**SECURITIESAND EXCHANGE COMMISSION**

**Washington,D.C.  20549**

 

----

 

**FORM 10-Q**

 

| **(Mark One)**                                |   |                                                                                                                                                                                                                                                                                                                    |
|-----------------------------------------------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                          |   |                                                                                                                                                                                                                                                                                                                    |
| **ý**                                    |   | **QUARTERLY REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**                                                                                                                                                                                                                       |
|                                          |   |                                                                                                                                                                                                                                                                                                                    |
|                                          |   | **For the quarterly period ended July 31, 2003**                                                                                                                                                                                                                                                                        |
|                                          |   |                                                                                                                                                                                                                                                                                                                    |
| **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  1-8366** |
|                                               |        |                                                                                                                                                                                                                                                                                                                         |  |  |

 

| **POLYDEX PHARMACEUTICALS LIMITED**                                                    |
|----------------------------------------------------------------------------------------|
| (Exact Name of Registrant as Specified in  Its Charter)                                |
|                                                                                   |   |   |
| **Commonwealth of the  Bahamas**                                                       |   | **None** |
| (State or Other Jurisdiction of  Incorporation or Organization)                        |   | (I.R.S. Employer  Identification No.) |
|                                                                                   |   |   |
|                                                                                   |   |   |
| **421 Comstock  Road, Toronto, Ontario, Canada**                                  |   | **M1L 2H5** |
| (Address of Principal Executive Offices)                                               |   | (Zip Code) |
|                                                                                   |   |   |
| Registrant’s Telephone Number, Including  Area Code  **(416) 755-2231** |
|                                                                                   |   |   |
|                                                                                   |   |   |
| Former Name, Former Address and Former  Fiscal Year, if Changed Since Last Report      |
|                                                                                        |  |  |  |  |

 

Indicate by check whether the registrant (1) has filed all reportsrequired to be filed by Section 13 or 15(d) of the Securities Act of 1934during the preceding 12 months (or for such shorter period that the registrantwas required to file such reports), and (2) has been subject to suchfiling requirements for the past 90days.      Yes ý          No o

 

Indicate by check whether the registrant is an accelerated filer (asdefined in Exchange Act Rule 12b-2).    Yes o          No ý

 

Indicate the number of shares outstanding of each of the issuer’sclasses of common shares, as of the latest practicable date.

 
| Common  Shares, $.0167 Par Value |   |   |                               | 3,027,796 shares |
|----------------------------------|--------|--------|------------------------------------|------------------|
| (Title of  Class)                |   |   | (Outstanding at September 5, 2003) |

 

 

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**POLYDEXPHARMACEUTICALS LIMITED**

 

**TABLEOF CONTENTS**

 
|         |                                                                                                                                        | **PAGE** |
|--------------|---------------------------------------------------------------------------------------------------------------------------------------------|----------|
| **PART I**   | **FINANCIAL  INFORMATION**                                                                                                                  |     |
|         |                                                                                                                                        |     |
| Item 1       | CONSOLIDATED FINANCIAL STATEMENTS  (UNAUDITED)                                                                                              |     |
|         |                                                                                                                                        |     |
|         | Consolidated Balance Sheets  July 31, 2003 and January 31, 2003                                                                        | 3        |
|         |                                                                                                                                        |     |
|         | Consolidated Statements of Operations  Three months ended July 31, 2003 and July 31, 2002  Six months ended July 31, 2003 and July 31, 2002 | 5        |
|         |                                                                                                                                        |     |
|         | Consolidated Statements of Shareholders’  Equity  and Comprehensive Income  Six months ended July 31, 2003 and July 31, 2002           | 6        |
|         |                                                                                                                                        |     |
|         | Consolidated Statements of Cash Flows  Six months ended July 31, 2003 and July 31, 2002                                                     | 7        |
|         |                                                                                                                                        |     |
|         | Segmented Information  Three months ended July 31, 2003 and July 31, 2002  Six months ended July 31, 2003 and July 31, 2002                 | 8        |
|         |                                                                                                                                        |     |
|         | Notes to Consolidated Financial Statements (Unaudited)                                                                                      | 9        |
|         |                                                                                                                                        |     |
| Item 2       | MANAGEMENT’S DISCUSSION AND ANALYSIS OF  FINANCIAL CONDITION AND RESULTS OF OPERATIONS                                                 | 14       |
|         |                                                                                                                                        |     |
| Item 3       | QUANTITATIVE AND QUALITATIVE DISCLOSURES  ABOUT MARKET RISK                                                                                 | 28       |
|         |                                                                                                                                        |     |
| Item 4       | CONTROLS AND PROCEDURES                                                                                                                     | 30       |
|         |                                                                                                                                        |     |
| **PART  II** | **OTHER  INFORMATION**                                                                                                                      |     |
|         |                                                                                                                                        |     |
| Item 4       | SUBMISSION OF MATTERS TO A VOTE  OF SECURITY HOLDERS                                                                                        | 31       |

 

1

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| Item 6 | EXHIBITS AND REPORTS ON FORM 8-K | 31     |
|--------|----------------------------------|--------|
|   |                             |   |
|   | Signatures                       | 33     |

 

2

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**PART I****FINANCIAL INFORMATION**

 

**Item 1. Consolidated Financial Statements (unaudited).**

 

**POLYDEX PHARMACEUTICALSLIMITED**

 

ConsolidatedBalance Sheets

(Expressed in United States dollars)

 
|                                      |   | **(Unaudited)**   |       |                 |   |
|-------------------------------------------|--------|-------------------|------------|----------------------|--------|
|                                      |   | **July 31  2003** |       | **January 31  2003** |   |
|                                      |   |              |       |                 |   |
| **Assets**                                |   |              |       |                 |   |
|                                      |   |              |       |                 |   |
| Current assets:                           |   |              |       |                 |   |
| Cash                                      |   | $                 | 654,576    |                 | $      | 280,748 |   |
| Trade accounts receivable                 |   | 765,675           |       | 1,351,515            |   |
| Inventories:                              |   |              |       |                 |   |
| Finished goods                            |   | 1,956,251         |       | 1,678,250            |   |
| Work in process                           |   | 79,826            |       | 59,478               |   |
| Raw materials                             |   | 702,676           |       | 528,235              |   |
|                                      |   |              |       |                 |   |
| Inventories                               |   | 2,738,753         |       | 2,265,963            |   |
| Prepaid expenses and other current assets |   | 78,433            |       | 80,324               |   |
|                                      |   |              |       |                 |   |
|                                      |   | 4,237,437         |       | 3,978,550            |   |
|                                      |   |              |       |                 |   |
| Property, plant and equipment, net        |   | 4,766,459         |       | 4,665,809            |   |
| Patents, net                              |   | 75,971            |       | 87,062               |   |
| Due from shareholder                      |   | 946,195           |       | 981,153              |   |
|                                      |   |              |       |                 |   |
|                                      |   | $                 | 10,026,062 |                 | $      | 9,712,574 |   |

 

3

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|                                                           |   | **(Unaudited)**   |       |                 |   |
|----------------------------------------------------------------|--------|-------------------|------------|----------------------|--------|
|                                                           |   | **July 31  2003** |       | **January 31  2003** |   |
|                                                           |   |              |       |                 |   |
| **Liabilities and  Shareholders’ Equity**                 |   |              |       |                 |   |
|                                                           |   |              |       |                 |   |
| Current liabilities:                                           |   |              |       |                 |   |
| Bank indebtedness                                              |   | $                 | 255,809    |                 | $      | — |   |
| Accounts payable                                               |   | 1,215,734         |       | 1,205,383            |   |
| Accrued liabilities                                            |   | 528,437           |       | 423,059              |   |
| Due to Sparhawk Laboratories, Inc.                             |   | 101,453           |       | 101,453              |   |
| Customer deposits received                                     |   | 110,687           |       | 137,343              |   |
| Income taxes payable                                           |   | 49,154            |       | 33,010               |   |
| Current portion of long-term debt                              |   | 409,944           |       | 439,059              |   |
| Current portion of capital lease  obligations                  |   | 125,088           |       | 110,387              |   |
|                                                           |   |              |       |                 |   |
|                                                           |   | 2,796,306         |       | 2,449,694            |   |
|                                                           |   |              |       |                 |   |
| Long-term debt                                                 |   | 123,516           |       | 186,776              |   |
| Capital lease obligations                                      |   | 283,323           |       | 319,602              |   |
| Due to shareholder                                             |   | 683,611           |       | 682,225              |   |
| Deferred income taxes                                          |   | 154,018           |       | 49,750               |   |
|                                                           |   |              |       |                 |   |
| Total liabilities                                              |   | 4,040,774         |       | 3,688,047            |   |
|                                                           |   |              |       |                 |   |
| Shareholders’ equity:                                     |   |              |       |                 |   |
| Capital stock                                                  |   |              |       |                 |   |
| Authorized:                                                    |   |              |       |                 |   |
| 100,000 Class A preferred shares, par  value $0.10 per share   |   |              |       |                 |   |
| 899,400 Class B preferred shares, par  value $0.0167 per share |   |              |       |                 |   |
| 10,000,000 common shares, par value  $0.0167 per share         |   |              |       |                 |   |
| Issued and outstanding:                                        |   |              |       |                 |   |
| 899,400 Class B preferred shares                               |   | 15,010            |       | 15,010               |   |
| 3,027,796 common shares (2003 - 3,027,777)                     |   | 50,434            |       | 50,434               |   |
| Contributed surplus                                            |   | 23,224,128        |       | 23,224,128           |   |
| Deficit                                                        |   | (16,804,644       | )          | (16,278,269          | )      |
| Accumulated other comprehensive loss                           |   | (499,640          | )          | (986,776             | )      |
|                                                           |   |              |       |                 |   |
|                                                           |   | 5,985,288         |       | 6,024,527            |   |
|                                                           |   |              |       |                 |   |
|                                                           |   | $                 | 10,026,062 |                 | $      | 9,712,574 |   |

 

4

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**POLYDEX PHARMACEUTICALS LIMITED**

 

Consolidated Statements of Operations (Unaudited)

