** **

**UNITED STATES**

**SECURITIES AND EXCHANGECOMMISSION**

**WASHINGTON,D.C. 20549**

 

----

 

## **FORM 10-Q**

 

** **

**ý****                                ****QUARTERLY REPORT PURSUANT TOSECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

** **

                **For the quarterly periodended September 30, 2004**

** **

**o****                                ****TRANSITION REPORT PURSUANT TOSECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

                **For the transition periodfrom                    to                  **

** **

**                CommissionFile Number:  0-21134**

 

**Paligent Inc.**

----

* *

*(Exactname of registrant as specified in its charter)*

 

| **Delaware**                                                                  |     | **04-2893483**         |
|-------------------------------------------------------------------------------|----------|------------------------|
| *(State  or other jurisdiction of*                                            | * * | *(I.R.S.  Employer*    |
| *incorporation  or organization)*                                             | * * | *Identification  No.)* |
|                                                                          |     |                   |
| **10 East  53rd Street, New York, New York**                                  |     | **10022**              |
| *(Address  of principal executive offices)*                                   | * * | *(zip  code)*          |
|                                                                          |     |                   |
| **(212)  755-5461***Registrant’s telephone number, including area code)* |

 

Indicate by check markwhether the registrant (1) has filed all reports required to be filed bySection 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding12 months (or for such shorter period that the registrant was required to filesuch reports), and (2) has been subject to such filing requirements for thepast 90 days.

 

YES  ý      NO  o

 

Indicate by check markwhether the registrant is an accelerated filer (as defined in Rule 12b-2 of theExchange Act).

 

YES  o      NO  ý

 

Thenumber of shares outstanding of each of the issuer’s classes of common stock,as of the latest practicable date.

 

| **Class**                      |   | **Outstanding  as of November 5, 2004** |
|--------------------------------|--------|-----------------------------------------|
|                           |   |                                    |
| Common Stock, $0.01 par  value |   | 32,490,948                              |

 

----

** **

**PALIGENTINC.**

 

**INDEX**

 

 
| ** **        |                                                                                                                  |      | **Page(s)** |
|-------------------|-----------------------------------------------------------------------------------------------------------------------|-----------|-------------|
| **PART I.**       | **FINANCIAL INFORMATION**                                                                                             |      |        |
|              |                                                                                                                  |      |        |
| **Item 1.**       | Financial Statements                                                                                                  |      |        |
|              |                                                                                                                  |      |        |
|              | Condensed  Consolidated Balance Sheets  September 30, 2004 (unaudited) and December 31, 2003                          |  

3 |
|              |                                                                                                                  |      |        |
|              | Condensed  Consolidated Statements of Operations (unaudited)  Three and nine months ended September 30, 2004 and 2003 |  

4 |
|              |
|              |                                                                                                                  |      |        |
|              | Condensed  Consolidated Statements of Cash Flows (unaudited)  Nine months ended September 30, 2004 and 2003           |  

5 |
|              |
|              |                                                                                                                  |      |        |
|              | Notes  to Condensed Consolidated Financial Statements (unaudited)                                                     | 6-9       |
|              |                                                                                                                  |      |        |
| **Item  2.**      | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                           | 10-12     |
|              |                                                                                                                  |      |        |
| **Item  3**       | Quantitative  and Qualitative Disclosure About Market Risk                                                            | 13        |
|              |                                                                                                                  |      |        |
| **Item 4.**       | Controls and  Procedures                                                                                              | 13        |
|              |                                                                                                                  |      |        |
| **PART II.**      | **OTHER INFORMATION**                                                                                                 |      |
|              |                                                                                                                  |      |        |
| **Item 1.**       | Legal Proceedings                                                                                                     | 14        |
|              |                                                                                                                  |      |        |
| **Item 6.**       | Exhibits and  Reports on Form 8-K                                                                                     | 14        |
|              |                                                                                                                  |      |        |
| **SIGNATURES**    |                                                                                                                  |      | 15          |
|              |                                                                                                                  |      |        |
| **EXHIBIT INDEX** |                                                                                                                  | 16        |
|                   |                                                                                                                       |           |             |  |  |

 

 

