REGENERX BIOPHARMACEUTICALS INC - Quarter Report: 2006 September (Form 10-Q)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-Q

Quarterly Report Under Section 13 or 15(d)

of the Securities Exchange Act of 1934

For the quarterly period ended September 30, 2006

Commission file number 0-15070

REGENERX BIOPHARMACEUTICALS, INC.

(Exact name of registrant as specified in its charter)

3 Bethesda Metro Center

Suite 630

Bethesda, Maryland 20814

(Address of principal executive offices)

Issuer’s telephone number, including area code: (301) 280-1992

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes  x     No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer  ¨             Accelerated filer  ¨             Non-accelerated filer  x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes  ¨    No  x

40,746,476 shares of RegeneRx Biopharmaceuticals, Inc. Common Stock, par value $.001 per share, were outstanding as of September 30, 2006.

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RegeneRx Biopharmaceuticals, Inc.

Form 10-Q

Quarterly Period Ended September 30, 2006

INDEX

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PART I – FINANCIAL INFORMATION

RegeneRx Biopharmaceuticals, Inc.

Balance Sheets

The accompanying notes are an integral part of these financial statements.

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RegeneRx Biopharmaceuticals, Inc.

Statement of Operations

(Unaudited)

The accompanying notes are an integral part of these financial statements.

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RegeneRx Biopharmaceuticals, Inc.

Statements of Cash Flows

(Unaudited)

The accompanying notes are an integral part of these financial statements.

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RegeneRx Biopharmaceuticals, Inc.

Notes to Financial Statements

For the nine-months ended September 30, 2006 and 2005 (Unaudited)

RegeneRx Biopharmaceuticals, Inc. (the “Company”, “We”, “Us”, “Our”, or “RegeneRx”), is focused on the discovery and development of novel molecules to accelerate tissue and organ repair. Currently, the Company is developing Thymosin beta 4 (“Tß4”), in part, under an exclusive world-wide license from the National Institutes of Health. Preliminary research suggests that Tß4 may prove efficacious for multiple indications, therefore, the Company is developing Tß4 as a therapeutic platform. The Company holds over fifty world-wide patents and patent applications related to dermal, ocular, and internal wounds and tissue repair, cardiac and neurological injuries, and septic shock. RegeneRx is currently sponsoring three Phase II dermal wound healing clinical trials and is pursuing FDA clearance to commence cardiac and ophthalmic human trials as part of its ongoing clinical development program.

The accompanying unaudited financial statements reflect, in the opinion of management, all adjustments (consisting of normal recurring adjustments) necessary for a fair presentation of our financial position, results of operations and cash flows for each period presented. These statements have been prepared in accordance with generally accepted accounting principles in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. These interim financial statements should be read in conjunction with the audited financial statements and related notes thereto, which are included in our Annual Report on Form 10-KSB for the year ended December 31, 2005. Similarly, this entire report should be read in conjunction with our Annual Report on Form 10-KSB for a broader understanding of our business and inherent risks.

The accompanying December 31, 2005 financial information was derived from audited financial statements. Operating results for the three and nine-month periods ended September 30, 2006 are not necessarily indicative of the results to be expected for the year ending December 31, 2006 or any other future period.

Net loss per share is based on the weighted average number of common shares outstanding during the three and nine month periods ended September 30, 2006 and September 30, 2005. During these periods, certain securities were not included in the calculation as their effect would be anti-dilutive. Securities that could potentially dilute basic net loss per share in the future, and that were not included in the calculation of diluted net loss per share, are as follows:

On January 1, 2006 we adopted Statement of Financial Accounting Standards No. 123 (revised 2004), “Share-Based Payment” (or “FAS 123R”), which supersedes our previous accounting under APB Opinion No. 25, “Accounting for Stock Issued to Employees” (or “APB 25”). FAS 123R requires the recognition of compensation expense, using a fair-value based method, for cost related to all share-based payments

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including stock options. FAS 123R requires companies to estimate the fair value of share-based payment awards on the date of grant using an option-pricing model. The value of the portion of the award that is ultimately expected to vest is recognized as expense on a straight-line basis over the requisite service periods in our Statements of Operations. We adopted FAS 123R using the modified prospective transition method, which requires that compensation expense be recognized in the financial statements for all awards granted after the date of adoption as well as for existing awards for which the requisite service has not been rendered as of the date of adoption. In accordance with the modified prospective transition method, our financial statements for prior periods have not been restated to reflect the impact of FAS 123R.