(Expressed in United States dollars)

 
|                                                                 |   | **Three Months Ended  July 31  2003** |      | **Three Months Ended  July 31  2002** |   | **Six Months Ended  July 31  2003** |   | **Six Months Ended  July 31  2002** |      |
|----------------------------------------------------------------------|--------|---------------------------------------|-----------|---------------------------------------|--------|-------------------------------------|--------|-------------------------------------|-----------|
|                                                                 |   |                                  |      |                                  |   |                                |   |                                |      |
| Sales                                                                |   | $                                     | 3,058,369 |                                  | $      | 2,647,400                           |   | $                                   | 6,354,887 |   | $ | 5,972,010 |   |
| Cost of products sold                                                |   | 2,373,364                             |      | 1,946,153                             |   | 4,891,594                           |   | 4,301,568                           |      |
|                                                                 |   |                                  |      |                                  |   |                                |   |                                |      |
|                                                                 |   | 685,005                               |      | 701,247                               |   | 1,463,293                           |   | 1,670,442                           |      |
|                                                                 |   |                                  |      |                                  |   |                                |   |                                |      |
| Expenses:                                                            |   |                                  |      |                                  |   |                                |   |                                |      |
| General and administrative                                           |   | 538,879                               |      | 411,556                               |   | 963,857                             |   | 787,501                             |      |
| Depreciation                                                         |   | 148,701                               |      | 138,431                               |   | 291,058                             |   | 273,631                             |      |
| Research and development                                             |   | 12,333                                |      | 57,216                                |   | 21,772                              |   | 112,542                             |      |
| Interest expense                                                     |   | 34,204                                |      | 38,712                                |   | 69,576                              |   | 80,097                              |      |
| Selling and promotion                                                |   | 38,185                                |      | 31,800                                |   | 82,398                              |   | 65,201                              |      |
| Foreign exchange (gain) loss                                         |   | 32,206                                |      | (377                                  | )      | 224,383                             |   | 28,074                              |      |
| Amortization                                                         |   | 5,545                                 |      | 5,545                                 |   | 11,091                              |   | 11,091                              |      |
|                                                                 |   |                                  |      |                                  |   |                                |   |                                |      |
|                                                                 |   | 810,053                               |      | 682,883                               |   | 1,664,135                           |   | 1,358,137                           |      |
|                                                                 |   |                                  |      |                                  |   |                                |   |                                |      |
| Income (loss) from operations                                        |   | (125,048                              | )         | 18,364                                |   | (200,842                            | )      | 312,305                             |      |
|                                                                 |   |                                  |      |                                  |   |                                |   |                                |      |
| Other income (loss):                                                 |   |                                  |      |                                  |   |                                |   |                                |      |
| Other income (expense)                                               |   | (55,701                               | )         | 2,434                                 |   | (194,695                            | )      | 4,864                               |      |
|                                                                 |   |                                  |      |                                  |   |                                |   |                                |      |
| Income (loss) before provision for income  taxes                     |   | (180,749                              | )         | 20,798                                |   | (395,537                            | )      | 317,169                             |      |
|                                                                 |   |                                  |      |                                  |   |                                |   |                                |      |
| Provision for income taxes                                           |   | 56,056                                |      | 56,638                                |   | 130,838                             |   | 208,007                             |      |
|                                                                 |   |                                  |      |                                  |   |                                |   |                                |      |
| Net income (loss) for the period                                     |   | $                                     | (236,805  | )                                     | $      | (35,840                             | )      | $                                   | (526,375  | ) | $ | 109,162 |   |
|                                                                 |   |                                  |      |                                  |   |                                |   |                                |      |
| Per share information:                                               |   |                                  |      |                                  |   |                                |   |                                |      |
| Earnings (loss) per common share for the  period:                    |   |                                  |      |                                  |   |                                |   |                                |      |
| Basic                                                                |   | $                                     | (0.08     | )                                     | $      | (0.01                               | )      | $                                   | (0.17     | ) | $ | 0.04 |   |
| Diluted                                                              |   | $                                     | (0.08     | )                                     | $      | (0.01                               | )      | $                                   | (0.17     | ) | $ | 0.04 |   |
|                                                                 |   |                                  |      |                                  |   |                                |   |                                |      |
| Weighted average number of common shares  outstanding for the period |   | 3,027,796                             |      | 3,027,777                             |   | 3,027,796                           |   | 3,027,777                           |      |

 

5

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**POLYDEX PHARMACEUTICALS LIMITED**

 

ConsolidatedStatements of Shareholders’ Equity and Comprehensive Income (Loss) (Unaudited)

(Expressed in United States dollars)

 
|                                            |   | **Six Months Ended  July 31  2003** |        | **Six Months Ended  July 31  2002** |   |
|-------------------------------------------------|--------|-------------------------------------|-------------|-------------------------------------|--------|
|                                            |   |                                |        |                                |   |
| Preferred Shares:                               |   |                                |        |                                |   |
| Balance, beginning and end of period            |   | $                                   | 15,010      |                                | $      | 15,010 |   |
|                                            |   |                                |        |                                |   |
| Common Shares:                                  |   |                                |        |                                |   |
| Balance, beginning and end of period            |   | $                                   | 50,434      |                                | $      | 50,434 |   |
|                                            |   |                                |        |                                |   |
| Contributed Surplus:                            |   |                                |        |                                |   |
| Balance, beginning and end of period            |   | $                                   | 23,224,128  |                                | $      | 23,224,128 |   |
|                                            |   |                                |        |                                |   |
| Deficit:                                        |   |                                |        |                                |   |
| Balance, beginning of period                    |   | $                                   | (16,278,269 | )                                   | $      | (15,604,528 | ) |
| Net income (loss) for the period                |   | (526,375                            | )           | 109,162                             |   |
|                                            |   |                                |        |                                |   |
| Balance, end of period                          |   | $                                   | (16,804,644 | )                                   | $      | (15,495,366 | ) |
|                                            |   |                                |        |                                |   |
| Accumulated Other Comprehensive Loss:           |   |                                |        |                                |   |
| Balance, beginning of period                    |   | $                                   | (986,776    | )                                   | $      | (1,199,627 | ) |
| Currency translation adjustment for the  period |   | 487,136                             |        | 34,835                              |   |
|                                            |   |                                |        |                                |   |
| Balance, end of period                          |   | $                                   | (499,640    | )                                   | $      | (1,164,792 | ) |
|                                            |   |                                |        |                                |   |
| Comprehensive Income (Loss) for the  period:    |   |                                |        |                                |   |
| Net income (loss) for the period                |   | $                                   | (526,375    | )                                   | $      | 109,162 |   |
| Currency translation adjustment for the  period |   | 487,136                             |        | 34,835                              |   |
|                                            |   |                                |        |                                |   |
|                                            |   | $                                   | (39,239     | )                                   | $      | 143,997 |   |

 

6

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**POLYDEX PHARMACEUTICALS LIMITED**

 

ConsolidatedStatements of Cash Flows (Unaudited)

(Expressed inUnited States dollars)

 
|                                                                   |   | **Six Months Ended  July 31  2003** |     | **Six Months Ended  July 31  2002** |   |
|------------------------------------------------------------------------|--------|-------------------------------------|----------|-------------------------------------|--------|
|                                                                   |   |                                |     |                                |   |
| Cash provided by (used in):                                            |   |                                |     |                                |   |
|                                                                   |   |                                |     |                                |   |
| Operating activities:                                                  |   |                                |     |                                |   |
| Net income (loss) for the period                                       |   | $                                   | (526,375 | )                                   | $      | 109,162 |   |
| Add (deduct) items not affecting cash:                                 |   |                                |     |                                |   |
| Depreciation and amortization                                          |   | 302,149                             |     | 284,722                             |   |
| Imputed interest on long-term debt                                     |   | 12,664                              |     | 17,872                              |   |
| Deferred tax provision                                                 |   | 99,153                              |     | 127,730                             |   |
| Net change in non-cash working capital  balances related to operations |   | 308,581                             |     | (19,089                             | )      |
|                                                                   |   |                                |     |                                |   |
|                                                                   |   | 196,172                             |     | 520,397                             |   |
|                                                                   |   |                                |     |                                |   |
| Investing activities:                                                  |   |                                |     |                                |   |
| Additions to property, plant and equipment                             |   | (130,211                            | )        | (136,146                            | )      |
| Decrease in due from shareholder                                       |   | 34,958                              |     | 22,313                              |   |
| Advance to Sparhawk Laboratories, Inc.                                 |   | —                              |     | (1,575                              | )      |
|                                                                   |   |                                |     |                                |   |
|                                                                   |   | (95,253                             | )        | (115,408                            | )      |
|                                                                   |   |                                |     |                                |   |
| Financing activities:                                                  |   |                                |     |                                |   |
| Repayment of long-term debt                                            |   | (105,039                            | )        | (147,957                            | )      |
| Repayment of capital lease obligations                                 |   | (28,845                             | )        | (48,509                             | )      |
| Increase (decrease) in due to shareholder                              |   | 1,386                               |     | (814                                | )      |
| Increase (decrease) in bank indebtedness                               |   | 255,809                             |     | (135,457                            | )      |
|                                                                   |   |                                |     |                                |   |
|                                                                   |   | 123,311                             |     | (332,737                            | )      |
|                                                                   |   |                                |     |                                |   |
| Effect of exchange rate changes on cash                                |   | 149,597                             |     | 1,998                               |   |
|                                                                   |   |                                |     |                                |   |
| Increase (decrease) in cash position                                   |   | 373,828                             |     | 74,250                              |   |
|                                                                   |   |                                |     |                                |   |
| Cash, beginning of period                                              |   | 280,748                             |     | 123,418                             |   |
|                                                                   |   |                                |     |                                |   |
| Cash, end of period                                                    |   | $                                   | 654,576  |                                | $      | 197,668 |   |

 

7

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**POLYDEXPHARMACEUTICALS LIMITED**

 

SegmentedInformation (Unaudited)

(Expressed in United Statesdollars)

 