2

----

** **

**PALIGENTINC.**

**CONDENSEDCONSOLIDATED BALANCE SHEETS**

 
| ** **                                                                                                                                         | ** ** | **September 30, 2004** | ** ** | **December 31, 2003** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------------|------------|-----------------------|------------|
| ** **                                                                                                                                         | ** ** | **(unaudited)**        | ** ** | ** **            | ** ** |
| ASSETS                                                                                                                                             |       |                   |       |                  |       |
| Current assets:                                                                                                                                    |       |                   |       |                  |       |
| Cash and cash  equivalents                                                                                                                         |       | $                      | 46,165     |                  | $          | 41,321 |   |
| Current portion  of subtenant receivable                                                                                                           |       | —                 |       | 100,000               |       |
| Property held  for sale                                                                                                                            |       | —                 |       | 10,000                |       |
| Prepaid expenses  and other current assets                                                                                                         |       | 27,746                 |       | —                |       |
| Total current  assets                                                                                                                              |       | 73,911                 |       | 151,321               |       |
|                                                                                                                                               |       |                   |       |                  |       |
| Property and  equipment, net                                                                                                                       |       | 1,409                  |       | 2,813                 |       |
| Subtenant  receivable                                                                                                                              |       | —                 |       | 25,000                |       |
| Security  deposits                                                                                                                                 |       | —                 |       | 9,543                 |       |
| Total assets                                                                                                                                       |       | $                      | 75,320     |                  | $          | 188,677 |   |
|                                                                                                                                               |       |                   |       |                  |       |
| LIABILITIES AND  STOCKHOLDERS’ DEFICIT                                                                                                        |       |                   |       |                  |       |
| Current liabilities:                                                                                                                               |       |                   |       |                  |       |
| Accounts payable  and accrued expenses                                                                                                             |       | $                      | 39,046     |                  | $          | 132,935 |   |
| Accrued  professional services                                                                                                                     |       | 20,300                 |       | 34,100                |       |
| Accrued rent                                                                                                                                       |       | 33,415                 |       | —                |       |
| Due to related  party                                                                                                                              |       | 140,000                |       | 111,189               |       |
| Capital lease  obligation                                                                                                                          |       | —                 |       | 10,000                |       |
| Total current  liabilities                                                                                                                         |       | 232,761                |       | 288,224               |       |
|                                                                                                                                               |       |                   |       |                  |       |
| Deferred rent                                                                                                                                      |       | —                 |       | 22,262                |       |
|                                                                                                                                               |       |                   |       |                  |       |
| Stockholders’  deficit:                                                                                                                       |       |                   |       |                  |       |
| Common stock,  $.01 par value; 75,000,000 shares authorized; 32,490,948 shares issued and  outstanding at September 30, 2004 and December 31, 2003 |       | 324,910                |       | 324,910               |       |
| Additional  paid-in capital                                                                                                                        |       | 154,634,974            |       | 154,634,974           |       |
| Accumulated  deficit                                                                                                                               |       | (155,117,325           | )          | (155,081,693          | )          |
| Total  stockholders’ deficit                                                                                                                  |       | (157,441               | )          | (121,809              | )          |
| Total  liabilities and stockholders’ deficit                                                                                                  |       | $                      | 75,320     |                  | $          | 188,677 |   |
|                                                                                                                                                    |            |                        |            |                       |            |  |  |  |

 

The accompanyingnotes are an integral part of the condensed consolidated financial statements.

 

3

----

** **

**PALIGENTINC.**

**CONDENSEDCONSOLIDATED STATEMENTS OF OPERATIONS**

**(unaudited)**

 
| ** **                                            | ** ** | **Three months ended  September 30,** | ** ** | **Nine months ended  September 30,** | ** ** |
|-------------------------------------------------------|------------|---------------------------------------|------------|--------------------------------------|------------|
| ** **                                            | ** ** | **2004**                              | ** ** | **2003**                             | ** ** | **2004** | ** ** | **2003** | ** ** |
| Revenue:                                              |       |                                  |       |                                 |       |   |   |   |   |
| Interest income                                       |       | $                                     | —     |                                 | $          | 118 |   | $ | 2,250 |   | $ | 643 |   |
|                                                  |       |                                  |       |                                 |       |   |   |   |   |
| Costs and  expenses:                                  |       |                                  |       |                                 |       |   |   |   |   |
| General and  administrative                           |       | 214,137                               |       | 213,073                              |       | 537,882 |   | 539,425 |   |
|                                                  |       |                                  |       |                                 |       |   |   |   |   |
| Loss from  operations                                 |       | (214,137                              | )          | (212,955                             | )          | (535,632 | ) | (538,782 | ) |
|                                                  |       |                                  |       |                                 |       |   |   |   |   |
| Other income                                          |       | 500,000                               |       | —                               |       | 500,000 |   | 500,000 |   |
|                                                  |       |                                  |       |                                 |       |   |   |   |   |
| Net income  (loss)                                    |       | $                                     | 285,863    |                                 | $          | (212,955 | ) | $ | (35,632 | ) | $ | (38,782 | ) |
|                                                  |       |                                  |       |                                 |       |   |   |   |   |
| Basic and  diluted net income (loss) per common share |       | $                                     | 0.01       |                                 | $          | (0.01 | ) | $ | (0.00 | ) | $ | (0.00 | ) |
|                                                  |       |                                  |       |                                 |       |   |   |   |   |
| Weighted average  number of common shares outstanding |       |                                  |       |                                 |       |   |   |   |   |
| Basic and  diluted                                    |       | 32,490,948                            |       | 32,490,948                           |       | 32,490,948 |   | 32,490,948 |   |

 

 

The accompanying notes are an integral part of the condensedconsolidated financial statements.

