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ZONAGEN, INC. AND SUBSIDIARY
(A development stage company) 
 NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS March 31, 2005
  NOTE 1  Organization and Operations Zonagen, Inc. (the Company, Zonagen, or we, us or our) was organized on August 28,
1987 and is a development stage company. We are a biopharmaceutical company focused on the
development of new drugs to treat hormonal and reproductive system disorders. Our lead product
candidate, Progenta, is an orally available small molecule compound that we are developing for the
treatment of uterine fibroids and endometriosis. Our second product candidate is Androxal, an
orally available small molecule compound being developed for the treatment of testosterone
deficiency in men. On February 1, 2005 the Company completed its follow-on public offering of 5,060,000 shares of
its common stock at $4.00 per share (which included the underwriters exercise of its over
allotment option for 660,000 shares). The shares offered by the Company were issued out of its
existing treasury stock, and the offering resulted in net proceeds to the Company of approximately
$18.2 million. In January 2004, the Company accepted for purchase 6,547,635 shares (approximately 57% of its
outstanding common stock, at that time) at a purchase price of $2.10 per share in accordance with
the terms of its self tender offer, which included 60,888 shares issuable upon exercise of options
tendered by directors, for a total aggregate cost of approximately $14.0 million, inclusive of
costs associated with the offer. The Company has experienced negative cash flows from operations since inception and has funded
its activities to date primarily from equity financings and corporate collaborations. The Company
will continue to require substantial funds for research and development, including preclinical
studies and clinical trials of our product candidates, and to commence sales and marketing efforts
if appropriate, if the FDA or other regulatory approvals are obtained. The Company believes that
its existing capital resources under its current operating plan will be sufficient to fund the
Companys operations through at least the first quarter of 2006. There can be no assurance that changes in
our current strategic plans or other events will not result in accelerated or unexpected
expenditures. Zonagens results of operations may vary significantly from year to year and quarter to
quarter, and depend, among other factors, on the Companys ability to be successful in our clinical
trials, the regulatory approval process in the United States and other foreign jurisdictions and
the ability to complete new licenses and product development agreements. The timing of our revenues
may not match the timing of our associated product development expenses. To date, research and
development expenses have generally exceeded revenue in any particular period and/or fiscal year. 8




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As of March 31, 2005, the Company had an accumulated deficit of $88.3 million. Losses have
resulted principally from costs incurred in conducting clinical trials for VASOMAX® and the related
female sexual dysfunction product, in research and development activities related to efforts to
develop our products and from the associated administrative costs required to support those
efforts. Due to various tax regulations, including change in control provisions in the tax code,
the value of this tax asset to the Company can be substantially diminished. The preparation of financial statements in conformity with accounting principles generally
accepted in the United States of America requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the condensed consolidated financial statements and the reported
amounts of revenues and expenses during the reporting period. Actual results could differ from
those estimates. Recent Accounting Pronouncement In December 2004, the FASB issued SFAS No. 123 (revised 2004), Share-Based Payment. SFAS No.
123(R) will require that the compensation cost relating to share-based payment transactions be
recognized in financial statements. That cost will be measured based on the fair value of the
equity or liability instruments issued. SFAS No. 123(R) covers a wide range of share-based
compensation arrangements including share options, restricted share plans, performance-based
awards, share appreciation rights, and employee share purchase plans. SFAS No. 123(R) replaces
FASB Statement No. 123, Accounting for Stock-Based Compensation, and supersedes APB Opinion No.
25, Accounting for Stock Issued to Employees. SFAS No. 123, as originally issued in 1995,
established as preferable a fair value-based method of accounting for share-based payment
transactions with employees. However, that Statement permitted entities the option of continuing
to apply the guidance in APB Opinion No. 25, as long as the footnotes to financial statements
disclosed what net income would have been had the preferable fair value-based method been used.
Public entities will be required to apply SFAS No. 123(R) as of the first annual reporting period
that begins after June 15, 2005. We are in the process of evaluating the impact the adoption of
SFAS No. 123(R) will have on our consolidated financial position, results of operations and cash
flows. NOTE 2  Stock-based Compensation The Company accounts for its stock option plans under APB No. 25 Accounting for Stock Issued
to Employees. Accordingly, deferred compensation is recorded for stock options based on the
excess of the market value of the common stock on the measurement date over the exercise price of
the options. This deferred compensation is amortized over the vesting period of each option. The Company has adopted the disclosure requirements of SFAS No. 123, Accounting for
Stock-Based Compensation as amended by SFAS No. 148, Accounting for Stock-Based Compensation 
Transition and Disclosure (SFAS 123/148) and has elected not to record related compensation
expense in accordance with this statement. Had compensation expense for its stock option plans
been determined consistent with SFAS No. 123/148, the Companys net loss and loss per share would
have been increased to the following pro forma amounts (in
thousands, 9