Prior to the adoption of FAS 123R, we accounted for stock-based awards to employees using the intrinsic value method in accordance with APB 25 as allowed under FAS No. 123, “Accounting for Stock-Based Compensation” (or “FAS 123”). Under the intrinsic value method, no employee stock-based compensation expense had been recognized in our Statement of Operations for any period prior to our adoption of FAS 123R on January 1, 2006, as the exercise price of the stock options granted to employees equaled the fair market value of the underlying stock at the date of grant.

A summary of compensation expense related to stock options follows:

Pro Forma Information for Period Prior to Adoption of FAS 123R

The following pro forma net loss and net loss per share were determined as if we had accounted for employee stock-based compensation for our employee stock plans under the fair value method prescribed by FAS 123.

Valuation assumptions

The fair value for each option granted was estimated as the date of grant using the Black-Scholes option-pricing model, assuming no expected dividends. The risk free rate of return was established for each award, based on the date of grant and the expected life of the award. Since our historical data is limited, the expected life was determined in accordance with SAB 107 guidance for “plain vanilla” options. The volatility was determined, based on the historical, closing price of the Company’s publicly-traded stock, as measured for a time period consistent with the expected life of the option. Approximate values of these assumptions follow:

Stock Option Activity

The following is a summary of option activity for the nine months ended September 30, 2006:

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The following table summarizes outstanding and exercisable options at September 30, 2006:

Our other comprehensive income or loss is comprised solely of unrealized gains and losses on our portfolio of available-for-sale, marketable securities. Annually, we present other comprehensive income or loss in our Statement of Stockholders Equity, and in a footnote during interim periods. For the nine month period ended September 30, 2006 we recognized an unrealized gain of $3,044, which reduced our accumulated other comprehensive loss from $3,044 at December 31, 2005 to $0 at September 30, 2006. During the three and nine month periods ended September 30, 2005, we recognized $2,159 in other comprehensive income.

Sale of Common Stock and Issuance of Warrants

On March 16, 2006 we sold 2,591,952 shares of common stock for $7,283,398 ($2.81 per share). Included in the sale were warrants to purchase an additional 907,182 shares of common stock at $4.06 per share. These warrants are exercisable from September 16, 2006 to March 16, 2011.

Exercise of Warrants

The following table summarizes outstanding and exercisable warrants at September 30, 2006:

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This report contains forward-looking statements concerning matters that involve risks and uncertainties. Statements made in this Item that are not purely historical, including statements about us, our respective clinical trials, research programs, product pipelines, current and potential corporate partnerships, licenses and intellectual property, the adequacy of capital reserves and anticipated operating results and cash expenditures, are forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934 (the “Exchange Act”), as amended and Section 27A of the Securities Act of 1933, as amended. Words such as “believes,” “likely,” “may,” and “plans” are intended to identify forward-looking statements, although not all forward-looking statements contain these words. These forward-looking statements concern matters that involve risks and uncertainties that could cause actual results to differ materially from those projected, including risks associated with the success of research and product development programs, the issuance and validity of patents, the development and protection of proprietary technologies, the ability to raise capital, operating expense levels and the ability to establish and retain corporate partnerships, our history of operating losses and the risks set forth under Part II, Item 1A., “Risk Factors.” We do not undertake any obligation to update forward-looking statements. The following should be read in conjunction with our financial statements included in Item 1, and the financial statements in our Annual Report on Form 10-KSB for the year ended December 31, 2005 and in other documents filed by us from time to time with the Securities and Exchange Commission.

