The operating results of discontinued operations of Dr. Pave and Dr. Pave WorldwideAmortization expense was $397,664 for the three and six months ended June 30, 20172020 and 20162019 and is included within research and development expense in the accompanying condensed consolidated statements of operations. Our estimated amortization expense for the next year will be approximately $795,000 per year and for annual periods thereafter approximately $788,000 per year.

The capitalized costs for the license rights to PCS499 included the $8 million purchase price, $1,782 in transaction costs and $3,037,147 associated with the initial recognition of an offsetting deferred tax liability related to the acquired temporary difference for an asset purchased that is not a business combination and has a tax basis of $1,782 in accordance with ASC 740-10-25-51 Income Taxes. In accordance with ASC Topic 730, Research and Development, we capitalized the costs of acquiring the exclusive license rights to PCS499, as the exclusive license rights represent intangible assets to be used in research and development activities that management believes has future alternative uses.

Note 3 – Income Taxes

We account for income taxes in accordance with ASC Topic 740, Income Taxes. Deferred income taxes are summarized below:

The were norecorded for the expected tax consequences of temporary differences between the tax basis of assets orand liabilities from discontinued operations asfor financial reporting purposes and amounts recognized for income tax purposes. As of June 30, 20172020, and December 31, 2016.2019, we recorded a valuation allowance equal to the full recorded amount of our net deferred tax assets related to deferred start-up costs and other minor temporary differences since it is more-likely-than-not that such benefits will not be realized. The valuation allowance is reviewed quarterly and is maintained until sufficient positive evidence exists to support its reversal.

4.

NOTES PAYABLE:

Notes consistedA deferred tax liability was recorded on March 19, 2018 when Processa received CoNCERT’s license and “Know-How” in exchange for Processa stock that had been issued in the Internal Revenue Code Section 351 Transaction. The Section 351 Transaction treats the acquisition of the followinglicense and Know-How for stock as a tax-free exchange. As a result, under ASC 740-10-25-51 Income Taxes, Processa recorded a deferred tax liability of June 30, 2017

Based upon$3,037,147 for the Company’sacquired temporary difference between intangible assets (see Note 2) for the financial position,reporting basis of $11,038,929 and the Company does not believe ittax basis of $1,782. The deferred tax liability will be ablereduced for the effect of non-deductibility of the amortization of the intangible asset and may be offset by the deferred tax assets resulting from net operating tax losses.

Under ACS 740-270 Income Taxes – Interim Reporting, we are required to satisfyproject our annual federal and state effective income tax rate and apply it to the mandatory principal payments in 2017.  The Company will work with the lendersyear to explore extension or conversion options.  There is no guarantee the lenders will accommodate our requests.  The Company is in default in regard to interest paymentsdate ordinary operating tax basis loss before income taxes. Based on the notes,projection, we expect to recognize the Company’stax benefit from our projected ordinary tax loss, which can be used to offset the deferred tax liabilities related to the intangible assets may be foreclosed upon.

5.

STOCKHOLDERS’ EQUITY:

Stock Options

The Company recognized no stock-based compensation expense duringand resulted in the three andrecognition of a deferred tax benefit shown in the condensed consolidated statements of operations for six months ended June 30, 20172020 and $1,629 and $6,6912019. No current income tax expense is expected for the foreseeable future as we expect to generate taxable net operating losses.

Note 4 – Stock-based Compensation

We did not grant any stock options to our employees or non-employees during the three and six months ended June 30, 2016, respectively.

As of June 30, 2017, there is no unrecognized compensation expense related to2020. During the issuance of the stock options.

8

Performance Stock Options

There were no performance stock options granted during the three and six months ended June 30, 20172019, we granted 129,919 stock options to employees and 2016.

Warrants

Therenon-employees under the 2019 Omnibus Incentive Plan. At June 30, 2020, we had outstanding options to purchase 169,329 shares of our common stock of which options for the purchase of 56,853 shares of our common stock were no warrants issued duringvested. We recorded $192,532 and $125,035 of stock-based compensation expense for the three and six months ended June 30, 2017.2020 and 2019, respectively.

6.Note 5 – 2019 Senior 8% Convertible Notes Payable

NET LOSS PER COMMON SHARE:

During the fourth quarter of 2019 existing shareholders purchased $805,000 of 8% Senior Convertible Notes (“2019 Senior Notes”) from us. The 2019 Senior Notes bear interest at 8% per year and if converted, the interest is payable in kind (in common stock). The 2019 Senior Notes mature on December 15, 2020. At June 30, 2020 and December 31, 2019, we had $805,000 of 2019 Senior Notes outstanding.