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except for per share amounts): Three Months Ended March 31,2005
    
    
    2004Net loss, as reported
    
    $
    (1,555
    )
    
    $
    (786
    )Add: Stock-based
employee compensation
expense included in
reported net income,
net of related tax
effects
    
    
    4
    
    
    
    Deduct: Total
stock-based employee
compensation expense
determined under fair
value based method
for all awards, net
of related tax
effects
    
    
    (275
    )
    
    
    (20
    )Pro forma net loss
    
    $
    (1,826
    )
    
    $
    (806
    )Loss per share -Basic  as reported
    
    $
    (0.19
    )
    
    $
    (0.14
    )Basic  pro forma
    
    
    (0.22
    )
    
    
    (0.15
    )Diluted  as reported
    
    
    (0.19
    )
    
    
    (0.14
    )Diluted  pro forma
    
    
    (0.22
    )
    
    
    (0.15
    )
 Under SFAS No. 123/148, the fair value of each option grant was estimated on the date of
grant using the Black-Scholes option-pricing model. There were no options granted in the
three-month period ended March 31, 2005. The following weighted average assumptions were used for
grants in the three-month period ended March 31, 2004: risk-free interest rate of 3.9%; no expected
dividends; expected lives of 5.7 years and expected volatility of 87%. The weighted fair value of
options granted for the three-month period ended March 31, 2004 was $1.89. The Black-Scholes option valuation model and other existing models were developed for use in
estimating the fair value of traded options that have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of and are highly sensitive
to subjective assumptions including the expected stock price volatility. The Companys employee
stock options have characteristics significantly different from those of traded options and changes
in the subjective input assumptions can materially affect the fair value estimate. NOTE 3  Marketable Securities Management determines the appropriate classification of investments in debt and equity
securities at the time of purchase and re-evaluates such designation as of each subsequent balance
sheet date. Securities which the Company has the ability and intent to hold to maturity are
classified as held to maturity. Securities classified as trading securities are recorded at
fair value. Gains and losses on trading securities, realized and unrealized, are included in
earnings and are calculated using the specific identification method. Any other securities are
classified as available for sale. At March 31, 2005, all securities were classified as trading
securities. The cost basis including purchased premium, which approximates fair value, for these
securities was $21.5 million and $4.8 million at March 31,
2005 and December 31, 2004, respectively. Short-term marketable securities have a remaining maturity of less than twelve months and
long-term marketable securities have a remaining maturity of greater than twelve months. 10