All operationsare carried out through Dextran Products Limited (“Dextran”) in Canada andthrough Chemdex, Inc. (“Chemdex”) in the United States.  The operations of Chemdex represent theveterinary products business and the operations are carried out through itswholly-owned subsidiary, Veterinary Laboratories, Inc. (“Vet Labs”).  Vet Labs carries on its business through aJoint Venture with Sparhawk Laboratories, Inc. Each of Dextran and Chemdex operates as a strategic business unitoffering different products.  Eachsubsidiary comprises a reportable segment as follows: 

 
| Dextran - | manufactures  and sells bulk quantities of Dextran and several of its derivatives to large  pharmaceutical companies throughout the world.                                                                                         |
|-----------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|      |                                                                                                                                                                                                                               |
| Chemdex - | manufactures  and sells veterinary pharmaceutical products and specialty chemicals in the  United States.  The primary customers  are distributors and private labelers, who in turn sell to the end-user of  these products. |

 
|                                                  |   | **Three Months Ended  July 31  2003** |      | **Three Months Ended  July 31  2002** |   | **Six Months Ended  July 31  2003** |   | **Six Months Ended  July 31  2002** |      |
|-------------------------------------------------------|--------|---------------------------------------|-----------|---------------------------------------|--------|-------------------------------------|--------|-------------------------------------|-----------|
|                                                  |   |                                  |      |                                  |   |                                |   |                                |      |
| **Sales:**                                            |   |                                  |      |                                  |   |                                |   |                                |      |
| Dextran                                               |   | $                                     | 1,333,004 |                                  | $      | 1,107,167                           |   | $                                   | 2,631,945 |   | $ | 2,479,486 |   |
| Less:   intercompany sales elimination           |   | 91,819                                |      | 128,140                               |   | 174,740                             |   | 299,481                             |      |
|                                                  |   |                                  |      |                                  |   |                                |   |                                |      |
|                                                  |   | 1,241,185                             |      | 979,027                               |   | 2,457,205                           |   | 2,180,005                           |      |
| Chemdex                                               |   | 1,817,184                             |      | 1,668,373                             |   | 3,897,682                           |   | 3,792,005                           |      |
|                                                  |   |                                  |      |                                  |   |                                |   |                                |      |
| Total consolidated sales                              |   | $                                     | 3,058,369 |                                  | $      | 2,647,400                           |   | $                                   | 6,354,887 |   | $ | 5,972,010 |   |
|                                                  |   |                                  |      |                                  |   |                                |   |                                |      |
| **Income (loss) before  provision for income taxes:** |   |                                  |      |                                  |   |                                |   |                                |      |
| Dextran                                               |   | $                                     | 115,935   |                                  | $      | 178,007                             |   | $                                   | 149,276   |   | $ | 519,737 |   |
| Chemdex                                               |   | (89,437                               | )         | 146                                   |   | (227,505                            | )      | 100,117                             |      |
|                                                  |   |                                  |      |                                  |   |                                |   |                                |      |
| Total pre-tax income (loss) from segments             |   | 26,498                                |      | 178,153                               |   | (78,229                             | )      | 619,854                             |      |
| Less:   Unallocated corporate expenses           |   | 207,247                               |      | 157,355                               |   | 317,308                             |   | 302,685                             |      |
|                                                  |   |                                  |      |                                  |   |                                |   |                                |      |
| Total consolidated pre-tax income (loss)              |   | $                                     | (180,749  | )                                     | $      | 20,798                              |   | $                                   | (395,537  | ) | $ | 317,169 |   |
|                                                  |   |                                  |      |                                  |   |                                |   |                                |      |
| **Total Revenue by  significant customer:**           |   |                                  |      |                                  |   |                                |   |                                |      |
| Customer A                                            |   | $                                     | 388,930   |                                  | $      | 413,564                             |   | $                                   | 839,387   |   | $ | 709,242 |   |
| Customer B                                            |   | 401,438                               |      | 244,655                               |   | 684,193                             |   | 687,579                             |      |
| Customer C                                            |   | 290,715                               |      | 421,044                               |   | 577,954                             |   | 922,333                             |      |
|                                                  |   |                                  |      |                                  |   |                                |   |                                |      |
| **Sales Revenue by product  group:**                  |   |                                  |      |                                  |   |                                |   |                                |      |
| Bulk Dextran and derivatives                          |   | $                                     | 1,241,185 |                                  | $      | 979,027                             |   | $                                   | 2,457,205 |   | $ | 2,180,005 |   |
| Sterile injectible veterinary products                |   | 1,119,988                             |      | 931,687                               |   | 2,167,063                           |   | 2,203,468                           |      |
| Oral and topical veterinary products                  |   | 697,196                               |      | 736,686                               |   | 1,730,619                           |   | 1,588,537                           |      |
|                                                  |   |                                  |      |                                  |   |                                |   |                                |      |
| Total consolidated sales                              |   | $                                     | 3,058,369 |                                  | $      | 2,647,400                           |   | $                                   | 6,354,887 |   | $ | 5,972,010 |   |

 
|                       |   | **July 31,  2003** | ** ** | **January  31, 2003** | ** ** |
|----------------------------|--------|--------------------|------------|-----------------------|------------|
|                       |   |               |       |                  |       |
| **Assets:**                |   |               |       |                  |       |
| Dextran                    |   | $                  | 5,292,339  |                  | $          | 4,918,829 |   |
| Chemdex                    |   | 3,558,311          |       | 3,569,090             |       |
|                       |   |               |       |                  |       |
| Total assets from segments |   | 8,850,650          |       | 8,487,919             |       |
| Corporate assets           |   | 1,175,412          |       | 1,224,655             |       |
|                       |   |               |       |                  |       |
| Total consolidated assets  |   | $                  | 10,026,062 |                  | $          | 9,712,574 |   |

 

8

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**1.      Basisof Presentation:**

 

The informationcontained in the interim consolidated financial statements is condensed fromthat which would appear in annual consolidated financial statements.  The interim consolidated financialstatements included herein should be read in conjunction with the auditedfinancial statements, and notes thereto, and other financial informationcontained in the 2003 Annual Report on Form 10-K for the fiscal year endedJanuary 31, 2003 as filed by Polydex Pharmaceuticals Limited (the “Company”)with the Securities and Exchange Commission. The unaudited interim consolidated financial statements as of July 31,2003 and July 31, 2002 include all normal recurring adjustments whichmanagement considers necessary for a fair presentation.  The results of operations for the interimperiods are not necessarily indicative of the results that may be expected forthe entire fiscal year.  The interimconsolidated financial statements include the accounts and transactions of theCompany and its majority owned subsidiaries in which the Company has equal toor more than a 50% ownership interest and exercises control.

 

**2.      Significant Accounting Policies:**

 

Basis ofconsolidation

 

The consolidatedfinancial statements include the accounts of the Company and itssubsidiaries.  All inter-companyaccounts and transactions have been eliminated on consolidation.

 

Use ofestimates

 

The preparation offinancial statements in conformity with United States generally acceptedaccounting principles requires management to make estimates and assumptionsthat affect the reported amounts of assets and liabilities and disclosure ofcontingent assets and liabilities at the date of the consolidated financialstatements and the reported amounts of revenue and expenses during thereporting period.  Actual results coulddiffer from these estimates.

 

Inventories

 

Inventories of rawmaterials are stated at the lower of cost and net realizable value, cost beingdetermined on a first-in, first-out basis. Work-in-process and finished goods are valued at the lower of cost andnet realizable value, and include the cost of raw materials, direct labour andoverhead expenses.

 

Property,plant and equipment and patents

 

Property, plantand equipment are recorded at cost. Depreciation is provided on a straight-line basis over the estimateduseful lives of the assets as follows:

 
| Buildings                | 15 years      |
|--------------------------|---------------|
| Machinery and  equipment | 3 to 10 years |

 

9

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Patents areamortized on a straight-line basis over their estimated useful lives of tenyears.

 

Useful life is theperiod over which the asset is expected to contribute to the Company’s cashflows.  The Company reviews therecoverability of its long-lived assets when events or changes in circumstancesoccur that indicate that the carrying value of the asset may not berecoverable.  The assessment of possibleimpairment is based on the Company’s ability to recover the carrying value of theasset from the expected future pre-tax cash flows of the relatedoperations.  If these cash flows areless than the carrying value of such asset, an impairment loss is recognizedfor the difference between estimated fair value and carrying value.

 

Costs related toplant refurbishments and equipment upgrades that represent improvements toexisting facilities are capitalized. Costs related to repair and maintenance of buildings and equipment areexpensed.  The Company has no majorplanned maintenance activity other than the plant refurbishment at one of itssubsidiaries.

 

Revenuerecognition

 

All revenue isfrom sales of bulk and finished dosage manufactured products and is recognizedwhen title and risk of ownership of products pass to the customer.  Title and risk of ownership pass to thecustomer pursuant to the applicable sales contract, either upon shipment ofproduct or upon receipt by the customer.

 

Product sold inbulk quantities is tested, prior to release for shipment, to ensure that itmeets customer specifications, and in many cases, customers receive samples fortheir own testing.  Approval is obtainedfrom the customer prior to shipping. Further purchases by a customer of a bulk product with the samespecifications do not require approvals. Returns of bulk product are rare and generally are not accepted.

 

No testing andapproval is required for finished dosage product because of its nature.  Returns of finished dosage product are rareand generally are not accepted.

 

Shipping andhandling costs

 

Shipping andhandling costs incurred by the Company for shipment of products to customersare classified as cost of goods sold.

 

Research anddevelopment

 

Research anddevelopment costs are expensed as incurred and are stated net of investment taxcredits earned.

 

10

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Foreigncurrency translation

 

The functionalcurrency of the Company’s Canadian operations has been determined to be theCanadian dollar.  All asset andliability accounts of these companies have been translated into United Statesdollars using the current exchange rates at the consolidated balance sheetdates.  Revenue and expense items aretranslated using the average exchange rates for the year.  The resulting gains and losses have been reportedseparately as other comprehensive loss within shareholders’ equity.

 

Stock options

 

The Company haselected to follow Accounting Principles Board Opinion No. 25, “Accountingfor Stock Issued to Employees” [“APB 25”] and related interpretations inaccounting for its employee stock options rather than the alternative fairvalue accounting provided for under Statement of Financial Accounting StandardsNo. 123, “Accounting for Stock-Based Compensation” [“SFAS 123”].  Under APB 25, because the exercise priceof the Company’s employee stock options equals the market price of theunderlying stock on the date of grant, no compensation expense is recognized.

 

Earnings(loss) per common share

 

Basic earnings(loss) per common share are computed using the weighted average number ofshares outstanding of 3,027,796 at July 31, 2003 (2002 - 3,027,777).  Diluted earnings (loss) per common share arecomputed using the weighted average number of shares outstanding adjusted forthe incremental shares, using the treasury stock method, attributed tooutstanding options to purchase common stock. Incremental shares of nil and nil at July 31, 2003 and July 31, 2002,respectively, were used in the calculation of diluted earnings per commonshare.  Options to purchase 431,550 and419,550 common shares at July 31, 2003 and July 31, 2002, respectively, werenot included in the computation of diluted earnings per common share becausetheir effect was anti-dilutive.

 

**3.      The Vet Labs**–**Sparhawk Joint Venture**

** **

In 1992, Vet Labs and SparhawkLaboratories, Inc. (“Sparhawk”) entered into the Vet Labs – Sparhawk JointVenture (the “Joint Venture”) for the manufacture and sale of veterinarypharmaceutical products.  Vet Labs andSparhawk each own 50% of the Joint Venture. The Joint Venture is governed by the Agreement for the Operation ofVeterinary Laboratories, Inc.’s Lenexa Facility and Sparhawk Lab of K.C. as aJoint Venture, dated December 1, 1992, by and among Sparhawk, Chemdex and VetLabs (the “Joint Venture Agreement”).

 

Pursuant to the Joint VentureAgreement, the Joint Venture Policy Committee (the “Policy Committee”) isresponsible for the overall management of the Joint Venture, including thedirection and control of the persons designated with the daily managementresponsibilities of the Joint Venture, and the general supervision of themanagement and conduct of the affairs of the Joint Venture.  The Policy Committee consists of fivemembers, three of which are selected by Vet Labs and two of which are selectedby Sparhawk.  Decisions of the PolicyCommittee require a simple majority vote.