The Company computes loss2019 Senior Notes are convertible by the holder upon (i) completion of listing our common stock on either the Nasdaq Capital Market or the New York Stock Exchange or if we raise at least $14 million, prior to December 15, 2020, the maturity date of the 2019 Senior Notes, in one or more qualified financings. If the 2019 Senior Notes are not paid or converted prior to their maturity date, the principal and any accrued interest will be automatically or mandatorily converted into our common stock. The 2019 Senior Notes, plus any accrued interest, is convertible into shares of our common stock at a conversion price equal to the lower of (i) $14.28 per share of common stock using the two-class method required for participating securities.  The Company’s participating securities include all series of its convertible preferred stock.  Undistributed earnings allocated to these participating securities are added to net loss in determining net loss applicable to common stockholders.  Basic and Diluted lossor (ii) a price per share are computed by dividing net loss applicableequal to common stockholder bya 10% discount to the weighted-averagepre-money valuation of a Qualified Financing or an Equity State Transaction, both as defined in the 2019 Senior Note agreement, occurring after the closing of the 2019 Senior Note financing. Upon either mandatory conversion or conversion at the holder’s option, the holder will also receive stock purchase warrants on a 1:1 basis to the number of shares of common stock outstanding.received that have an exercise price equal to the greater of (i) the closing price of our common stock on the date of conversion or (ii) $19.04 per share.

Outstanding optionsThe 2019 Senior Notes provide the holders with (a) the option of receiving 110% of principal plus accrued interest in the event there is a change of control prior to conversion of the 2019 Senior Notes; (b) weighted-average anti-dilution protection in event of any sale of securities at a net consideration per share that is less than the applicable conversion price per share to the holder until we have raised an additional $14 million from the sale of certain securities; and (c) certain preemptive rights pro rata to their respective interests through December 31, 2021.

The 2019 Senior Notes contains negative covenants that do not permit us to incur additional indebtedness or liens on property or assets owned, repurchase common stock, pay dividends, or enter into any transaction with affiliates of ours that would require disclosure in a public filing with the Securities and Exchange Commission. Upon an event of default, the outstanding principal amount of the Senior Notes, plus accrued but unpaid interest and other amounts owing in respect thereof through the date of acceleration, shall become immediately due and payable in cash at the holder’s election, if not cured within the cure period.

We incurred $4,280 in debt issuance costs related to the 2019 Senior Notes. The debt issuance costs are amortized to interest expense using straight line amortization over the term of the 2019 Senior Notes.

Note 6 – Related Party Line of Credit Agreements

On September 20, 2019, we entered into two separate Line of Credit Agreements (“LOC Agreements”) with DKBK Enterprises, LLC (“DKBK”) and CorLyst, LLC (“CorLyst”), both related parties (“Lenders”), which provide a revolving commitment of up to $700,000 each ($1.4 million total). Under the LOC Agreements, all funds borrowed bear an 8% annual interest rate. The lenders have the right to convert all or any portion of the debt and interest into shares of our common stock at a conversion price equal to the lower of (i) $14.28 per share, (ii) a price per share equal to a 10% discount to the pre-money valuation of a Qualified Financing or an Equity Stake Transaction, or (iii) at an adjusted price; all as defined in the 2019 Senior Note agreement. The Lenders will also receive stock purchase warrants on a 1:1 basis to the number of shares of common stock received that have an exercise price equal to the greater of (i) the closing price of our common stock on the date of conversion or (ii) $19.04 per share at the time of conversion.

Our Chief Executive Officer (CEO) is also the CEO and Managing Member of both lenders. DKBK directly holds 16,166 shares of our common stock, representing less than 1% of our outstanding common stock, and CorLyst beneficially owns 1,095,649 shares of our common stock, representing 19.9% of our outstanding common stock at June 30, 2020. In April and June 2020, we drew $500,000 under the LOC Agreement with DKBK. On July 21, 2020, we drew an additional $200,000, bringing the total amount drawn under the LOC Agreement with DKBK to $700,000.