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Marketable securities as of March 31, 2005 consist of only short-term investments totaling $21.5
million. The Companys investments typically include corporate bonds and notes, Euro-dollar bonds,
taxable auction securities and asset-backed securities. The Companys policy is to require minimum
credit ratings of A2/A and A1/P1 with maturities of up to three years. The average life of the
investment portfolio may not exceed 24 months. NOTE 4  Patents As of March 31, 2005, the Company had approximately $438,000 in
internal capitalized patent costs reflected
on its balance sheet. Of this amount, $292,000 relates to patents for Progenta, which is being
developed as an oral treatment for uterine fibroids and endometriosis, and $146,000 relates to
Androxal, which is being developed as an oral treatment for testosterone deficiency. The Company
is no longer maintaining its patent portfolio for its vaccine adjuvants, prostate cancer vaccines,
hCG and zona pellucida immuno-contraceptive vaccines. NOTE 5  Loss Per Share Basic loss per share is computed by dividing net loss by the weighted average number of shares
of common stock outstanding during the year. Diluted loss per share is computed in the same manner
as basic loss per share, except that, among other changes, the average share price for the period
is used in all cases when applying the treasury stock method of potentially dilutive outstanding
options. The following table presents information necessary to calculate earnings per share for the
three-month periods ended March 31, 2005 and 2004 (in thousands, except per share amounts): Three Months Ended March 31,2005
    
    
    2004Net loss
    
    $
    (1,555
    )
    
    $
    (786
    )Weighted average common shares
outstanding
    
    
    8,326
    
    
    
    5,492Basic loss per share
    
    $
    (0.19
    )
    
    $
    (0.14
    )Weighted average common and
dilutive potential common
shares outstanding:Weighted average common shares
outstanding
    
    
    8,326
    
    
    
    5,492Diluted loss per share
    
    $
    (0.19
    )
    
    $
    (0.14
    )
 Common stock equivalents of 1,685,397 and 1,316,582 for the periods ended March 31, 2005
and 2004, respectively, were excluded from the above calculation of diluted loss per share
since they were antidilutive. NOTE 6  Stockholders Equity 11




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As of March 31, 2005, the Company had 10,079,601 shares outstanding and 1,937,035 shares of
treasury stock. On February 1, 2005, the Company completed its follow-on public offering of
5,060,000 shares of its common stock at $4.00 per share (which included the underwriters exercise
of its over allotment option for 660,000 shares). The shares offered by the Company were issued
out of its existing treasury stock, and the offering resulted in net proceeds to the Company of
approximately $18.2 million. The Company received $85,000 for the exercise of 26,700 stock options for the three-month
period ended March 31, 2005. In January 2004, Zonagen purchased 6,547,635 shares of its common stock (approximately 57% of
its outstanding common stock) at a purchase price of $2.10 per share in accordance with the terms
of its self tender offer, which expired on January 7, 2004 at a total aggregate cost of
approximately $14.0 million, inclusive of costs associated with the offer. On March 29, 2004, the Compensation Committee approved grants to the Companys executive
officers of incentive options to purchase 79,486 shares of its common stock that were to vest in
the event certain milestones were attained. The options were granted at an exercise price of
$2.72, the fair market value of the Companys common stock on the date of grant. Additionally, the
Compensation Committee approved grants to the Companys non-executive employees of incentive
options to purchase 17,504 shares of its common stock that were to vest in the event certain
milestones were attained. These options were granted at an exercise price of $2.72, the fair
market value of the Companys common stock on the date of grant. The Company records compensation
expense under variable plan accounting for these incentive options, however no compensation expense
was recorded for the quarters ended March 31, 2005 or 2004 as no milestones were achieved in these
quarters. As of March 31, 2005 a total of 39,743 executive officer and 8,752 non-executive employee
incentive options had been earned due to achievement of milestones under these grants. No options
were earned as of March 31, 2004 under these grants. On April 21, 2005 the Compensation Committee
modified the original grant terms to allow for additional vesting of 23,845 executive officer and 5,251 non-executive employee incentive
options. All remaining options under these grants were terminated. NOTE 7  Commitments and Contingencies As of March 31, 2005, in addition to general operating obligations, the Company also had
purchase orders primarily relating to the clinical development of both Progenta and Androxal in the
amounts of $837,800 and $624,000, respectively. 12