** **

**11**

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** **

**Because the Company controls the operating, financing andinvesting decisions of the Joint Venture through Vet Labs’ control of thePolicy Committee, it consolidates the Joint Venture’s assets, liabilities,revenue and expenses in the Company’s financial statements.**

**The Company has funded the Joint Venture’scumulative losses since 1992 and, accordingly, has recorded 100% of theselosses in the consolidated financial statements. At a future point in time, ifthe cumulative deficit of the Joint Venture is eliminated, a minority interestwill be recorded.**

** **

The Joint Venture Agreement contained a stated termination date ofDecember 1, 2002.  In anticipation ofthe Joint Venture’s termination, on November 4, 2002, Sparhawk filed a petitionin the District Court of Johnson County, Kansas (the “Court”), against VetLabs, Chemdex and the Company seeking, among other things, judicial supervisionduring the winding up of the Joint Venture. Pursuant to the Standstill Agreement dated December 12, 2002 (theStandstill Agreement”), all parties agreed (i) to continue to operate the JointVenture in the fashion it operated before December 1, 2002, and (ii) that allrights and obligations of each party set forth in the Joint Venture Agreementwould continue during the term of the Standstill Agreement.

 

On December 16, 2002, each ofthe parties to the Joint Venture Agreement agreed to the appointment by theCourt of a Receiver, whose duties include (i) the supervision of the wind-up ofthe Joint Venture, including the submission to the Court of a proposed plan forthe disposal or distribution of the property of the Joint Venture and theallocation of the Joint Venture’s assets and liabilities among the parties, and(ii) the oversight of the operations of the Joint Venture during the winding-upperiod in order to keep and preserve the assets thereof.  Legal and receiver costs of $198,690 at July31, 2003 are included in other income (expense) on the consolidated statementsof operations.

 

The Standstill Agreement wasverbally extended by the parties and their counsel and will survive until thecompletion of the Receiver’s role as the court-appointed facilitator of judicialsupervision of the winding up of the Joint Venture.  The Joint Venture has continued to operate on this basis throughthe date of this quarterly report.

 

Sparhawk had an option topurchase 40% of the assets held by Vet Labs. The purchase price would be equal to 40% of the fair market value of theland, building and equipment owned by Vet Labs plus $1,000,000.  The land and building have been appraised ata valuation of $2,450,000 as of November 15, 2002.  The equipment has been appraised at a valuation of $230,900 as ofJanuary 22, 2003.  Sparhawk notified theCompany of its intention to exercise this Option in October 2002, but has notyet delivered the purchase price.  Theexistence and alleged exercise of the Option is one of the litigation matterssubject to the Standstill Agreement. The Company cannot at this time estimate the likelihood of Sparhawkconsummating the exercise of the Option and delivering the purchase price.

 

Subject to the exercise of theOption, upon winding up of the Joint Venture, all assets used in the JointVenture operations that were owned by the respective members of the JointVenture prior to the formation of the Joint Venture are expected to be returnedto the respective owner.  There are noassets of Sparhawk included in the consolidated financial statements of theCompany.  Sparhawk does own rights tocertain generic products currently produced by the Joint Venture, all of whichbelong to the liquids product line, which will be returned to Sparhawk uponwind-up.  Sales of these productsamounted to approximately $1,065,000 in fiscal 2003, and $463,000 in the sixmonth

 

12

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peroid ended July 31,2003.  Rights to several of the productscurrently produced by the Joint Venture, including iron dextran, are owned bythe Company and are expected to be returned to the Company, although ownershipof certain of these product rights may be disputed by Sparhawk.  Sales of these products amounted to toapproximately $5,112,000 in fiscal 2003 and $2,148,000 for the six month periodended July 31, 2003.  The Company plansto continue production of the products to which Vet Labs owns the rights afterthe winding up of the Joint Venture. However, no assurance can be given that sales of these products by theCompany after the dissolution of the Joint Venture will be consistent withthose achieved by the Joint Venture.

 

Assets purchased by the JointVenture and rights to products developed by the Joint Venture are expected tobe distributed to the members of the Joint Venture as part of the winding-upprocess.  Assets and liabilities ownedby the Joint Venture are currently included in the Company’s financialstatements with a book value of $2,218,820 and $1,255,250, respectively.  Depending upon the allocation of the JointVenture assets upon dissolution, the Company may not receive ownership of therights to products developed by the Joint Venture.  Sales of these products amounted to approximately $2,034,000 infiscal 2003 and $1,287,000 during the six month period ended July 31, 2003.

 

It is possible that anegotiated settlement with Sparhawk will be reached that would prevent theallocation of Joint Venture assets by the Court.  Such a settlement would likely result in one of the parties purchasingthe other party’s interest in the Joint Venture at an agreed upon price.  Because the Joint Venture operations arecurrently fully consolidated in the Company’s financial statements, theCompany’s results of operations would not be significantly impacted if theCompany were to purchase Sparhawk’s interest in the Joint Venture, other thanwith respect to the cost of the consideration given to Sparhawk in thetransaction.

 

If such a settlement resultedin Vet Labs selling its interest in the Joint Venture to Sparhawk, theCompany’s financial statements would show a significant decline in revenues andpossibly a small decline in income before income taxes, which would be at leastpartially offset by the consideration received by Vet Labs in exchange for thesale of its Joint Venture interest.  Thesale proceeds would be allocated to the Joint Venture assets and liabilitiesand any excess would be recorded as a gain. At July 31, 2003, the carrying value of the Joint Venture assets andliabilities is $2,218,820 and $1,255,250, respectively.  During the year ended January 31, 2003,sales of the Joint Venture operations totaled $8,209,947 and net income beforeincome taxes was $31,520.  During thesix month period ended July 31, 2003, sales of the Joint Venture amounted to$3,897,682, and net income before taxes totaled $20,382.

 

The Company does not expectthat a sale of Vet Labs’ Joint Venture interest would have an adverse effect onthe operations of Dextran Products, because sales by Dextran Products toChemdex and the Joint Venture are not significant.

 

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**4.      Comparative Interim Consolidated FinancialStatements**

 

The comparative interimconsolidated financial statements have been reclassified from statementspreviously presented to conform to the presentation of the 2004 interimconsolidated financial statements.

 

**Item2.    Management’s Discussion and Analysisof Financial Condition and Results of Operations.**

 

The fiscal year of Polydex Pharmaceuticals Limited(the “Company”) ends on January 31 of each year.  Therefore fiscal year 2004 refers to the Company’s fiscal yearended January 31, 2004.  The followingdiscussion should be read in conjunction with the July 31, 2003 consolidatedfinancial statements and notes thereto included elsewhere in this report.  Operating results for the second quarterended July 31, 2003 are not necessarily indicative of the results that may beexpected for the fiscal year ended January 31, 2004.  For further information, refer to the consolidated financialstatements and footnotes thereto included in the Company’s annual report onForm 10-K for the fiscal year ended January 31, 2003.  All amounts are in United States dollars unless otherwisedenoted.

 

**Resultsof Operations**

 

The operations of the Companyare carried on through Dextran Products Limited (“Dextran Products”) in Canadaand through Chemdex, Inc. (“Chemdex”) in the United States.  The operations of Chemdex are carried onthrough its wholly-owned subsidiary, Veterinary Laboratories, Inc. (“VetLabs”).  Each of Dextran Products andChemdex operates as a strategic business unit. Dextran Products manufactures and sells bulk quantities of Dextran andseveral of its derivatives to large pharmaceutical companies throughout theworld.  Chemdex manufactures and sellsveterinary pharmaceutical products and specialty chemicals in the UnitedStates.  The primary customers aredistributors and private labelers, who in turn sell to the end-user of theseproducts.

 

Net loss for the second quarterended July 31, 2003 was $236,805, or $0.08 per share, as compared to a net loss$35,840, or $0.01 per share, for the quarter ended July 31, 2002.  This decline in results is primarily due tolosses at Chemdex and increased corporate administrative costs, includinginsurance. The majority of the losses at Chemdex are due to legal and receiverfees relating to the Vet Labs – Sparhawk Joint Venture (as described below in“The Vet Labs – Sparhawk Joint Venture”). In addition, the Company experienced a foreign exchange loss at DextranProducts.  This foreign exchange loss atDextran Products is due to an increase in the value of the Canadian dollarrelative to the value of the U.S. dollar. Dextran Products has a significant net asset exposure to the U.S. dollarbecause the majority of its accounts receivable balance is in U.S. dollars,while the majority of its expenses are in Canadian dollars.

 

During the second quarter endedJuly 31, 2003, the Company had a loss from operations of $180,749, as comparedto income from operations of $20,798 for the second quarter of fiscal2003.  This decline in results fromoperations is primarily due to increased corporate administrative costs and adecline in margins at both operating subsidiaries as compared to the samequarter last year, and the foreign exchange loss at Dextran Products.

 

14

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**Sales volume for the second quarter of fiscal 2004increased from $2,647,400 to $3,058,369, representing an increase of $410,969or 16%, as compared to the second quarter of fiscal 2003.  Sales at Dextran Products to third partiesincreased by $262,158 or 26% as compared to the same quarter in fiscal2003.  This increase in sales at DextranProducts is primarily due to increased product demand.  Sales at Chemdex during the second quarterof fiscal 2004 increased by $148,811 or 9% as compared to the same quarter infiscal 2003.  This increase at Chemdexis primarily due to the introduction of a new contract fill product and a new injectableproduct.**

 

The summer months are typically slower sales months for Chemdex aslarge animals are put outdoors to pasture and therefore have less need forvitamins and other supplements.  Asexpected, Chemdex’ second quarter sales were less than first quarter sales infiscal 2004, however, management is forecasting higher sales levels for thethird quarter of fiscal 2004. Management is expecting Dextran Products’ sales levels in the thirdquarter to be consistent with sales levels achieved in the second quarter offiscal 2004.

 

Overall, the Company’s gross margin decreased from 26% in the secondquarter of fiscal 2003 to 22% in the second quarter of fiscal 2004.  Dextran Products’ gross margin decreasedfrom 38% in the second quarter of fiscal 2003 to 32% during the second quarterof fiscal 2004.  Chemdex’ gross margindecreased from 17% in the second quarter of fiscal 2003 to 14% in the secondquarter of fiscal 2004.

 

The margin decrease at Dextran Products is primarily a result of alarge increase in the value of the Canadian dollar in relation to the U.S.dollar.  The majority of the sales atDextran Products are denominated in U.S. dollars, but all costs are incurred inCanadian dollars. Management expects sales and margins to continue at similar levelsat Dextran Products for the foreseeable future.