 

 

4

----

** **

**PALIGENTINC.**

**CONDENSEDCONSOLIDATED STATEMENTS OF CASH FLOWS**

**(unaudited)**

 
| ** **                                                                   | ** ** | **Nine months ended September 30,** | ** ** |
|------------------------------------------------------------------------------|------------|-------------------------------------|------------|
| ** **                                                                   | ** ** | **2004**                            | ** ** | **2003** | ** ** |
| Cash flows from  operating activities:                                       |       |                                |       |   |   |
| Net loss                                                                     |       | $                                   | (35,632    | ) | $ | (38,782 | ) |
| Adjustments to  reconcile net loss to net cash used in operating activities: |       |                                |       |   |   |
| Depreciation and  amortization                                               |       | 1,404                               |       | 31,493 |   |
| Write-off of  security deposits                                              |       | 9,543                               |       | 1,910 |   |
| Write-down of  accrued rent                                                  |       | (81,185                             | )          | — |   |
| Reserve for  subtenant receivable and accrued interest                       |       | 77,250                              |       | — |   |
| Deferred charges                                                             |       | —                              |       | 16,442 |   |
| Deferred rent                                                                |       | (22,262                             | )          | (7,062 | ) |
| Changes in  operating assets and liabilities:                                |       |                                |       |   |   |
| Prepaid expenses  and other current assets                                   |       | (29,996                             | )          | (32,160 | ) |
| Subtenant  receivable                                                        |       | 50,000                              |       | (65,302 | ) |
| Accounts payable  and accrued expenses                                       |       | (107,689                            | )          | (24,800 | ) |
| Interest payable  to related party                                           |       | (1,189                              | )          | — |   |
| Accrued rent                                                                 |       | 114,600                             |       | — |   |
| Net cash used in  operating activities                                       |       | (25,156                             | )          | (118,261 | ) |
|                                                                         |       |                                |       |   |   |
| Cash flows from  investing activities:                                       |       |                                |       |   |   |
| Proceeds from  sale of assets                                                |       | 10,000                              |       | — |   |
| Net cash  provided by investing activities                                   |       | 10,000                              |       | — |   |
|                                                                         |       |                                |       |   |   |
| Cash flows from  financing activities:                                       |       |                                |       |   |   |
| Proceeds from  related party loan                                            |       | 405,000                             |       | 30,000 |   |
| Repayment of  related party loan                                             |       | (375,000                            | )          | (30,000 | ) |
| Principal  payments on capital lease obligations                             |       | (10,000                             | )          | (16,095 | ) |
| Net cash  provided by (used in) financing activities                         |       | 20,000                              |       | (16,095 | ) |
|                                                                         |       |                                |       |   |   |
| Net increase  (decrease) in cash and cash equivalents                        |       | 4,844                               |       | (134,356 | ) |
|                                                                         |       |                                |       |   |   |
| Cash and cash  equivalents at beginning of period                            |       | 41,321                              |       | 153,046 |   |
|                                                                         |       |                                |       |   |   |
| Cash and cash  equivalents at end of period                                  |       | $                                   | 46,165     |   | $ | 18,690 |   |
|                                                                              |            |                                     |            |  |  |  |  |  |  |

 

 

The accompanyingnotes are an integral part of the condensed consolidated financial statements

 

5

----

**PALIGENT INC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIALSTATEMENTS**

**(unaudited)**

** **

**NOTE 1 —BASIS OF PRESENTATION**

 

# **Interim Financial Statements**

 

The condensed consolidated financial statements included herein havebeen prepared by Paligent Inc. (“Paligent” or the “Company”) pursuant to therules and regulations of the United States Securities and ExchangeCommission.  Certain information andfootnote disclosures normally included in financial statements prepared inaccordance with generally accepted accounting principles have been condensed oromitted pursuant to such rules and regulations. In the opinion of management, the accompanying unaudited condensedconsolidated financial statements reflect all adjustments (consisting only ofnormal recurring accruals) necessary for a fair presentation of the financialposition of the Company at September 30, 2004 and the results of its operationsand its cash flows for the interim periods ended September 30, 2004 and 2003.The condensed consolidated balance sheet as of December 31, 2003 was derivedfrom audited financial statements but does not include all disclosures requiredby generally accepted accounting principles. The accompanying condensed consolidated financial statements have beenprepared in accordance with accounting standards for interim financialstatements and should be read in conjunction with the audited consolidated financial statements and the notesthereto included in the Company’s Form 10-K for the year ended December 31,2003.  The results of operations for the interim periods are not necessarily indicative of the results of operations to be expected forthe fiscal year or any other interim period.

 

Theaccompanying consolidated financial statements have been prepared on a goingconcern basis which contemplates the realization of assets and the satisfactionof liabilities in the ordinary course of business.  The Company has incurred losses fromoperations since inception, has working capital and stockholders’ deficits andhas limited cash to fund operations in 2004. The Company is presently relying on borrowings from Richard J. Kurtz,its principal stockholder, to fund continuing operations.  Mr. Kurtz has made no commitment to continueto make loans to the Company.