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Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations The following discussion contains 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. Such statements reflect the Companys current views with respect to future events and
financial performance and are subject to certain risks, uncertainties and assumptions. Should one
or more of these risks or uncertainties materialize, or should underlying assumptions prove
incorrect, actual results may vary materially from those anticipated in such forward-looking
statements. See Factors Affecting Forward-Looking Statements included elsewhere in this
quarterly report onForm 10-Q. The following discussion of financial condition should be read in
conjuction with the accompanying consolidated financial statements and related notes. Overview Zonagen, Inc. (the Company, Zonagen, or we, us or our) was organized on August 28,
1987 and is a development stage company. We are a clinical stage biopharmaceutical company focused
on the development of new drugs to treat hormonal and reproductive system disorders. Our lead product candidate is Progenta, an orally available small molecule compound being
developed for the treatment of uterine fibroids and endometriosis. We are developing Progenta
under an exclusive, worldwide license from the National Institutes of Health, or NIH. Progenta is
being developed to alleviate adverse symptoms associated with both uterine fibroids and
endometriosis by selectively blocking the progesterone receptor in women. We believe it may be
superior to the current standards of care for uterine fibroids and endometriosis, which include
surgery and treatment with gonadotropin releasing hormone agonists, or GnRH agonists, such as
Lupron®. Unlike Progenta, GnRH agonists induce a low estrogen, menopausal-like state in women, and
estrogen is necessary for the maintenance of bone mineral density. Therefore, GnRH agonists tend
to promote bone loss and cannot be used for more than six months at a time. When women cease
treatment with GnRH agonists, the fibroids rapidly regenerate and symptoms associated with
endometriosis quickly reappear. We believe Progenta may provide an attractive alternative to
surgery because of its potential to treat these conditions in a long-term, or chronic, fashion,
resolving the symptoms that most commonly lead to invasive therapies. We believe Progenta may also
be effective as a pre-surgical treatment for uterine fibroids. We recently completed a European Phase Ib clinical study of Progenta, which studied the drugs
safety and efficacy when administered for three months to women diagnosed with uterine fibroids,
indicated that Progenta may be safe and have the potential to significantly reduce fibroid size.
The Company believes it has sufficient data from this trial to
adequately select dose for an advanced Phase
II U.S. trial. Zonagen has scheduled a pre-IND meeting with the FDA for May 20, 2005 and pending
those discussions, the Companys goal is to commence this Phase
II  trial by
year end 2005. The Company hopes that this Phase II trial may be the
first pivotal trial of two required pivotal trials. This trial is subject the FDAs review of our European Phase 1b data and clinical
trial protocol and completion of additional preclinical animal safety studies . We anticipate
initial study data by the end of the first half of 2006 and anticipate filing a New Drug
Application, or NDA for Progenta, for the treatment of
uterine fibroids in the year 2008. We also plan to begin a Phase II clinical trial in Poland
for Progenta for the treatment of endometriosis by 13