 

The margin decrease at Chemdex is a result of a product mix variance,as Chemdex experienced decreased sales in its highest margin product, andincreased sales in its lower margin product lines, as compared to the secondquarter of fiscal 2003.

 

General and administrative expenses in the second quarter of fiscal2004 were $538,879, representing an increase of $127,323, or 31%, from thesecond quarter of fiscal 2003.  Thisincrease is due primarily to increased insurance and other corporateadministrative costs and the hiring of a new general manager at Chemdex in thefourth quarter of fiscal 2003 to oversee the joint venture operations and itsmanagement on behalf of the Company. Selling and promotional expenses in the second quarter of fiscal 2004were generally consistent with the same period in fiscal 2003.

 

Interest expense in the second quarter of fiscal 2004 was $34,204,representing a decrease of $4,508, or 12%, as compared to the second quarter infiscal 2003, due to the repayment of long-term debt and capital leaseobligations.  Depreciation andamortization in the second quarter of fiscal 2004 was $154,246, representing anincrease of $10,270, or 7%, from the second quarter of fiscal 2003 primarilydue to the installation of new equipment at Dextran Products.

 

15

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Other expenses in the second quarter of fiscal 2004 consist of $57,686of legal and receiver fees relating to the winding up of the Vet Labs -Sparhawk Joint Venture.  The Company didnot incur similar expenses during the same period in fiscal 2003.

 

Due to continued direct funding of research and development expenses bythird party public and/or private sector groups, the Company’s research anddevelopment costs in the second quarter of fiscal 2004 decreased by $44,883, or78%, to $12,333 as compared to the second quarter of fiscal 2003.  Funding from existing third-party sourcesfor existing research and development projects is expected to continue athistoric levels for the foreseeable future. The Company’s research and development expenditures are expected toincrease over the remainder of the year due to additional developmentactivities the Company expects to perform and fund outside of its partnershiprelationships.

 

Research and development with respect to the Company’s cellulosesulphate product as a contraceptive gel with antiviral capabilities is beingconducted with the assistance and financial support of the Contraceptive Researchand Development Program, Consortium for Industrial Collaboration inContraceptive Research and Global Microbicide Program (collectively,“CONRAD”).  CONRAD provides directfinancial assistance in support of, and/or actually conducts specific researchstudies involving the cellulose sulphate product in conjunction with, variouspublic health-oriented entities.  Inexchange for this research assistance, the Company makes its intellectualproperty, namely patent rights and know-how, available for use in thepreparation, clinical evaluation and development of the product.  The Company has no commitments to repay thefunding or to purchase the results of the research.

 

**At the present time four Safety Studies are underway andfurther studies are in the planning stages:**

** **

**•**              A PhaseI Expanded Safety Study is underway in collaboration with the World HealthOrganization in Uganda, Nigeria and India. This study will involve 180 women in two treatment groups and twocohorts.  The final report on this studyis expected during the fourth quarter of fiscal 2004;

** **

**•**              A SafetyStudy in HIV-Infected women is being carried out in collaboration with the HIVPrevention Trials Network of the National Institute of Allergy and InfectiousDiseases at four sites in the United States. The study will involve 96 women and 48 male partners.  Although recruitment has taken longer thanexpected, the study is expected to be completed during the fourth quarter offiscal 2004;

** **

**•**              AnExpanded Safety Study at three sites in the United States involves 60 healthywomen and is expected to be completed by the fourth quarter of fiscal 2004; and

** **

**•**              A SafetyStudy in Cameroon is being carried out in collaboration with Family HealthInternational.  The final report isexpected by the third quarter of fiscal 2004.

** **

Research and development relating to the Company’s cystic fibrosisproduct, Usherdex (now identified by BCY as DCF 987), is being conducted andfunded directly by BCY Lifesciences Inc.

 

16

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(“BCY”) pursuant to a license agreement.  BCY has identified DCF 987 as its lead drug candidate, completedPhase I human clinical trials and commenced Phase II human clinicaltrials.  This Phase II trial is designedto study the utility of DCF 987 when treating cystic fibrosis and is beingconducted at six centers in Canada.  TheCompany will receive royalty payments from BCY based upon sales and otherrevenues upon approval of any developed product pursuant to its licenseagreement with BCY.

 

**Liquidityand Capital Resources**

 

In the second quarter of fiscal 2004, the Company had cash flow fromoperations of $267,209, compared to $90,463 in the second quarter of fiscal2003.  This increase of $176,746, or195%, is primarily attributable to collections of trade accounts receivableduring the quarter.

 

At July 31, 2003, the Company had trade accountsreceivable of $765,675 compared to $1,351,515 at January 31, 2003 and$1,232,922 at April 30, 2003.  Thedecrease in trade accounts receivable during the second quarter of fiscal 2004was primarily due to increased collections at Chemdex during the quarter andreduced sales towards the end of the quarter.

 

At July 31, 2003, the Company had inventory valued at$2,738,753, compared to $2,265,963 at January 31, 2003 and $2,490,471 at April30, 2003.  The increase in inventory isin anticipation of third quarter sales.

 

The Company had accounts payable of $1,215,734 at July31, 2003 as compared to $1,322,369 at April 30, 2003 and $1,205,383 at January31, 2003.

 

The Company had customer deposits received of $110,687at July 31, 2003 as compared to $5,539 at April 30, 2003 and $137,343 atJanuary 31, 2003.  The change in thecustomer deposits received balance is due to timing of collections fromcustomers.

 

The Company experienced no significant changes infinancing or investing activities and made no significant capital expendituresduring the second quarter of 2004.

 

The Company experienced a currency translationadjustment gain of $43,763 during the second quarter of fiscal 2004 as comparedto a loss of $40,814 during the second quarter of fiscal 2003.  Dextran Products’ functional currency is theCanadian dollar.  This currencytranslation adjustment is entirely attributable to the translation of DextranProducts financial statements to U.S. dollars.

 

Dextran Products has a CDN$750,000 (US$533,000) lineof credit, of which $255,809 was utilized at July 31, 2003.  Management anticipates using the credit linefor the purposes of funding a portion of the costs associated with therefurbishment of the Toronto facility. The Vet Labs – Sparhawk Joint Venture has a $175,000 line of credit tofund operations, none of which was utilized at July 31, 2003.  There have been no new capital leaseobligations during the second quarter of fiscal 2004.  All long-term debt is due in the next two years, while capitallease obligations are due over the next four years.

 

17

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Management expects the primary source of its futurecapital needs to be a combination of Company earnings and borrowings.  The Company, at present, does not have anymaterial commitments for capital expenditures, although management intends tocontinue the plant refurbishment at Dextran Products.

 

The Company believes that based upon current levels ofrevenues and spending, and taking into account the Joint Venture litigation,its existing working capital resources will be sufficient to support continuingoperations for at least the next twelve months.

 

No changes in accounting principles or theirapplication have been implemented in the reporting period that would have amaterial effect on reported income. Changes in the relative values of the Canadian dollar and the U.S.dollar occur from time to time and may, in certain instances, materially affectthe Company’s results of operations.

 

The Company does not believe that the impact ofinflation and changing prices has had a material affect on its operations orfinancial results at any time in the last three years.

 

**TheVet Labs – Sparhawk Joint Venture**

** **

**In 1992, Vet Labs and Sparhawk Laboratories, Inc.(“Sparhawk”) entered into the Vet Labs – Sparhawk Joint Venture (the “JointVenture”) for the manufacture and sale of veterinary pharmaceuticalproducts.  Vet Labs and Sparhawk each own50% of the Joint Venture.  The JointVenture is governed by the Agreement for the Operation of VeterinaryLaboratories, Inc.’s Lenexa Facility and Sparhawk Lab of K.C. as a JointVenture, dated December 1, 1992, by and among Sparhawk, Chemdex and Vet Labs(the “Joint Venture Agreement”).**

** **

**Pursuant to the Joint Venture Agreement, the Joint VenturePolicy Committee (the “Policy Committee”) is responsible for the management ofthe Joint Venture, including the direction and control of the personsdesignated with the daily management responsibilities of the Joint Venture, andthe general supervision of the management and conduct of the affairs of theJoint Venture.  The Policy Committeeconsists of five members, three of which are selected by Vet Labs and two ofwhich are selected by Sparhawk. Decisions of the Policy Committee require a simple majority vote.**

** **

**Because the Company controls the operating, financing andinvesting decisions of the Joint Venture through Vet Labs’ control of thePolicy Committee, it consolidates the Joint Venture’s assets, liabilities,revenue and expenses in the Company’s financial statements.**

**The Company has funded the Joint Venture’scumulative losses since 1992 and, accordingly, has recorded 100% of theselosses in the consolidated financial statements. At a future point in time, ifthe cumulative deficit of the Joint Venture is eliminated, a minority interestwill be recorded.**

** **

The Joint Venture Agreement contained a stated termination date ofDecember 1, 2002.  In anticipation ofthe Joint Venture’s termination, on November 4, 2002, Sparhawk filed a petitionin the District Court of Johnson County, Kansas (the “Court”), against VetLabs, Chemdex and the Company seeking, among other things, judicial supervisionduring the winding up of the Joint Venture. Pursuant to the Standstill Agreement dated December 12, 2002 (theStandstill Agreement”), all parties agreed (i) to continue to operate the JointVenture in the fashion it operated

 

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before December 1, 2002, and(ii) that all rights and obligations of each party set forth in the JointVenture Agreement would continue during the term of the Standstill Agreement.

 

On December 16, 2002, each of the parties to the Joint Venture Agreementagreed to the appointment by the Court of a Receiver, whose duties include (i)the supervision of the wind-up of the Joint Venture, including the submissionto the Court of a proposed plan for the disposal or distribution of theproperty of the Joint Venture and the allocation of the Joint Venture’s assetsand liabilities among the parties, and (ii) the oversight of the operations ofthe Joint Venture during the winding-up period in order to keep and preservethe assets thereof.  The Company hasincurred legal and receiver costs of $198,690 for the six-month period endedJuly 31, 2003.

 

The Standstill Agreement was verbally extended by the parties and theircounsel and will survive until the completion of the Receiver’s role as thecourt-appointed facilitator of judicial supervision of the winding up of theJoint Venture.  The Joint Venture hascontinued to operate on this basis through the date of this quarterly report.