Note 7 – Paycheck Protection Program Loan

In May 2020, we entered into a $162,459 Paycheck Protection Promissory Note (the “PPP Loan”) with the Bank of America. The PPP Loan was made under, and is subject to the terms and conditions of, the PPP which was established under the CARES Act and is administered by the U.S. Small Business Administration. The current terms of the loan is two years with a maturity date of May 5, 2022 and it contains a favorable fixed annual interest rate of 1.00%. Payments of principal and interest on the PPP Loan is deferred for the first six months of the term of the PPP Loan until November 5, 2020. Principal and interest are payable monthly and may be prepaid by us at any time prior to maturity with no prepayment penalties. Under the terms of the CARES Act, recipients can apply for and receive forgiveness for all, or a portion of the loan granted under the PPP. Such forgiveness will be determined, subject to limitations, based on the use of loan proceeds for certain permissible purposes as set forth in the PPP, including, but not limited to, payroll costs, mortgage interest, rent or utility costs (collectively, “Qualifying Expenses”), and on the maintenance of employee and compensation levels during a certain time period following the funding of the PPP Loan. We have used the proceeds of our PPP Loan for payroll costs. However, no assurance is provided that we will be able to obtain forgiveness of the PPP Loan in whole or in part. As of June 30, 2020, $72,203 of the total $162,459 PPP-related debt is classified as a current liability on our condensed consolidated balance sheets.

Note 8 – Stockholders’ Equity

On September 30, 2019, our Pledge Agreement with PoC Capital was amended to reduce the committed funds under this Agreement from $1.8 million to $900,000, which was paid in full as of December 31, 2019. As part of the Pledge Agreement amendment, PoC Capital forfeited the pledged collateral (56,640 shares of our common stock and warrants underlying 1,754,478to purchase 56,640 shares do not assume conversion, exercise or contingent exerciseof our common stock) in the computationamended agreement. The forfeited shares of dilutedour common stock and stock purchase warrants have been returned to us.

We determined the sale of the 2019 Senior Notes in late 2019 which are convertible into common stock at a conversion rate of $14.28 per share, triggered the full ratchet anti-dilution provision of common stock we sold in our 2018 Private Placement Transactions. As a result, those shareholders were entitled to 28,971 shares of common stock in the fourth quarter of 2019, which we issued on June 18, 2020. We accounted for these shares at December 31, 2019 as a deemed dividend payable at their par value.

On June 25, 2020, we amended our Certificate of Incorporation reducing the number of authorized shares of our common stock from 100,000,000 to 30,000,000. We believe 100,000,000 authorized shares of common stock was disproportionately large in relation to the Company’s outstanding common stock and our anticipated future needs, and the reduction will reduce our future Delaware franchise tax.

We have not had any sales of our preferred stock since we were incorporated on March 29, 2011 and there were no issued or outstanding shares of preferred stock at June 30, 2020 or December 31, 2019.

Note 9 – Net Loss per Share of Common Stock

Basic net loss per share becauseis computed by dividing net loss by the weighted average common shares outstanding. Diluted net loss per share is computed by dividing net loss by the weighted average common shares outstanding, which includes potentially dilutive effect of stock options, warrants and senior convertible notes. Since we experienced a loss for both periods presented, including any dilutive common shares outstanding would be anti-dilutive.

The calculation of the numerator and denominator for basic andhave an anti-dilutive impact on diluted net loss per common share, and as shown below were excluded from the computation. The treasury-stock method is as follows:

7.

COMMITMENTS AND CONTINGENCIES:

Vendorsused to determine the dilutive effect of our stock options and Debt - The Company has significant liabilities as of June 30, 2017 with limited cash flow generated bywarrants grants, and the sale of Company assets and revenue.  The Company has $238,806 in accounts payable and accrued expenses from continuing operations.  In addition,if-converted method is used to determine the Company has $2,253,871 in debt and accrued interest from continuing operations.  The Company will work with their vendors and lenders to establish payment plans, explore extensions and conversion of debt.

8.

RELATED PARTY TRANSACTIONS:

Dividend and Interest activity

Justin Yorke is the managerdilutive effect of the JMW Fund, LLC, the San Gabriel Fund, LLC, and the Richland Fund, LLC; and is a director of the Company.  Mr. McGrain, our Interim Chief executive officer and Interim Chief financial officer is also a member of the JMW Fund, LLC, the San Gabriel Fund, LLC, and the Richland Fund, LLC.  These funds own 4,725,721 shares of common stock and holds warrants to purchase 1,278,186 common shares in the aggregate.Senior Notes.