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year end 2005. The FDA has deemed Progenta to
be a new chemical entity. Our second product candidate is Androxal, an orally available small molecule compound being
developed for the treatment of testosterone deficiency in men. Androxal, our proprietary compound,
is designed to restore normal testosterone production in males with functional testes and
diminished pituitary function, a condition commonly referred to as andropause. Both of these
conditions have been associated with prostate disease and abnormally high peaks of testosterone
levels have also been associated with excitation, aggressive behavior, sleeplessness, anxiety,
depression and headaches. We have completed a Phase I/II clinical trial in the United States for Androxal for the
treatment of men with testosterone deficiency and have submitted a full study report to the FDA.
We met with FDA staff members on November 10, 2004 to review our clinical plan for the approval of
Androxal. The FDA agreed to review our protocols for our trials in a timely fashion under a
special protocol assessment, or SPA. We intend to begin a Phase III clinical trial for Androxal in
the United States for the treatment of testosterone deficiency by year end 2005, subject to review
of our clinical trial protocol by the FDA and completion of additional preclinical animal safety
studies. We believe that initial study data will be available at the end of the first half of
2006. We anticipate filing a NDA for Androxal for the treatment of testosterone deficiency in the
year 2008. The FDA has deemed Androxal to be a new chemical entity. Before we can conduct a Phase II study with Progenta or a Phase III study with Androxal in the
United States, we must first provide the FDA with three months of animal safety data that the FDA
deems acceptable for each respective product. We are currently conducting these animal safety
studies as a means of beginning these human clinical studies in the United States by year end 2005.
In addition, as a result of both Progenta and Androxal being deemed new chemical entities, we must
provide the FDA with additional data from lengthy animal studies before long term human studies may
be initiated in the United States and a NDA may be submitted. The Companys current ongoing animal safety
studies are expected to provide both safety data to support the initiation of the Companys Phase
II study with Progenta and Phase III study with Androxal for initiation by year end 2005 as well as
provide some long term safety data that will be used toward the support of future long term human
studies. For a detailed discussion regarding the development, scientific rationale and risks involving
both Progenta and Androxal as well as a discussion of our prior product candidates, see Part I.
Item 1. Business included in the Companys annual report on Form 10-K for the year ended December
31, 2004. We have five full-time employees who utilize the services of contract research organizations,
contract manufacturers and various consultants to assist us in performing regulatory services for
the clinical development of our products. We are highly dependent on our various contract groups
to adequately perform the activities required to obtain regulatory approval of our products. On February 1, 2005, we completed our follow-on public offering of 5,060,000 shares of our
common stock at $4.00 per share (which included the underwriters exercise of its over allotment
option for 660,000 shares). The shares offered by us were issued out of our existing treasury
stock, 14




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and the offering resulted in net proceeds to us of approximately $18.2 million. The clinical development of pharmaceutical products is a complex undertaking, and many
products that begin the clinical development process do not obtain regulatory approval. The costs
associated with our clinical trials may be impacted by a number of internal and external factors,
including the number and complexity of clinical trials necessary to obtain regulatory approval, the
number of eligible patients necessary to complete our clinical trials and any difficulty in
enrolling these patients, and the length of time to complete our clinical trials. Given the
uncertainty of these potential costs, we are unable to estimate the total costs we will incur for
the clinical development of our product candidates over those costs currently projected. We do,
however, expect these costs to increase substantially in future periods as we continue later-stage
clinical trials, initiate new clinical trials for additional indications and seek to obtain
regulatory approvals. Any failure by us to obtain, or any delay in obtaining, regulatory approvals
could cause our research and development expenditures to increase and, in turn, have a material
adverse effect on our results of operations. Out-Licensing The Company has limited financial resources and personnel and anticipates that it will need to
raise additional capital and hire a significant number of employees in order to be able to
successfully develop each of its current product candidates through the clinical trials and to be
able to market them, should regulatory approval be obtained, on a worldwide basis. Alternatively,
the Company may elect to partner with a larger and more experienced pharmaceutical company with
better resources for one or more of its product candidates and/or target indications. As a result,
the Company believes that an out-license of one or more of its product candidates could occur at
some point in the future, and discussions are held from time to time with potential partners to
explore possible arrangements. No such agreement is in process or anticipated in the near future,
although there can be no assurance that such an agreement will not be entered into by us. The Company is continuing its out-licensing efforts relating to its phentolamine-based product
candidates, including VASOMAX®, which had previously been approved for marketing in several
countries in Latin America for the treatment of male erectile dysfunction, or MED. VASOMAX is
currently on partial clinical hold in the United States but is not on clinical hold in Europe.
There can be no assurance that the Company will be able to create any value from out-licensing
activities of its phentolamine-based product candidates. Results of Operations Three Month Periods Ended March 31, 2005 and 2004 Our results of operations may vary significantly from quarter to quarter and year to year, and
depend, among other factors, on our ability to be successful in our clinical trials, the regulatory
approval process in the United States and other foreign jurisdictions and the ability
to complete new licenses and product development agreements. The timing of our revenues may
not match the timing of our associated product development expenses. To date, research and
development expenses have generally exceeded revenue in any particular period and/or fiscal 15