** **

**Sparhawk had an option to purchase 40% of the assets heldby Vet Labs.  The purchase price wouldbe equal to 40% of the fair market value of the land, building and equipmentowned by Vet Labs plus $1,000,000.  Theland and building have been appraised at a valuation of $2,450,000 as ofNovember 15, 2002.  The equipment hasbeen appraised at a valuation of $230,900 as of January 22, 2003.  Sparhawk notified the Company of itsintention to exercise this Option in October 2002, but has not yet deliveredthe purchase price.  The existence andalleged exercise of the Option is one of the litigation matters subject to theStandstill Agreement.  The Companycannot at this time estimate the likelihood of Sparhawk consummating theexercise of the Option and delivering the purchase price.**

** **

Subject to the exercise of theOption, upon winding up of the Joint Venture, all assets used in the JointVenture operations that were owned by the respective members of the JointVenture prior to the formation of the Joint Venture are expected to be returnedto the respective owner.  There are noassets of Sparhawk included in the consolidated financial statements of theCompany.  Sparhawk does own rights tocertain generic products currently produced by the Joint Venture, all of whichbelong to the liquids product line, which will be returned to Sparhawk uponwind-up.  During the six months endedJuly 31, 2003, sales of these products amounted to approximately $463,000.  Rights to several of the products currentlyproduced by the Joint Venture, including iron dextran, are owned by the Companyand are expected to be returned to the Company, although ownership of certainof these product rights may be disputed by Sparhawk.  During the six months ended July 31, 2003, sales of theseproducts amounted to approximately $2,148,000. The Company plans to continue production of the products to which VetLabs owns the rights after the winding up of the Joint Venture.  However, no assurance can be given thatsales of these products by the Company after the dissolution of the JointVenture will be consistent with those achieved by the Joint Venture.

 

Assets purchased by the JointVenture and rights to products developed by the Joint Venture are expected tobe distributed to the members of the Joint Venture as part of the winding upprocess.  Assets and liabilities ownedby the Joint Venture are currently included in the Company’s financial

 

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statements with a book value of$2,218,820 and $1,255,250, respectively. Depending upon the allocation of the Joint Venture assets upon dissolution,the Company may not receive ownership of the rights to products developed bythe Joint Venture.  During the sixmonths ended July 31, 2003, sales of these products amount to approximately$1,287,000.

 

It is possible that anegotiated settlement with Sparhawk will be reached that would prevent theallocation of Joint Venture assets by the Court.  Such a settlement would likely result in one of the partiespurchasing the other party’s interest in the Joint Venture at an agreed uponprice.  Because the Joint Ventureoperations are currently fully consolidated in the Company’s financialstatements, the Company’s results of operations would not be significantlyimpacted if the Company were to purchase Sparhawk’s interest in the JointVenture, other than with respect to the cost of the consideration given toSparhawk in the transaction.

 

If such a settlement resultedin Vet Labs selling its interest in the Joint Venture to Sparhawk, theCompany’s financial statements would show a significant decline in revenues andpossibly a small decline in income before income taxes, which would be at leastpartially offset by the consideration received by Vet Labs in exchange for thesale of its Joint Venture interest. During the first six months of fiscal 2004, sales of the Joint Ventureamounted to $3,897,682, and income before income taxes totaled $20,382.

 

The Company does not expectthat a sale of Vet Labs’ Joint Venture interest would have an adverse effect onthe operations of Dextran Products, because sales by Dextran Products toChemdex and the Joint Venture are not significant.

 

**Related Party Transactions**

 

In August 1997, the Company loaned Thomas C. Usher,its Vice-Chairman, Director of Research and Development, and a member of itsBoard of Directors, $691,500 at an interest rate equal to the prime rate ofToronto Dominion Bank plus 1.50% (the “Loan”). The Loan was used to partially fund a $1,000,000 payment to the State ofFlorida in order to allow Thomas C. Usher to regain possession of 430,000Common Shares of the Company then held by the State as collateral securityrelating to the liquidation of insurance companies formerly owned by Thomas C.Usher.  Repayment of the Loan isaccomplished by monthly payments and through offsets by the Company againstroyalty payments due Thomas C. Usher pursuant to intellectual property licenseagreements and bonus payments, if any, granted Thomas C. Usher as an employeeof the Company.  The amount outstandingunder the Loan as of July 31, 2003 was $498,209, as compared to $517,190 atJanuary 31, 2003, including accrued interest. The Company has taken a cumulative provision of $228,468 against accruedinterest on this loan as of July 31, 2003 (January 31, 2003 - $212,491).

 

In August 1999, Thomas C. Usher personally assumed allof the assets and liabilities of Novadex Corp., including the balance ofreceivables (the “Receivables”) due to the Company from Novadex Corp.  The Receivables have no specific repaymentterms.  The total outstanding amount ofthe Receivables as of July 31, 2003 was $426,454, representing no change fromJanuary 31, 2003.  Thomas C. Usher alsoowes $250,000 to a subsidiary of the Company, Novadex International

 

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Limited, as of July 31, 2003.  The outstanding amount of this loan has notchanged from January 31, 2003.

 

The Company also has an outstanding loan payable toRuth Usher, a member of the Board of Directors.  The amount due from the Company pursuant to this loan increasedto $683,611 at July 31, 2003 from $682,225 at January 31, 2003 due to interestcharges less monthly payments by the Company.

 

**Risk Factors**

 

Inaddition to the risks and uncertainties discussed in the Joint Venture sectionabove, the risks, uncertainties and other factors described below couldmaterially and adversely affect the Company’s business, financial condition,operating results and prospects.

 

*The Company’s productdevelopment efforts may be reduced or discontinued due to difficulties ordelays in clinical trials.*

 

To achieve sustainedprofitability, the Company must, alone or with corporate partners andcollaborators, successfully research, develop and commercialize identifiedtechnologies or product candidates. Current developmental product candidates are in various stages ofclinical and pre-clinical development and will require significant furtherfunding, research, development, preclinical and/or clinical testing, regulatoryapproval and commercialization testing, and are subject to the risks of failureinherent in the development of products based on innovative or noveltechnologies.  These products are alsorigorously regulated by the U.S. federal government, particularly the FDA, andby comparable agencies in state and local jurisdictions and in foreigncountries.  Specifically, each of thefollowing results is possible with respect to any one of the Company’sdevelopmental product candidates:

 

•                       that theCompany will not be able to maintain its current research and developmentschedules;

 

•                       that theCompany will not be able to enter into human clinical trials because ofscientific, governmental or financial reasons, or that it will encounterproblems in clinical trials that will cause a delay or suspension of thedevelopment of the product candidate;

 

•                       that thedevelopmental product will be found to be ineffective or unsafe;

 

•                       thatgovernment regulations will delay or prevent the product’s marketing for aconsiderable period of time and impose costly procedures upon the Company’sactivities;

 

•                       that theFDA or other regulatory agencies will not approve the product or the process bywhich the product is manufactured, or will not do so on a timely basis; and/or

 

•                       that theFDA’s policies may change and additional government regulations and policiesmay

 

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be instituted, which could prevent or delayregulatory approval of the product.

 

Ifany of the risks set forth above occurs, the Company may not be able tosuccessfully develop its identified developmental product candidates.

 

*The Company’sdevelopmental product commercialization efforts may not be successful.*

 

Itis possible that, for reasons including, but not limited to those set forthbelow, the Company may be unable to commercialize or receive royalties from thesale of any given developmental product, even if it is shown to be effective,if:

 

•                       the productis uneconomical or if the market for the product does not develop ordiminishes;

 

•                       the Companyis not able to enter into arrangements or collaborations to commercializeand/or market the product;

 

•                       the productis not eligible for third-party reimbursement from government or privateinsurers;

 

•                       others holdproprietary rights that preclude the Company from commercializing the product;

 

•                       others havebrought to market similar or superior products;

 

•                       others havesuperior resources to market similar products or technologies;

 

•                       governmentregulation imposes limitations on the indicated uses of the product, or laterdiscovery of previously unknown problems with the product results in addedrestrictions on the product or results in the product being withdrawn from themarket; and/or

 

•        the product has undesirable orunintended side effects that prevent or limit its commercial use.

 

*The Company depends onpartnerships with third parties for the development and commercialization ofits products.*

 

TheCompany’s strategy for development and commercialization of its products is torely on licensing agreements with third party partners.  As a result, the ability of the Company tocommercialize future products is dependent upon the success of third parties inperforming clinical trials, obtaining regulatory approvals, manufacturing andsuccessfully marketing its products. There can be no assurance that such third party collaborations will besuccessful.  If any of the Company’scurrent research and development partnerships are discontinued, it may not beable to find others to develop and commercialize its current productcandidates.

 

*The Company does notcurrently have agreements with third parties to market many of itsdevelopmental products.*

 

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Thecommercialization of any of the Company’s developmental products that receiveFDA approval will depend upon the Company’s ability to enter into agreementswith companies that have sales and marketing capabilities.  The Company currently intends to sell itsproducts in the United States and internationally in collaboration with one ormore marketing partners.  The Companymay not be able to enter into any such collaboration to market itsdevelopmental products in a timely manner or on commercially reasonable terms,if at all.

 

*The Company may beunable to commercialize its products if it is unable to protect its proprietaryrights, and may be liable for significant costs and damages if it faces a claimof intellectual property infringement by a third party.*

 

The Company’s success depends in part on its ability to obtain andmaintain patents, protect trade secrets and operate without infringing upon theproprietary rights of others.  In theabsence of patent and trade secret protection, competitors may adversely affectthe Company’s business by independently developing and marketing substantiallyequivalent or superior products, possibly at lower prices.  The Company could also incur substantialcosts in litigation and suffer diversion of attention of technical andmanagement personnel if it is required to defend intellectual propertyinfringement suits brought by third parties, with or without merit, or ifrequired to initiate litigation against others to protect or assertintellectual property rights.  Moreover,any such litigation may not be resolved in favor of the Company.

 

The Company has received various patents covering the uses of itsproduct candidates.  However, the patentposition of companies in the pharmaceutical industry generally involves complexlegal and factual questions, and recently has been the subject of muchlitigation.  Any patents the Company hasobtained, or may obtain in the future, may be challenged, invalidated orcircumvented.  To date, no consistentpolicy has been developed by the United States Patent and Trademark Officeregarding the breadth of claims allowed in biotechnology patents.

 

In addition, because patent applications in the United States aremaintained in secrecy until patents issue, and because publication ofdiscoveries in scientific or patent literature often lags behind actualdiscoveries, the Company cannot be certain that it and its licensors are thefirst creators of inventions covered by any licensed patent applications orpatents or that the Company or such licensors are the first to file.  The United States Patent and TrademarkOffice may commence interference proceedings involving patents or patentapplications, in which the question of first inventorship is contested.  Accordingly, the patents owned by orlicensed to the Company may not be valid or may not afford the Companyprotection against competitors with similar intellectual property.

 

It is also possible that the Company’s patents may infringe on patentsor other rights owned by others, licenses to which may not be available to theCompany.  The Company may have to alterits products or processes, pay licensing fees or cease certain activitiesaltogether because of patent rights of third parties.