 

Whilethe Company evaluates strategic alternatives, including potential businessinvestments and related financing, the Company’s rate of spending could varyfrom its current estimate.  No assurancecan be given that the Company will be able to complete a business investment orthat such financing will be available to the Company.  If the Company is unable to generatesignificant revenue from acquired operations, obtain additional revenue fromits existing out-licensing of its biotechnology assets, secure additionalfinancing for its present operations, obtain financing from its principalstockholder or secure sufficient financing for operations resulting fromacquisition or merger, the Company will experience a cash shortage in 2004, theeffect of which could result in the discontinuance of operations.  If additional funds are raised by issuingequity securities, further dilution to existing stockholders will result andfuture investors may be granted rights superior to those of existingstockholders.

 

These circumstances raisesubstantial doubt about the Company’s ability to continue as a goingconcern.  The financial statements do notinclude any adjustments that might result from the outcome of this uncertainty.

 

# **Reclassification**

 

Certain prior periodamounts have been reclassified to conform to the current period presentation.

 

 

6

----

 

**NOTE 2 —BASIC AND DILUTED NET INCOME (LOSS) PER SHARE**

 

Basic earnings per share(“EPS”) excludes dilution and is computed by dividing income (loss) applicableto common stockholders by the weighted average number of common sharesoutstanding for the period.  Diluted EPSis based upon the weighted average number of common shares outstanding duringthe period plus the additional weighted average common equivalent shares duringthe period.  Common equivalent sharesresult from the assumed exercises of outstanding stock options and warrants,the proceeds of which are then assumed to have been used to repurchaseoutstanding shares of common stock (the “treasury stock method”).  Common equivalent shares are not included inthe per share calculations where the effect of their inclusion would beanti-dilutive.  Inherently, stock optionsand warrants are deemed to be anti-dilutive when the average market price ofthe common stock during the period exceeds the exercise price of the stockoptions or warrants.

 

For the three and nine monthsended September 30, 2004 and 2003, the Company had stock options and warrantsoutstanding that were anti-dilutive. These securities could potentially dilute basic EPS in the future butwere not included in the computation of diluted EPS for the periods presentedbecause to do so would have been anti-dilutive. Consequently, there were no differences between basic and diluted EPSfor these periods.

 

**NOTE 3 —SIGNIFICANT EVENTS**

 

On July 28, 2004, the Company executed aletter of intent to acquire privately held SoyToy LLC (“SoyToy”).  Mr. Kurtz holds a 50% membership interest inSoyToy.  The letter of intentcontemplated the acquisition by the Company of all of the issued andoutstanding membership interests of SoyToy in consideration of the issuance ofshares of common stock of the Company such that the present stockholders ofPaligent and equity holders of SoyToy would each own 50% of the outstandingstock of the post-acquisition company, subject to adjustment for futureissuances.  In addition, the letter ofintent contemplated that approximately one-half of the existing related partydebt of SoyToy would be converted at the closing into convertible preferredstock of the Company, the terms of which were to be mutually acceptable to theCompany and Mr. Kurtz, the holder of the related party debt.  The letter of intent provided that theproposed acquisition would be subject, among other things, to the execution ofdefinitive acquisition documentation and the approval by the holders of amajority of shares of Paligent common stock that are not owned by Mr. Kurtz orhis affiliates. The Company estimated that approximately $1.5 million would beneeded to fund the initial phase of SoyToy’s business plan, which the Companyand SoyToy anticipated financing, at least in part, prior to the completion ofthe business combination.  SoyToy’sprogress in developing its business plan has been proceeding at a slower pacethan initially envisioned.  While theletter of intent expired on September 26, 2004, the Company has continueddiscussing the potential transaction with SoyToy.  However, due to the lack of progress, theCompany has begun to consider pursuing alternative transactions.

 

On September 27, 2004,Indevus Pharmaceuticals, Inc. (“Indevus”) exercised a second option pursuant toan amendment dated April 11, 2003 (the “PRO 2000 Amendment”) to the licenseagreement dated June 14, 2000 (the “PRO 2000 License”).  Under the PRO 2000 License, Indevus holds theexclusive, worldwide rights to develop and market PRO 2000 Gel.  The PRO 2000 Amendment granted Indevus asecond option, upon which exercise, Indevus would acquire all of the Company’srights, title and interest to PRO 2000 Gel as set forth in the PRO 2000License, provided that such second option was exercised before September 30,2004.  Upon the exercise of the secondoption on September 27, 2004, Indevus paid to the Company $500,000, as providedin the PRO 2000 Amendment.