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year. Revenues and other income. Total revenues and other income for the three-month period ended
March 31, 2005 decreased to $112,000 as compared with $125,000 for the same period in the prior
year. Research and development grant revenues for the three-month period ended March 31, 2005 were
$4,000 as compared to $64,000 for the same period in the prior year. Grant revenue relates to a
$836,441 Phase II Small Business Innovative Research grant that was awarded to the Company in 2002
for the development of Progenta as an oral treatment for endometriosis. This SBIR grant has come
to its anticipated conclusion and is essentially depleted. Interest income increased 315% to $108,000 for the three-month period ended March 31, 2005, as
compared to $26,000 for the same period in the prior year. This increase is primarily due to the
increase in marketable securities as a result of the Company completing its follow-on public
offering on February 1, 2005 in which it received approximately $18.2 million in net proceeds. Other revenue included in the three-month period ended March 31, 2004 of $35,000 was from the
sale of some of the Companys preclinical phentolamine data that is to be used for a purpose that
does not compete with the Companys sexual dysfunction technologies. Research and Development Expenses. Research and development (R&D) expenses include
contracted research, regulatory affairs activities and general research and development expenses.
R&D expenses increased 159% to $1.2 million for the three-month period ended March 31, 2005 as
compared to $477,000 for the same period in the prior year. The increase in R&D expenses for the
three-month period ended March 31, 2005 as compared to the same period in the prior year is
primarily due to an increase of $499,000 and $292,000 related to the Companys clinical development
programs for Progenta and Androxal, respectively, partially offset by a decrease of $60,000 in
costs associated with the Companys SBIR grant funded R&D. General and Administrative Expenses. General and administrative expenses remained relatively
constant at $431,000 for the three-month period ended March 31, 2005, as compared to $434,000 for
the same period in the prior year. The slight decrease in expenses for the three-month period
ended March 31, 2005 is primarily due to a decrease in directors and officers insurance expense
and professional services, partially offset by an increase in directors expense. Liquidity and Capital Resources The Company had cash, cash equivalents and marketable securities of approximately $23.2
million at March 31, 2005 as compared to $5.5 million at December 31, 2004. This increase in cash
is due to the February 1, 2005 completion of our public offering of 5,060,000 shares of
common stock in which we received net proceeds of approximately $18.2 million. We believe
that our existing capital resources under our current operating plan will be sufficient to fund our
operations through the first quarter of 2006. There can be no assurance that changes in our
current strategic plans or other events will not result in accelerated or unexpected expenditures. Excluding purchases of marketable investment securities of $16.7 million, we used 16




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$617,000
during the three-month period ended March 31, 2005 for operating activities. The major uses of
cash for operating activities during the three-month period ended March 31, 2005 was to fund the
Companys clinical development programs and administrative costs
of approximately $1.6 million and
to prepay the majority of the Companys annual insurance
policies. Cash used in investing activities was
$24,000 in the three-month period ended March 31, 2005, primarily for investments in technology
rights related to our Progenta and Androxal patent portfolios. Cash provided by financing
activities was approximately $18.3 million in the three-month period ended March 31, 2005, relating
to the follow-on public offering which was completed in February 2005 and the exercise of 26,700
stock options in the three-month period ended March 31, 2005. As of March 31, 2005, in addition to
general operating obligations, the Company also had non-cancelable purchase orders primarily
relating to the clinical development of both Progenta and Androxal in the amounts of $837,800 and
$624,000, respectively. As of March 31, 2005, we had an accumulated deficit of $88.3 million. The Company has
incurred losses since its inception and expects to continue to incur losses for the foreseeable
future. Inception to date losses have resulted principally from costs incurred in conducting
clinical trials for VASOMAX, our previous lead product candidate for the oral treatment of male
erectile dysfunction, in research and development activities related to efforts to develop our
products and from the associated administrative costs required to support those efforts. We do not
intend to commit any additional resources toward the development of VASOMAX. We have financed our
operations primarily with proceeds from public offerings and private placements of equity
securities, funds received under collaborative agreements and SBIR grants. We will require
substantial additional capital to further develop Progenta as our oral treatment for uterine
fibroids and endometriosis and Androxal for the oral treatment of testosterone deficiency. Our capital requirements will depend on many factors, including the costs and timing of
seeking regulatory approvals of the Companys products; the problems, delays, expenses and
complications frequently encountered by development stage companies; the progress of the Companys
preclinical and clinical activities; the costs associated with any future collaborative research,
manufacturing, marketing or other funding arrangements; the Companys ability to obtain regulatory
approvals; the success of the Companys potential future sales and marketing programs; the cost of
filing, prosecuting and defending and enforcing any patent claims and other intellectual property
rights; changes in economic, regulatory or competitive conditions of the Companys planned
business; and additional costs associated with being a publicly-traded company. Estimates about
the adequacy of funding for the Companys activities are based on certain assumptions, including
the assumption that the
development and regulatory approval of the Companys products can be completed at projected
costs and that product approvals and introductions will be timely and successful. There can be no
assurance that changes in the Companys research and development plans, acquisitions or other
events will not result in accelerated or unexpected expenditures. To satisfy its capital
requirements, the Company may seek to raise additional funds in the public or private capital
markets. The Company may seek additional funding through corporate collaborations and other
financing vehicles. There can be no assurance that any such funding will be available to the
Company on favorable terms or at all. If the Company is successful in obtaining additional
financing, the terms of such financing may have the effect of diluting or adversely affecting the
holdings or the rights of the holders of the 17