 

In addition to the products for which the Company has patents or havefiled patent applications, the

 

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Company relies upon unpatented proprietary technology and may not beable to meaningfully protect its rights with regard to that unpatentedproprietary technology.

 

**CriticalAccounting Policies**

 

The critical accounting policies of the Company include the use ofestimates and allowances and their impact on accounts receivable, the usefullives of assets and the realizability of deferred tax assets.

 

Management is required to make estimates and assumptions, in preparingthe consolidated financial statements, that affect the reported amounts of assetsand liabilities, the disclosure of contingent assets and liabilities at thedate of the consolidated financial statements and the reported amounts ofrevenue and expenses during the periods. The actual results could differ from these estimates.  Significant estimates made by managementinclude the calculation of reserves for uncollectible accounts, inventoryallowances, useful lives of long-lived assets and the realizability of deferredtax assets.

 

RevenueRecognition

 

All revenue is from sales of bulk and finished dosage manufacturedproducts and is recognized when title and risk of ownership of products pass tothe customer.  Title and risk ofownership pass to the customer pursuant to the applicable sales contract,either upon shipment of product or upon receipt by the customer.  Since returns are rare and generally notaccepted, management has not made provision for returns.  In addition, product sold in bulk quantitiesis tested, prior to release for shipment, to ensure that it meets customer specifications,and in many cases, customers receive samples for their own testing.  Approval is obtained from the customer priorto shipping.  A significant change inthese estimates could have a material impact on the results of operations.

 

Allowance forDoubtful Accounts

 

Accounts receivable is stated net of allowances for doubtfulaccounts.  Allowances for doubtfulaccounts are determined by each reporting unit on a specific item basis.  Management reviews the credit worthiness ofindividual customers and past payment history to determine the allowance fordoubtful accounts.  Since the majorityof sales at Dextran Products are export, Dextran Products maintains creditinsurance through a crown corporation for the majority of its customersreceivables.

 

Long-LivedAssets

 

Long-lived assets are stated at cost, less accumulated depreciation oramortization computed using the straight-line method based on their estimateduseful lives ranging from three to fifteen years.  Useful life is the period over which the asset is expected tocontribute to the Company’s cash flows. A significant change in these estimates could have a material impact onthe results of operations.  The Companyreviews the recoverability of its long-lived assets, including buildings,equipment and other intangible assets, when events or changes in circumstancesoccur that indicate that the carrying

 

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value of the asset may not be recoverable.  **The assessment of possible impairment isbased on the Company’s ability to recover********thecarrying value of the asset from the expected future pre-tax cash flows(undiscounted and********without interest charges) of the relatedoperations.  If these cash flows areless than the********carrying value of such asset, an impairmentloss is recognized for the difference between********estimatedfair value and carrying value.  Themeasurement of impairment requires management to********makeestimates of these cash flows related to long-lived assets as well as otherfair value********determinations.**

 

**Deferred Tax Assets**

 

The Company has recorded a valuation allowance on deferred tax assetsprimarily related to operating loss carryforwards of the U.S. operations basedon the uncertainty involved with the Joint Venture.

 

**RecentAccounting Pronouncements**

 

In May 2003,the Financial Accounting Standards Board (“FASB”) issued SFAS No. 150,“Accounting for Certain Financial Instruments with Characteristics of bothLiabilities and Equity”.  SFAS No. 150establishes standards for the measurement and classification of certainfinancial instruments with characteristics of both liabilities and equity.  SFAS No. 150 is effective for financialinstruments entered into or modified after May 31, 2003.  Effective June 1, 2003, the Company accountsfor financial instruments in accordance with SFAS No. 150.  The adoption of this standard had no impacton the consolidated financial statements.

 

In April 2003,the FASB issued SFAS No. 149, “Amendment of Statement 133 on DerivativeInstruments and Hedging Activities.” SFAS 149 is intended to result in more consistent reporting of contractsas either freestanding derivative instruments subject to Statement 133 in theirentirety, or as hybrid instruments with debt host contracts and embeddedderivative features.  The Statement iseffective for contracts entered into or modified after June 30, 2003, andhedging relationships designated after June 30, 2003.  Effective July 1, 2003, the Company accounts for any derivativeinstruments and hedging activities in accordance with SFAS 149.  The adoption of this amendment had no impacton the consolidated financial statements.

 

InJanuary 2003, the FASB issued FASB Interpretation (“FIN”) No. 46,“Consolidation of Variable Interest Entities an interpretation of ARB No. 51”(the “Interpretation”). The Interpretation introduces a new consolidation model- the variable interests model - which determines control (and consolidation)based on potential variability in gains and losses of the entity beingevaluated for consolidation. The Interpretation requires disclosure of certaininformation in financial statements initially issued after January 31, 2003, ifit is reasonably possible that an enterprise will consolidate or discloseinformation about a variable interest entity when Interpretation 46 becomeseffective. The Company will account for any variable interest entities inaccordance with FIN 46. The adoption of this Interpretation had no impact onthe Company’s consolidated financial statements.

 

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InApril 2002, the FASB issued SFAS No. 145, “Rescission of FASB Statements No. 4,44, and 64, Amendment of FASB Statement No. 13, and TechnicalCorrections.”  SFAS No. 145 requires anygain or loss on extinguishments of debt to be classified as income or loss fromcontinuing operations, rather than as an extraordinary item.  Effective February 1, 2003, the Company willaccount for any extinguishments of debt in accordance with SFAS 145.  The adoption of this standard had no impacton the Company’s consolidated statements of operations.

 

InJuly 2002, the FASB issued SFAS No. 146, “Accounting for Costs Associated withExit or Disposal Activities.”  SFAS No.146 requires that a liability for a cost associated with an exit or disposalactivity be recognized when the liability is incurred. SFAS No. 146 alsoestablishes that the liability should be measured initially at fair value. SFASNo. 146 is effective for exit or disposal activities initiated after December31, 2002.  Effective January 1, 2003, theCompany will****account for any exit costs or disposal activities inaccordance with SFAS No. 146.  Theadoption of SFAS No. 146 had no impact on the Company’s consolidated statementsof operations.

 

InNovember 2002, the FASB issued FIN No. 45, “Guarantor’s Accounting andDisclosure Requirements for Guarantees, Including Indirect Guarantees ofIndebtedness of Others.”  FIN No. 45clarifies and expands on existing disclosure requirements for a guarantorregarding its obligations under certain guarantees it has issued. FIN No. 45also requires that the guarantor must recognize a liability for the fair valueof its obligations under certain guarantees. The disclosure requirements are effective for fiscal years ending afterDecember 15, 2002.  The initialrecognition and measurement provisions apply on a prospective basis toguarantees issued after December 31, 2002. The Company has adopted the disclosure requirements of FIN No. 45effective January 31, 2003, and has adopted the recognition and measurement provisionsfor guarantees issued after December 31, 2002. The adoption of FIN 45 had no impact on the Company’s consolidatedstatements of operations.

 

InDecember 2002, the FASB issued SFAS No. 148, “Accounting for Stock-BasedCompensation - Transition and Disclosure.” SFAS No. 148 amends SFAS No. 123, “Accounting for Stock-BasedCompensation,” to provide alternative methods of transition to SFAS No. 123’sfair value method of accounting for stock-based employee compensation.  SFAS No. 148 also amends the disclosureprovisions of SFAS No. 123 and Accounting Principles Board Opinion (“APB”)No. 28, “Interim Financial Reporting,” to require disclosure in thesummary of significant accounting policies of the effects of an entity’saccounting policy with respect to stock-based employee compensation on reportednet income and earnings per share in annual and interim financialstatements.  SFAS No. 148 is effectivefor fiscal years ending after December 15, 2002.  The Company has elected to continue to use the intrinsic valuebased method under the provisions of APB No. 25, “Accounting for Stock Issuedto Employees,” and has adopted the required disclosures of SFAS No. 148effective January 31, 2003.

 

In August 2001, the FASB issued SFAS No. 144, “Accounting for theImpairment or Disposal of Long-Lived Assets,” effective for fiscal yearsbeginning after December 15, 2001.  SFASNo. 144 addresses financial accounting and reporting for the impairment ordisposal of long-lived assets and

 

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supersedes SFAS No. 121, “Accounting for the Impairment of Long-LivedAssets and for Long-Lived Assets to be Disposed Of,” and the accounting andreporting provisions of Accounting Principles Board Opinion No. 30, “Reportingthe Results of Operations for a disposal of a segment of a business.”  The Company adopted SFAS No. 144 as ofFebruary 1, 2002.  The adoption of SFASNo. 144 had no impact on the Company’s consolidated statements of operations.

 

In June2001, the FASB issued SFAS No. 143, “Accounting for Asset RetirementObligations”.  SFAS 143 applies to allentities and requires legal obligations arising from the retirement of tangiblelong-lived assets associated to their acquisition, construction, or developmentand (or) normal operation, except for certain lease obligations, to beinitially measured at their fair value. SFAS No. 143 is effective for financial statements issued for fiscalyears beginning after June 15, 2002. Effective February 1, 2003, the Company will account for any assetretirement obligations in accordance with SFAS 143. The adoption of SFAS No.143 had no impact on the Company’s consolidated financial statements.

 

**Forward-LookingStatements**

 

This Form 10-Q, including the Management’s Discussion and Analysis ofFinancial Condition and Results of Operations, contains various“forward-looking statements” within the meaning of Section 27A of theSecurities Act of 1933, as amended, and Section 21E of the Securities ExchangeAct of 1934, as amended, which represent the Company’s expectations or beliefsconcerning future events, including, but not limited to statements regardingmanagement’s expectations of regulatory approval and the commencement ofsales.  In addition, statementscontaining expressions such as “believes”, “anticipates”, “plans” or “expects”used in this Form 10-Q, the Company’s Annual Report, and the Company’s periodicreports on Forms 10-K and 10-Q previously filed with the Securities andExchange Commission are intended to identify forward-looking statements.  The Company cautions that various risks anduncertainties and other factors could cause actual results to differ materiallyfrom those expressed in or implied by the forward-looking statements.  These factors include, without limitation,changing market conditions, the progress of clinical trials, and the resultsobtained, the establishment of new corporate alliances, the impact ofcompetitive products and pricing, the timely development, FDA approval andmarket acceptance of the Company’s products, and the other risks discussedabove, none of which can be assured.

 

The forward-looking statements contained in this quarterly report speakonly as to the date of this report. Except as otherwise required by federal securities laws, we undertake noobligation to publicly update or revise any forward-looking statements or therisk factors described in this quarterly report, whether as a result of newinformation, future events, changed circumstances or any other reason after thedate of this report.

