In its final annual earnings report before it spins out its drug discovery business (an event expected to take place around the end of this month), Pharmacopeia has disclosed financial details for its Accelrys software business that were previously unavailable.
The company’s 10-K for the 2003 fiscal year, filed with the US Securities and Exchange Commission on March 10, breaks out for the first time R&D expenses, costs of revenues, operating losses, and other information for Accelrys for the fiscal years 2001 through 2003 (see table, below). While Pharmacopeia had disclosed quarterly revenues for Accelrys in the past, it did not break out any other financial information for the software or discovery businesses.
But with the spin-off of the PDD discovery business nigh, Pharmacopeia has revisited its books to shed some light on the two businesses, revealing some very clear differences in their operations. In R&D spending, for example, Pharmacopeia cut back quite a bit between 2001 and 2003, but the bulk of the cuts were in drug discovery R&D, with software development costs remaining relatively healthy. Overall, R&D spending dropped 32 percent in two years, from $32.5 million in 2001 to $22.0 million in 2003, but the discovery group saw a 44 percent cut in R&D spending during that time — from $7.2 million in 2001 to $4.0 million in 2003 — while Accelrys got off relatively lightly with a 29 percent reduction over the two-year period, from $25.3 million in 2001 to $18.0 million in 2003. According to the report, a “key component” of Accelrys’ future product development activities will be “the extension of our core Unix-based software architecture to accommodate access to our products from desktop computers.”
An apparent commitment to software development is also evident from a comparison of R&D spending as a percentage of revenues for Accelrys and PDD. Both groups spent 27 percent of their annual revenues on R&D in 2001, but by 2003, this had dipped to 21 percent for Accelrys and only 14 percent for PDD.
But not all of Accelrys’ software comes from internal development efforts. Pharmacopeia noted in the report that it pays royalties to “approximately thirty-six partners for worldwide licenses to enhance and market certain software developed at universities, corporations, and other institutions.” In 2001, 2002, and 2003, the company’s royalty expenses under these agreements were $3.0 million, $3.2 million, and $2.8 million, respectively. Pharmacopeia said that it expects to continue to incur “about these levels” of annual future royalty obligations, based on existing agreements.
While Pharmacopeia has historically disclosed software revenues for Accelrys — the business group contributed $85.6 million of Pharmacopeia’s total revenues of $115.1 million in 2003 — the annual report provided a bit more granularity about the company’s software sales. For example, Pharmacopeia noted in the 10-K that software revenue in Europe and the US declined 14 percent between 2002 and 2003, while revenue in Asia increased 9 percent in the same period. Between 2002 and 2003, revenue for the company’s modeling and simulation software decreased 8 percent and informatics revenue declined by 15 percent.
Pharmacopoeia’s 10-K confirms that Accelrys bears responsibility for the bulk of the company’s losses as well as its revenues. The company reined in its losses overall between 2001 and 2003, with a total net loss of $3.5 million for 2003, compared to a net loss of $11.6 million in 2002 and a net loss of $14.3 million in 2001. While Pharmacopeia did not break out its net losses by business unit, it did provide operating losses for Acclerys and PDD. Operating losses for Accelrys narrowed significantly between 2001 and 2003, from $13.4 million in 2001 to $3.1 million in 2003; while PDD’s operating losses shrank from $6.6 million in 2001 to $2.1 million in 2002, but then widened again in 2003 to $2.6 million.
Pharmacopeia has attributed the diverging financial models of the two business units as a key reason for spinning out PDD and reinventing itself as a software company under the Accelrys name (and new ACCL ticker symbol). As the company explained in the 10-K, “The significantly different operating and financial models employed by our software and drug discovery units pervade the conduct of their respective businesses, affecting both day-to-day decisions and longer-term strategic initiatives. Our attempts to reconcile these divergent operating models often has required our management team to compromise in a way that is unsatisfactory for each business on a stand-alone basis.” The spin-off will allow both firms “to better respond to market conditions and opportunities in their respective business environments,” Pharmacopeia said.