Overview

RegeneRx is a biopharmaceutical company focused on the discovery and development of novel molecules to accelerate tissue and organ repair. Currently, we are developing Thymosin beta 4 (“Tß4^”), in part, under an exclusive world-wide license from the National Institutes of Health. Preliminary research suggests that Tß4 may prove efficacious for multiple indications. We are, therefore, developing Tß4 as a therapeutic platform. We hold over fifty world-wide patents and patent applications related to dermal, ocular, and internal wounds and tissue repair, cardiac and neurological injuries, and septic shock. We are currently sponsoring, in parallel, three Phase II dermal wound healing clinical trials that we estimate will be fully enrolled by the second quarter of 2007, depending on patient accrual rates. Under our investigational new drug application (“IND”) for dermal wound healing, Sigma-Tau is conducting one of these Phase II clinical trials in the European Union and will assume all associated costs. Additionally, we have commenced pre-clinical studies targeted at cardiac and ophthalmic indications and expect to submit INDs to the U.S. Food and Drug Administration (“FDA”) for the initiation of clinical trials for these indications during the first quarter of 2007.

We have incurred significant losses since our inception. As of September 30, 2006 our accumulated deficit was $54.7 million. We have incurred net losses due to expenditures for research and development, clinical trials, contract manufacturing, and general and administrative services in support of our operations. We anticipate incurring net losses over at least the next several years as we continue our clinical trials, apply for regulatory approvals, develop our technology, and expand our operations to support the commercialization or out-licensing of our drug candidates.

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We also anticipate incurring additional losses for several years as we expand our drug discovery and development programs. We expect that losses will fluctuate from quarter to quarter and that such fluctuations may be substantial. We do not expect to generate revenues from our drug discovery and development efforts for several years, if at all. If we are unable to successfully develop and market pharmaceutical products over the next several years, our business, financial condition and results of operations would be adversely impacted.

In July 2005, the first European patent related to Tß4 wound healing technology, licensed from the National Institutes of Health in Bethesda, Maryland, was granted to the Company. The original patent application, filed in 1999, claims numerous compositions, uses and processes related to Tß4. The grant of the European Patent is being opposed by a third party in a proceeding at the European Patent Office, and we cannot guarantee that any or all of the granted claims will prevail. To date, other related patents have been allowed or issued in China, Hong Kong, Australia and Mexico. Similar patent applications have been submitted in other territories throughout the world, including the U.S. and Asia. We have independently filed over fifty additional world-wide patent applications related to the technology platform.

We utilize an out-sourcing business strategy that we believe is cost effective and allows us the flexibility to implement or modify projects as needed. This strategy employs contract research and development organizations (“CROs”), which have established workforces and facilities to manufacture and formulate our products, as well as conduct clinical trials and perform other product development activities. During the quarter ended Septemeber 30, 2007, for instance, we capitalized on the flexibility of this strategy by changing the CRO managing our US dermal trials. This change was made with the objective to accelerate patient accrual. This strategy also allows us to spend significantly less capital for infrastructure and other fixed costs, all of which we believe maximizes shareholder value. We will, therefore, continue to operate our out-sourcing strategy in the near term.

Critical Accounting Policies

Share-based payment – Effective January 1, 2006, we adopted the fair value recognition provisions of FASB Statement No. 123R, using the modified prospective transition method, and therefore have not restated results for prior periods. Under this method we recognize compensation expense for all share-based payments granted to employees after January 1, 2006 and prior to but not yet vested as of January 1, 2006, in accordance with Statement No. 123R. Under the fair value recognition provisions of Statement No. 123R, we recognize stock-based compensation net of an estimated forfeiture rate and only recognize compensation cost for those shares expected to vest on a straight-line basis over the requisite service period of the award. Prior to Statement No. 123R adoption, we accounted for share-based payments to employees under Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (“APB 25”) and accordingly, generally recognized compensation expense only when we granted options with a discounted exercise price.