 

The accompanying unaudited condensed consolidated financial statementshave been prepared in accordance with United States generally acceptedaccounting principles for interim financial information and the instructions toForm 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotesrequired by generally accepted accounting principles for complete financialstatements.  In the opinion ofmanagement, all adjustments

 

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(consisting of normally recurring accruals) considered necessary for afair presentation have been included.

 

**Item 3. Quantitative and Qualitative Disclosures about Market Risk.**

 

Exchange Rate Sensitivity

 

The Company’s operationsconsist of manufacturing activities in the United States and Canada.  The Company’s products are sold in NorthAmerica, Europe and the Pacific Rim.

 

While the majority of the sales of Dextran Products, the Company’sCanadian operation, are denominated in United States dollars, the majority ofits expenses are incurred in Canadian dollars. The majority of the assets and liabilities of Dextran Products aredenominated in Canadian dollars prior to the currency translation adjustmentnecessary for preparation of the financial statements of the Company containedin this report.  Therefore, DextranProducts has a net asset exposure to the United States dollar.  When the Canadian dollar rises in valuerelative to the United States dollar, the carrying value of the assets andliabilities of Dextran Products as stated in United States dollarsincreases.  A rise in the Canadiandollar relative to the United States dollar also results in a decrease in grossmargins and net income of Dextran Products. Dextran Products also experiences a foreign exchange loss when theCanadian dollar rises in relation to the United States dollar due to this netasset exposure.  Similarly, a decline inthe Canadian dollar relative to the United States dollar results in a foreignexchange gain and increased gross margins and net income at Dextran Products.

 

Management monitors currencyfluctuations to ensure that an acceptable margin level at Dextran Products ismaintained.  Management has the ability,to some extent, to adjust sales prices to maintain an acceptable margin level.

 

The following table presentsinformation about the Company’s financial instruments other than accountsreceivable that are sensitive to changes in foreign currency exchangerates.  All financial instruments areheld for other than trading purposes. The table presents principal cash flows and related weighted averageinterest rates by expected maturity dates.

 
|                  |   | **Expected Maturity Date** |   |        |   |        |   |
|-----------------------|--------|----------------------------|--------|-------------|--------|-------------|--------|
|                  |   | **1/31/04**                |   | **1/31/05** |   | **1/30/06** |   | **1/31/07** |   | **1/31/08** |   | **Thereafter** |   | **Total** |   | **Fair Value** |   |
|                  |   | **(US$ Equivalent)**       |   |        |   |
| **Liabilities**:      |   |                       |   |        |   |        |   |   |   |   |   |   |   |   |   |   |   |
| Long-term debt:       |   |                       |   |        |   |        |   |   |   |   |   |   |   |   |   |   |   |
| Fixed rate ($CDN)     |   | 116,402                    |   | 124,116     |   | 106,540     |   | 106,359 |   | — |   | — |   | 453,417 |   | 453,417 |   |
| Average interest rate |   | 8.45                       | %      | 8.49        | %      | 9.00        | %      | 9.00 | % | — |   | — |   | 8.73 | % |   |   |

 

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Interest RateSensitivity

 

The Company has no significant interest earning assetsand the majority of its debt is at fixed rates.  The variable rate debt represents the shareholder loan payable,which is approximately offset with the shareholder loan receivable.  Both of these financial instruments carrythe same interest rate.  As such, theCompany has no significant risk exposure to changes in interest rates.

 

The following table presents information about theCompany’s financial instruments that are sensitive to changes in interestrates.  All financial instruments areheld for other than trading purposes. The table presents principal cash flows and related weighted averageinterest rates by expected maturity dates.

 
|                  |   | **Expected  Maturity Date** |   |        |   |        |   |
|-----------------------|--------|-----------------------------|--------|-------------|--------|-------------|--------|
|                  |   | **1/31/04**                 |   | **1/31/05** |   | **1/30/06** |   | **1/31/07** |   | **1/31/08** |   | **Thereafter** |   | **Total** |   | **Fair  Value** |   |
|                  |   | **(US$  Equivalent)**       |   |        |   |        |   |
| **Assets:**           |   |                        |   |        |   |        |   |   |   |   |   |   |   |   |   |   |   |
| Notes receivable:     |   |                        |   |        |   |        |   |   |   |   |   |   |   |   |   |   |   |
| Variable rate ($US)   |   | 48,878                      |   | 56,832      |   | 60,242      |   | 63,856 |   | 67,668 |   | 219,695 |   | 517,191 |   | 517,191 |   |
| Average interest rate |   | 6.00                        | %      | 6.00        | %      | 6.00        | %      | 6.00 | % | 6.00 | % | 6.0 | % | 6.00 | % |   |   |
|                  |   |                        |   |        |   |        |   |   |   |   |   |   |   |   |   |   |   |
| **Liabilities**:      |   |                        |   |        |   |        |   |   |   |   |   |   |   |   |   |   |   |
| Long-term debt:       |   |                        |   |        |   |        |   |   |   |   |   |   |   |   |   |   |   |
| Fixed rate ($US)      |   | 280,365                     |   | —      |   | —      |   | — |   | — |   | — |   | 280,365 |   | 280,365 |   |
| Average interest rate |   | 8.11                        | %      | —      |   | —      |   | — |   | — |   | — |   | 8.11 | % |   |   |
| Fixed rate ($CDN)     |   | 116,402                     |   | 124,116     |   | 106,540     |   | 106,359 |   | — |   | — |   | 453,417 |   | 453,417 |   |
| Average interest rate |   | 8.45                        | %      | 8.49        | %      | 9.00        | %      | 9.00 | % | — |   | — |   | 8.73 | % |   |   |
| Variable rate ($US)   |   | (432                        | )      | 1,042       |   | 1,104       |   | 1,170 |   | 1,241 |   | 678,083 |   | 682,208 |   | 682,208 |   |
| Average interest rate |   | 6.00                        | %      | 6.00        | %      | 6.00        | %      | 6.00 | % | 6.00 | % | 6.00 | % | 6.00 | % |   |   |

 

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**Item 4. Controls and Procedures.**

 

**(a)****                                  Evaluationof Controls and Procedures**

 

Within 90 days prior to the date of filing of this report, the Companycarried out an evaluation, under the supervision and with the participation ofits management, including the Chief Executive Officer and the Chief FinancialOfficer, of the design and operation of its disclosure controls andprocedures.  Based on this evaluation,its Chief Executive Officer and Chief Financial Officer concluded that theCompany’s disclosure controls and procedures are effective for gathering,analyzing and disclosing the information the Company is required to disclose inthe reports it files under the Securities Exchange Act of 1934, within the timeperiods specified in the SEC’s rules and forms.

 

**(b)****                                  Changesin Controls and Procedures**

 

There have been no significant changes in the Company’s internalcontrols or in other factors that could significantly affect internal controlssubsequent to the date of the Company’s most recent evaluation.

 

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**PART II**

**OTHERINFORMATION**

 

**Item 4. Submission of Matters to a Vote of Security Holders.**

 

(a)                        The2003 Annual General Meeting of the Members was held on July 16, 2003.

 

(b)                       Notapplicable.

 

(c)                        At the Annual Meeting, Mr.George G. Usher and Mr. Thomas C. Usher were elected as directors of theCompany to hold office for a three-year term expiring at the Annual GeneralMeeting of the Members held in 2006 or until successors are duly elected andqualified.  The tabulation of votes inperson or by proxy at the Annual Meeting with respect to Mr. George G. Usher’sand Mr. Thomas C. Usher’s election are as follows:

 
|            |   | **Class**                |   | **Votes For** |   | **Votes Withheld** |   | **Abstentions and  Non-Votes** |   |
|-----------------|--------|--------------------------|--------|---------------|--------|--------------------|--------|--------------------------------|--------|
| George G. Usher |   | Common Shares            |   | 2,009,653     |   | 129,549            |   | 1,018,124                      |   |
|            |   | Class B Preferred Shares |   | 1,798,800     | (1)    | —             |   | —                         |   |
|            |   |                     |   |          |   |               |   |                           |   |
| Thomas C. Usher |   | Common Shares            |   | 2,009,593     |   | 129,609            |   | 1,018,124                      |   |
|            |   | Class B Preferred Shares |   | 1,798,800     | (1)    | —             |   | —                         |   |

 

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(1)           Class B PreferredShares are entitled to two (2) votes per share.

 

 

**Item 6. Exhibits and Reports on Form 8-K.**

 

(a)                        Exhibits

 

3.1                                 Memorandumof Association of Polydex Pharmaceuticals Limited, as amended to date (filed asExhibit 3.1 to the Registrant’s Annual Report on Form 10-K filed April 30,1997, and incorporated herein by reference)

 

3.2                                 Articlesof Association of Polydex Pharmaceuticals Limited, as amended to date (filed asExhibit 3.2 to the Registrant’s Quarterly Report on Form 10-Q filed September13, 1999, and incorporated herein by reference)

 

31.1                           Certificationof Chief Executive Officer pursuant to Rule 13a-14(a) under the SecuritiesExchange Act of 1934

 

31.2                           Certificationof Chief Financial Officer pursuant to Rule 13a-14(a) under the SecuritiesExchange Act of 1934

 

32.1                           Certificationof Chief Executive Officer pursuant to 18 U.S.C Section 1350, as adoptedpursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

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32.2                           Certificationof Chief Financial Officer pursuant to 18 U.S.C Section 1350, as adoptedpursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

(b)                       Reportson Form 8-K

 

There were noreports on Form 8-K filed during the fiscal quarter ended July 31, 2003.

 

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**SIGNATURES**

 

Pursuant to the requirements of the Securities Exchange Act of 1934,the Registrant has duly caused this report to be signed on its behalf by theundersigned thereunto duly authorized.

 

Date:       September 11, 2003

 
|   | POLYDEX PHARMACEUTICALS LIMITED |
|--------|---------------------------------|
|   | (Registrant)                    |
|   |                            |
|   | By                              | /s/ George G. Usher |   |
|   |                            | George G. Usher, Chairman, President and Chief  Executive Officer  (Principal Executive Officer) |
|   |                            |   |
|   |                            |   |
|   | By                              | /s/ Sharon L. Wardlaw |   |
|   |                            | Sharon L. Wardlaw, Treasurer, Secretary and Chief  Financial and Accounting Officer  (Principal Financial Officer) |

 

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**Exhibit Index**

 

31.1                           Certificationof Chief Executive Officer pursuant to Rule 13a-14(a) under the SecuritiesExchange Act of 1934

 

31.2                           Certificationof Chief Financial Officer pursuant to Rule 13a-14(a) under the SecuritiesExchange Act of 1934

 

32.1                           Certificationof Chief Executive Officer pursuant to 18 U.S.C Section 1350, as adoptedpursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

32.2                           Certificationof Chief Financial Officer pursuant to 18 U.S.C Section 1350, as adoptedpursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

34

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