 

7

----

 

**NOTE 4 —RELATED PARTIES**

 

On October 8, 2003, inanticipation of completing a business combination with Digital Products ofDelaware, Inc. (“Digital”), or another entity, the Company executed apromissory note (the “Promissory Note”) with Mr. Kurtz under which the Company received,and expects to continue to receive, loans that will enable it to meet itsanticipated cash operating needs.  Mr.Kurtz is also the principal shareholder of Digital.  The Promissory Note bears interest at 8% perannum and contemplates repayment upon the occurrence of the earlier of (i) thefirst anniversary of the making of the first loan; and (ii) the first fundingof debt and/or equity capital subsequent to the completion of the proposedbusiness combination between the Company and Digital that results in aggregatenet proceeds to the Company of not less than $1 million.  On January 16, 2004 the Company announcedthat the contemplated Digital acquisition was being indefinitelypostponed.  On July 28, 2004, the Companyexecuted a letter of intent to acquire privately held SoyToy LLC, of which Mr.Kurtz holds a 50% membership interest. See Note 3 — Significant Events for a further discussion of thepotential SoyToy transaction.

 

ThroughSeptember 2004, Mr. Kurtz had loaned the Company an aggregate of $515,000 tofund its continuing operations.  OnSeptember 30, 2004, the Company paid $394,418 to Mr. Kurtz, comprising $375,000in principal plus $19,418 of accrued interest.

 

**NOTE 5 —SUBTENANT RECEIVABLE**

 

On December 31, 2003, the Company executed a SurrenderAgreement and Promissory Note with its former subtenant (the “Subtenant”) pursuantto which the Company received cash and a promissory note approximatelyequivalent to the aggregate amount due as of December 31, 2003.  The Promissory Note, in the original amountof $75,000, bears interest at the rate of 6% per annum and was to be payable inthree installments of $25,000, plus accrued interest, on June 30, 2004,December 31, 2004 and June 30, 2005.  TheCompany did not receive from the Subtenant the installment payment that was dueon June 30, 2004.  Despite the verbal indicationof the Subtenant’s management to the Company in July that it was expecting toreceive sufficient funds to cure its default of the Promissory Note by theclose of the third quarter of 2004, the Company did not receive payment of thepast due installment.  Accordingly, onSeptember 14, 2004, the Company filed an action in the Supreme Court of theState of New York, New York County, alleging that the Subtenant had defaultedon its obligations under the Promissory Note. The Company’s motion for summary judgment in lieu of complaint ispresently pending a hearing before the Court. Since the likelihood of collecting the past due installment or anyfuture installment cannot be reasonably assured, the Company discontinuedaccruing interest income as of June 30, 2004, and has recorded a reserve of$77,250 in the quarter ended September 30, 2004, representing the full amountof principal and interest outstanding due at June 30, 2004.

 

**NOTE 6 —ACCRUED RENT**

 

On January 16, 2004, the Company voluntarily vacated its office at 369Lexington Avenue, New York, New York (the “Lexington Office”).  The commitment under the lease for theLexington Office (the “Lexington Lease”) requires the Company to pay monthlybase rent and an allocable percentage of operating costs and property taxesthroughout the remaining term of the Lexington Lease, which expires on April30, 2005.

 

Pursuant to Statement of Financial Accounting Standards No. (“FAS”)146, “**Accountingfor Costs Associated with Exit or Disposal Activities,”**the Company recognizes January 16, 2004, the date that it vacated the LexingtonOffice, as the cease-use date. Accordingly, a liability for costs that continue to be incurred underthe Lexington Lease for the remaining term was recognized and measured at theirfair 

 

 

8

----

 

value at that time. The fair value was determined based on remaininglease rentals reduced by estimated sublease rentals that could be reasonablyobtained for the property.

 

As of June 30, 2004, the liability for accrued rent was $63,414.  In July 2004, the Company reached anegotiated settlement with the landlord under the Lexington Lease (the “LexingtonLandlord”) for amounts due through March 30, 2004, the date that the LexingtonLandlord sold the building.  Thesettlement amount of $30,000 was paid to the Lexington Landlord on July 23,2004.  After reviewing all relevantfactors, the Company did not make any other adjustment to its estimate of thefair value of costs to be incurred under the Lexington Lease during the threemonth period ended September 30, 2004. Accordingly, the balance of liability for accrued rent at September 30,2004 was $33,414.

 

**NOTE 7 —STOCK-BASED COMPENSATION**

 

TheCompany complies with FAS 148, “Accounting for Stock-Based Compensation -Transition and Disclosure, an Amendment of FAS 123.”  This statement provides alternative methodsof transition for a voluntary change to the fair value based method ofaccounting for stock-based employee compensation.  In addition, FAS 148 amends the disclosurerequirements of FAS 123 to require more prominent and more frequent disclosuresin financial statements about the effects of stock-based compensation.