Determining the appropriate fair value model and calculating the fair value of share-based payment awards require the input of highly subjective assumptions, including the expected life of the share-based payment awards and stock price volatility. Since our historical data is limited, the expected life was determined in accordance with SAB 107 guidance for “plain vanilla” options. Since our historical trading volume is relatively low, we estimated the expected volatility based on monthly closing prices for a period consistent with the expected life of the option. The assumptions used in calculating the fair value of share-based payment awards represent management’s best estimates, but these estimates involve inherent uncertainties

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and the application of management judgment. As a result, if factors change and we use different assumptions, our stock-based compensation expense could be materially different in the future. In addition, we are required to estimate the expected forfeiture rate and only recognize expense for those shares expected to vest. If our actual forfeiture rate is materially different from our estimate, the stock-based compensation expense could be significantly different from what we have recorded in the current period. See Note C to the Financial Statements for a further discussion on stock-based compensation.

Clinical trial costs – We accrue estimated costs for clinical studies conducted by contract research organizations and participating hospitals. These costs are a significant component of research and development expenses. We accrue costs for clinical studies performed by contract research organizations based on estimates of work performed under the contracts. Costs of setting up hospital sites for participation in trials are accrued immediately. Hospital costs related to patient enrollment are accrued as patients are entered in the trial.

Results of operations for the three and nine months ended September 30, 2006 and 2005

Research and development expenses

Research and development expenses were $1.57 million for the three months ended September 30, 2006, compared to $1.14 million for the corresponding period in 2005. The $430,000 increase in costs relates to (1) increased drug formulation activities, site qualifications and protocol development for our planned ophthalmic and cardiac trials compared to the preliminary work underway in these two areas last year, and (2) additional internal clinical staff, including approximately $60,000 of additional non-cash equity compensation expense due to the adoption of SFAS 123R, more fully explained in Note C to the Financial Statements. Research and development is comprised of all internal and external costs to support our clinical programs, including: drug manufacture, formulation, and stability; fees to clinical trial sites; and, other outside services such as clinical program management.

For the nine months ended September 30, 2006, our research and development expenses were $5.63 million compared to $2.19 million for the corresponding period in 2005. The $3.44 million increase includes a net $1.19 million purchase of Tß4 over those made in 2005, $0.18 million of additional non-cash equity compensation expenses, additional internal clinical staff and the expanded clinical development efforts for the ophthalmic and cardiac indications mentioned previously.

General and administrative expenses

While general and administrative costs remained flat for the nine months ended September 30, 2006 as compared to 2005, except for the effects of FAS 123R, these expenses increased by $0.19 million (60%) to $0.51 million for the three months ended September 30, 2006, compared to $0.32 million for the corresponding period in 2005. ,This quarterly, year-over-year difference relates to an increase of $0.07 million for non-cash stock compensation expense, $0.04 million for a more active investor relations campaign and revised web site, $0.04 million for Board expenses, $0.02 million for personnel costs and $0.02 million for outside professional fees. General and Administrative expenses are comprised of the direct and indirect expenses of our Board and executive management team, office facilities, outsourced service providers such as accountants/auditors, attorneys, investor relations, and information systems support.

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For the nine months ended September 30, 2006, our general and administrative expenses increased by $0.25 million (21.14%) to $1.45 million compared to $1.20 million for the corresponding period in 2005. This increase is primarily attributable to the increased non-cash stock compensation expenses of $0.25 million, with offsetting variances for increased personnel costs of $0.12 million, and reduced outside professional costs of $0.12 million, .

Interest income

Interest income was $0.14 million and $0.39 million for the three and nine month periods ended September 30, 2006 respectively, compared to $0.07 million and $0.13 million for the respective corresponding periods in 2005. These increases in interest income are due to (1) increases in the average amounts invested, which have resulted from new equity financings, (2) the implementation of an actively-managed investment strategy, and (3) the overall market improvement in investment returns.