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Companys common stock. 
 Item 3. Quantitative and Qualitative Disclosures About Market Risk Interest Rate Risk. Cash, cash equivalents and investments were approximately $23.2 million at
March 31, 2005. These assets were primarily invested in investment grade corporate bonds and
commercial paper with maturities of less than 18 months, which are classified as Trading
Securities. We do not invest in derivative securities. Although our portfolio is subject to
fluctuations in interest rates and market conditions, no significant gain or loss on any security
is expected to be recognized in earnings due to the expected short holding period. 
 Item 4. Controls and Procedures Based on their evaluation as of the end of the period covered by this Quarterly Report on Form
10-Q, the Companys Chief Executive Officer and Chief Financial Officer have concluded that the
Companys disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities
Exchange Act of 1934, as amended (the Exchange Act)) are effective in insuring that the
information required to be disclosed by the Company in the reports that it files or submits under
the Exchange Act is recorded, processed, summarized and reported within the required time periods. In connection with the evaluation described above, the Company identified no change in
internal control over financial reporting that occurred during the fiscal quarter ended March 31,
2005 that has materially affected, or is reasonably likely to materially affect, the Companys
internal control over financial reporting. 18




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PART II  OTHER INFORMATION 
 Item 1. Legal Proceedings We are not currently a party to any material legal proceedings. 
 Item 5. Other Information None 
 Item 6. Exhibits  31.1
    Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002 (Chief Executive Officer).31.2
    Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002 (Chief Financial Officer).32.1
    Certification furnished pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002 (Chief Executive Officer).32.2
    Certification furnished pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002 (Chief Financial Officer). 19




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SIGNATURES In accordance with the requirements of the Exchange Act, the registrant caused this report to
be signed on its behalf by the undersigned, thereunto duly authorized. ZONAGEN, INC.Date: May 9, 2005By:
    
    /s/ Joseph S. PodolskiJoseph S. PodolskiPresident, Chief Executive Officer andDirector(Principal Executive Officer)Date: May 9, 2005By:
    
    /s/ Louis Ploth, Jr.Louis Ploth, Jr.Vice President Business Development, ChiefFinancial Officer, Director and Secretary(Principal Financial and Accounting Officer)
 20




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EXHIBIT INDEX Item 6. Exhibits  31.1
    Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002 (Chief Executive Officer).31.2
    Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002 (Chief Financial Officer).32.1
    Certification furnished pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002 (Chief Executive Officer).32.2
    Certification furnished pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002 (Chief Financial Officer).