 

TheCompany applies Accounting Principles Board Opinion No. 25, “Accounting for StockIssued to Employees,” and related interpretations, in accounting for itsstock-based compensation plans. Accordingly, no compensation cost has been recognized for its stockoption plan.  Had compensation cost forthe Company’s stock-based compensation plan been determined based on the fairvalue at the grant dates for awards under those plans consistent with FAS 123,the Company’s net income (loss) and net income (loss) per share would have beenadjusted to the pro forma amounts indicated below:

 
| ** **                                                                      | ** ** | **Three months ended September 30,** | ** ** | **Nine months ended September 30,** | ** ** |
|---------------------------------------------------------------------------------|------------|--------------------------------------|------------|-------------------------------------|------------|
| ** **                                                                      | ** ** | **2004**                             | ** ** | **2003**                            | ** ** | **2004** | ** ** | **2003** | ** ** |
|                                                                            |       |                                 |       |                                |       |   |   |   |   |
| Net income  (loss) — as reported                                           |       | $                                    | 285,863    |                                | $          | (212,955 | ) | $ | (35,632 | ) | $ | (38,782 | ) |
| Adjustment to  net income (loss) for pro forma stock-based compensation expense |       | —                               |       | (17,030                             | )          | (27,089 | ) | (51,090 | ) |
| Net income  (loss) — pro forma                                             |       | $                                    | 285,863    |                                | $          | (229,985 | ) | $ | (62,721 | ) | $ | (89,872 | ) |
|                                                                            |       |                                 |       |                                |       |   |   |   |   |
| Basic and  diluted net income (loss) per common share — as reported        |       | $                                    | 0.01       |                                | $          | (0.01 | ) | $ | (0.00 | ) | $ | (0.00 | ) |
| Basis and  diluted net income (loss) per common share — pro forma          |       | $                                    | 0.01       |                                | $          | (0.01 | ) | $ | (0.00 | ) | $ | (0.00 | ) |
|                                                                                 |            |                                      |            |                                     |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

 

9

----

 

**Item 2.  Management’s Discussion and Analysis ofFinancial Condition and Results of Operations.**

 

***Note RegardingForward-Looking Statements***

 

*Statements in this Form 10-Q that are notstatements or descriptions of historical facts are “forward-looking” statementsunder Section 21E of the Securities Exchange Act of 1934, as amended, and thePrivate Securities Litigation Reform Act of 1995 and are subject to numerousrisks and uncertainties.  Theseforward-looking statements can generally be identified by the use of such termsas “anticipate,” “believe,” “continue,” “expect,” “may,” “should,” or similarvariations or the negative thereof. These forward looking statements involve risks and uncertainties, manyof which are out of the Company’s control and which may affect its futurebusiness plans.  Factors that may affectthe Company’s future business plans include: (i) its ability to identify,complete and integrate an acquisition of an operating business; (ii) theviability of the Company’s business strategy in connection with an acquisitionand its ability to implement such strategy; (iii) its ability to securefinancing for its current and potential future operations; and (iv) its abilityto generate revenues sufficient to meet its operating costs.  Such statements reflect the current view ofthe Company with respect to future events and are subject to certain risks,uncertainties and assumptions.  Inaddition, the Company’s business, operations and financial condition aresubject to the risks, uncertainties and assumptions that are described in theCompany’s reports and statements filed from time to time with the Securitiesand Exchange Commission.  Should one ormore of those risks or uncertainties materialize, or should underlyingassumptions prove incorrect, actual results may vary materially from thosediscussed herein.  The descriptions ofthe risks, uncertainties and assumptions to which the Company’s business,operations and financial condition are subject are as of the date of thisreport.  The Company assumes noobligation to update any such forward-looking statements.*

 

**Overview**

 

Since 2001, Paligent Inc.,together with its subsidiaries (collectively, the “Company”), has been engagedin seeking business opportunities to maximize value for its stockholders.  The Company has evaluated various strategicalternatives, including acquisitions of new operating businesses andtechnologies as well as potential merger opportunities.

 

From its inception in1985 through 1999, the Company operated as a biotechnology company engaged inthe development and commercialization of novel drugs with a product portfoliofocused on infectious diseases and oncology. During 1999, the Company’s principal efforts were devoted to drugdevelopment and human clinical trials focusing on two biotechnology compounds,PRO 2000 Gel and O6-Benzylguanine (“O6-BG”). During fiscal 2000, the Company closed its research facilities andout-licensed PRO 2000 Gel and O6-BG.  InSeptember 2004, the Company transferred all of its rights, title and interestto PRO 2000 Gel pursuant to an option duly exercised by its sublicensee.  Under terms of its remaining out-licensingagreement, the Company retains certain future rights, including the right toreceive certain agreed-upon payments upon the achievement of certain milestonesas well as royalties from commercial sales, if any.

 

**Resultsof Operations**

 

From inception through September 30, 2004, the Company has generated norevenues from product sales or services and has not been profitable.  As the Company evaluates various strategicalternatives in its quest for new growth areas that will maximize value toexisting stockholders, the Company expects to incur additional losses.

 

 

10

----

 

## ***Threeand nine months ended September 30, 2004 as compared to the three and ninemonths ended September 30, 2003***

 

During the three months ended September 30, 2004, theCompany reported net income of $286,000, or $0.01 per share, as compared to anet loss of $213,000, or $0.01 per share, in the comparable period in2003.  For the nine months ended September30, 2004, the Company reported a net loss of $36,000, or $0.00 per share, ascompared to a net loss of $39,000, or $0.00 per share, for the similar periodin 2003.