Liquidity and capital resources

Sources of liquidity

Since inception we have financed our operations through the sale of equity securities. At September 30, 2006 we had $9.43 million in cash, cash equivalents and short-term investments.

Cash used in operating activities for the nine months ended September 30, 2006 increased by $2.55 million to $5.73 million as compared with $3.18 million in 2005.

Cash used in investing activities for the six months ended September 30, 2006 was $1.34 million compared with $5.11 million in 2005. These differences are threefold. First, in 2005 approximately $0.06 million was expended to furnish our new offices compared to just $0.01 million in 2006. Second, $0.31 million in patent costs were capitalized in 2005 compared to $0 in 2006. Due to the early stage of our technology, all costs associated with our patents are expensed, unless the estimated recoverability of these costs is sufficiently probable in the near term. Finally, we commenced an actively managed investment portfolio in the third quarter of 2005, with associated investments in short-term securities. For the nine months ended September 30, 2005 we invested a net $4.74 million in short-term securities, compared to of $1.33 million in 2006.

Cash provided by financing activities for the nine months ended September 30, 2006 was $7.59 million compared to $9.55 million in 2005. Each period has its own unique set of equity financing transactions that are more thoroughly discussed in Note E to the financial statements contained herein, and in our Annual Report on Form 10-KSB for the year ended December 31, 2005.

Although no assurance can be given, we believe that our current cash and investment balances will be sufficient to meet our operating needs into the second quarter of 2007. However, those activities will not be sufficient to bring our drug candidates to market and we therefore believe new capital resources will be required, in the coming months, to continue our independent development efforts. Accordingly, we may entertain the possibility of raising additional capital to preserve our liquidity, depending on a number of conditions, including conditions in the capital markets. We regularly consider the conditions of capital markets, dilution, stockholder value and tax consequences of each type of financing. Certain of the financing options available to us may have negative consequences to stockholders such as dilution. Given the volatile nature of the capital markets, decisions to raise capital may require actions that would impose a negative consequence in order to reduce or minimize a more significant negative consequence to stockholders.

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Contractual obligations

Our contractual obligations as of September 30, 2006 consist of an office facility lease and obligations to purchase Tß4, as follows:

We also have $2,610,000 in other contractual obligations due within one year and related to our research and development efforts. These obligations, however, are contingent on future events, e.g. the rate of patient accrual in our clinical trials. This amount represents the remaining contractual amounts due under various contracts, although all of these contracts could be cancelled by us, in which case we would only be liable to the vendors for work performed to the date of cancellation.

Off Balance Sheet Arrangements

We have no material off-balance sheet arrangements other than those that are discussed above.

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Our investments in marketable securities, which are composed primarily of investment-grade corporate bonds, U.S. government agency debt securities and mortgage and asset-backed securities, are subject to default, changes in credit rating and changes in market value. These investments are also subject to interest rate risk and will decrease in value if market interest rates increase. As of September 30, 2006, cash, cash equivalents and short-term investments were $9.43 million. Due to the nature of these investments, if market interest rates were to increase immediately and uniformly by 10% from levels as of September 30, 2006, the decline in fair value would not be material.

As of the end of the period covered by this report, based on an evaluation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) each of the chief executive and chief financial officers of the Company has concluded that our disclosure controls and procedures are effective to ensure that information required to be disclosed by the Company in its Exchange Act reports is recorded, processed, summarized and reported within the applicable time periods specified by the SEC’s rules and forms.

There were no significant changes in our internal controls or in any other factors that could significantly affect those controls subsequent to the date of the most recent evaluation of our internal controls, including any corrective actions with regard to any significant deficiencies or material weaknesses.

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PART II – OTHER INFORMATION

None

There were no material changes to the Risk Factors disclosed in the Company’s Annual Report on Form 10-KSB for the year ended December 31, 2005.

None

None

None

None

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SIGNATURES

In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

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