 

The Company’s total revenue, which is derived from interest income, was$0 and $2,250, respectively, for the three and nine month periods ended September30, 2004, as compared to $118 and $643, respectively, for the comparable threeand nine month periods in 2003.  Interestincome in fiscal 2004 is attributable to the accrual of interest earnings onthe subtenant note receivable.  Due tothe default by the maker of this note on June 30, 2004, the Companydiscontinued accruing interest income as of that date.  Interest income for fiscal 2003 was derived frominterest earnings on available balances.

 

The Company’s total operatingexpenses, consisting of general and administrative costs, were $214,000 and $538,000,respectively, for the three and nine month periods ended September 30, 2004 ascompared to $213,000 and $539,000, respectively, for the comparable periods in2003.  During the three and nine monthsended September 30, 2004, the reserve recorded against the subtenant receivableresulted in an increase of $77,000 in general and administrative expenses,which increases were offset by reductions in professional fees of $68,000 and$112,000, respectively, for the comparable three and nine month periods.  Results of operations for the nine monthperiod ended September 30, 2004 also reflects a net increase of $46,000 infacilities charges, primarily relating to the accrual of the fair value ofcosts to be incurred under the Lexington Lease.

 

During the three and ninemonths ended September 30, 2004, the Company received proceeds of $500,000 inconnection with the exercise of an option by Indevus pursuant to the PRO 2000 Amendment.  During the nine months ended September 30,2003, the Company received proceeds of $500,000 in connection with itsexecution of the PRO 2000 Amendment. These amounts were recorded as other income.

 

### **Liquidityand Capital Resources**

 

At September 30, 2004,the Company’s aggregate cash and cash equivalents were $46,000, a net increaseof $5,000 from the end of the prior year. During the nine month period ended September 30, 2004, the Companyreceived $500,000 in connection with the PRO 2000 Amendment, $50,000 from the collectionof a portion of the subtenant receivable, $30,000 in net borrowings under therelated party note payable and $10,000 from the sale of assets.  These receipts were offset by cash payments of$466,000 for operating activities, $109,000 for satisfaction of accountspayable and accrued expenses and $10,000 for the settlement of its remainingcapital lease.

 

The Company has incurred losses since inception, has working capitaland stockholders’ deficits and has limited cash to fund its operations.  The Company is presently relying onborrowings from its principal stockholder to fund continuing operations.  While the Company pursues strategicalternatives, including potential business combination and related financing,the Company expects to finance its continuing operations through furtherborrowings from its principal stockholder. The stockholder has made no commitment to continue to make loans to theCompany.  No assurance can be given thatthe Company will be able to complete a business combination or that suchfinancing from its principal stockholder will continue to be available to theCompany.  If the Company is unable togenerate significant revenue from acquired operations, obtain additionalrevenue from its existing out-licensing of its biotechnology assets, secureadditional financing for its present operations, obtain financing from itsprincipal stockholder or 

 

 

11

----

 

secure sufficient financing for operations resulting from acquisitionor merger, the Company will experience a cash shortage, the effect of whichcould result in the discontinuance of operations.  If additional funds are raised by issuingequity securities, further dilution to existing stockholders will result andfuture investors may be granted rights superior to those of existingstockholders.

 

These circumstances raise substantial doubt about the Company’s abilityto continue as a going concern.

 

**ProposedAcquisition**

 

On July 28, 2004, theCompany executed a letter of intent to acquire privately held SoyToy LLC (“SoyToy”).  Richard J. Kurtz, a director and theprincipal stockholder of the Company, holds a 50% membership interest inSoyToy.  The letter of intentcontemplated the acquisition by the Company of all of the issued andoutstanding membership interests of SoyToy in consideration of the issuance ofshares of common stock of the Company such that the present stockholders ofPaligent and equity holders of SoyToy would each own 50% of the outstandingstock of the post-acquisition company, subject to adjustment for futureissuances.  In addition, the letter ofintent contemplated that approximately one-half of the existing related partydebt of SoyToy would be converted at the closing into convertible preferred stockof the Company, the terms of which were to be mutually acceptable to theCompany and Mr. Kurtz, the holder of the related party debt.  The letter of intent provided that the proposedacquisition would be subject, among other things, to the execution of definitiveacquisition documentation and the approval by the holders of a majority ofshares of Paligent common stock that are not owned by Mr. Kurtz or hisaffiliates. The Company estimated that approximately $1.5 million would beneeded to fund the initial phase of SoyToy’s business plan, which the Companyand SoyToy anticipated financing, at least in part, prior to the completion ofthe business combination.  SoyToy’sprogress in developing its business plan has been proceeding at a slower pacethan initially envisioned.  While theletter of intent expired on September 26, 2004, the Company has continueddiscussing the potential transaction with SoyToy.  However, due to the lack of progress, theCompany has begun to consider pursuing alternative transactions.

 

 

12

----

 

**Item 3.  Quantitative and Qualitative Disclosure AboutMarket Risk.**

 

InJanuary 1997, the Securities and Exchange Commission issued Financial ReportingRelease 48 (“FRR 48”), “Disclosure of Accounting Policies for DerivativeFinancial Instruments and Derivative Commodity Instruments, and Disclosure ofQuantitative and Qualitative Information About Market Risk Inherent inDerivative Financial Instruments, Other Financial Instruments and Derivative CommodityInstruments.”  FRR 48 required disclosureof qualitative and quantitative information about market risk inherent inderivative financial instruments, other financial instruments, and derivativecommodity instruments beyond those already required under generally acceptedaccounting principles.  The Company isnot a party to any of the instruments discussed in FRR 48 and considers itsmarket risk to be minimal.

 

 

**Item 4. Controls and Procedures**

 

As of the end of theperiod covered by this Quarterly Report on Form 10-Q, an evaluation wasperformed under the supervision of the Company’s Chief Executive Officer and PrincipalFinancial Officer, of the effectiveness of the Company’s disclosure controlsand procedures.  Based on thatevaluation, the Company’s Chief Executive Officer and Principal Financial Officerconcluded that the Company’s disclosure controls and procedures were effectiveas of the end of the period covered by this report.  In addition, there were no changes in theCompany’s internal control over financial reporting during the quarter ended September30, 2004 that have materially affected, or are reasonably likely to materiallyaffect, the Company’s internal control over financial reporting.

 

 

13

----

** **

**PART II. OTHER INFORMATION**

 

**Item 1. Legal Proceedings**

 

On or about May 28, 2004, the Company’s landlord under the LexingtonLease (the “Lexington Landlord”) brought an action against the Company in CivilCourt of the City of New York, New York County (the “Action”).  The Action alleged that the Company failed topay its rent beginning in October 2003 and was in default under the LexingtonLease.  The Action sought payment of rentthrough March 30, 2004, the date the Lexington Landlord sold the building.  The net amount claimed due and owing by theLexington Landlord of $50,000 reflected a total lease obligation through March30, 2004 of $125,000 less an offset of $75,000 from the application of theCompany’s security deposit.  On July 23,2004, the Company and the Lexington Landlord reached a negotiated settlement inthe amount of $30,000, pursuant to which the Action was fully and completelyresolved.

 

On September 14, 2004, the Company filed an action inthe Supreme Court of the State of New York, New York County, alleging that itsformer subtenant (the “Subtenant”) had defaulted on its obligations under thePromissory Note dated December 31, 2003. The Promissory Note, in the original amount of $75,000, bears interestat the rate of 6% per annum and was to be payable in three installments of$25,000, plus accrued interest, on June 30, 2004, December 31, 2004 and June30, 2005.  The Company did not receivefrom the Subtenant the installment payment that was due on June 30, 2004.  This Company’s motion for summary judgment inlieu of complaint is pending a hearing before the Court.

 

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

 
| (a)    |   | Exhibits.                                                                                       |   |
|--------|--------|-------------------------------------------------------------------------------------------------|--------|
|   |   |                                                                                            |   |   |   |   |
|   |   | 31.1                                                                                            |   |   | Certification of Chief  Executive Officer and Principal Financial Officer Required by Rule 13a-14(a)  or Rule 15d-14(a) of the Securities Exchange Act of 1934, as Adopted Pursuant  to Section 302 of the Sarbanes-Oxley Act of 2002. Filed herewith. |   |
|   |   |                                                                                            |   |   |   |   |
|   |   | 32.1                                                                                            |   |   | Certification of Chief  Executive Officer and Principal Financial Officer Pursuant to 18 U.S.C.  Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of  2002. Filed herewith. |   |
|   |   |                                                                                            |   |   |   |   |
| (b)    |   | Reports on Form 8-K.                                                                            |   |
|   |   |                                                                                            |   |   |   |   |
|   |   | Current Report on Form 8-K  filed with the Securities and Exchange Commission on July 30, 2004. |   |
|        |        |                                                                                                 |        |  |  |  |  |  |  |  |  |

 

 

14

----

** **

**SIGNATURES**

 

 

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned, thereuntoduly authorized.

 
|                    | PALIGENT INC. |
|-------------------------|---------------|
|                    | (Registrant)  |
|                    |          |   |
| Date: November 12, 2004 | by:           | /s/ Salvatore A. Bucci |
|                    |          | Salvatore A. Bucci |
|                    |          | President and Chief  Executive Officer |

 

 

 

15

----

 

**EXHIBITINDEX**

 
| 31.1   |   | Certification of Chief  Executive Officer and Principal Financial Officer Required by Rule 13a-14(a)  or Rule 15d-14(a) of the Securities Exchange Act of 1934, as Adopted Pursuant  to Section 302 of the Sarbanes-Oxley Act of 2002. |
|--------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                   |
| 32.1   |   | Certification of Chief  Executive Officer and Principal Financial Officer Pursuant to 18 U.S.C.  Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of  2002.                                                  |

 

 

 

16

----