The Company had secured notes payable with the JMW Fund, LLC, the San Gabriel Fund, LLC and the Richland Fund, LLC in the aggregate amountcomputation of $1,037,361 as of June 30, 2017 and $962,361 as of December 31, 2016.  The funds had an aggregate outstanding balance of $138,000 on the revolving line of credit as of June 30, 2017 and December 31, 2016.  Mr. Yorke, as the manager of these funds, earned interest from loans payablenet loss per share for the three and six months ended June 30, 20172020 and 2019 was as follows:

The following potentially dilutive securities were excluded from the computation of $48,093diluted net income per share as their effect would have been anti-dilutive for the periods presented.

Note 10 – Leases

We lease our office space under an operating lease agreement. This lease does not have significant rent escalation, concessions, leasehold improvement incentives, or other build-out clauses. Further, the lease does not contain contingent rent provisions. We also lease office equipment under an operating lease. Our office space lease includes both lease (e.g., fixed payments including rent, taxes, and $94,889, respectively;insurance costs) and non-lease components (e.g., common-area or other maintenance costs), which are accounted for as a single lease component as we have elected the practical expedient to group lease and non-lease components for all leases. Our leases do not provide an implicit rate and, as such, we have used our incremental borrowing rate of 8% in determining the present value of the lease payments based on the information available at the lease commencement date.

Lease costs included in our condensed consolidated statement of operations totaled $23,995 and $24,729 for the three months ended June 30, 2020 and 2019, respectively, and $48,201 and $49,302 for the six months ended June 30, 20162020 and 2019, respectively. The weighted average remaining lease terms and discount rate for our operating leases were as follows at June 30, 2020:

Maturities of $47,316 and $97,055, respectively. Total accrued interestour lease liabilities for all operating leases were as follows as of June 30, 20172020:

Note 11 – License Agreement with Aposense, Ltd.

On May 24, 2020 we executed a condition precedent License Agreement (“Aposense Agreement”) with Aposense under which they will provide us with an exclusive worldwide license (excluding China) to research, develop and 2016 was $427,455commercialize products comprising or containing PCS11T. The grant of license is conditioned on the following being satisfied within 9 months of May 24, 2020 (or the Aposense Agreement shall terminate): (i) our closing of an equity financing and $332,566, respectively.successful up-listing to Nasdaq and (ii) Aposense obtaining the approval of the Israel Innovation Authority for the consummation of the transactions contemplated by the Aposense Agreement. Within five business days of satisfying the conditions, we must issue Aposense a number of shares of common stock determined by dividing $2.5 million by the price per share paid by such investors in equity financing. Such shares will be subject to a lock-up, with 40% of such shares released from such lock up after six months and the remaining two 30% tranches to be released upon completion of the next two subsequent quarters. As additional consideration, we will pay Aposense development and regulatory milestone payments (up to $3.0 million per milestone) upon the achievement of certain milestones, which primarily consist of having a drug indication approved by a regulatory authority in the United States or another country. In addition, we must pay Aposense one-time sales milestone payments based on the achievement during a calendar year of one or more thresholds for annual sales for products made and pay royalties based on annual licensing sales. We are also required to split any milestone payments we receive with Aposense based on any sub-license agreement we may enter into.

SUPPLEMENTAL CASH FLOW INFORMATION:

10.

SUBSEQUENT EVENTS:

We are required to use commercially reasonable efforts, at our sole cost and expense, to research, develop and commercialize products in one or more countries, including meeting specific diligence milestones that consist of (i) submitting an IND for a drug indication within 30 months following the satisfaction of the license conditions above; (ii) dosing of a first patient with a product within 42 months following the satisfaction of the license conditions above; (iii) dosing of a first patient with a product in a pivotal clinical trial within 72 months following the satisfaction of the license conditions above and (iv) an NDA submission within 120 months following the satisfaction of the license conditions above. Either party may terminate the Aposense Agreement in the event of a material breach of the license agreement that has not been cured following written notice and a 90-day opportunity to cure such breach (which is shortened to 15 days for a payment breach).

Note 12 – Related Party Transactions

CorLyst reimburses us for shared costs related to payroll, health care insurance and rent based on actual costs incurred, which are recognized as a reduction of our general and administrative operating expenses being reimbursed in our condensed consolidated statement of operations. We recorded $25,928 and $52,464 of reimbursements during the six months ended June 30, 2020 and 2019, respectively. Amounts due from CorLyst at June 30, 2020 and December 31, 2019 were $24,713 and $0, respectively.

At June 30, 2020, we also had approximately $1,700 due from certain employees for health insurance contributions. We did not have evaluated all events that occurred aftercomparable a similar receivable at December 31, 2019.

Note 13 – Commitments and Contingencies

Purchase Obligations

We enter into contracts in the balance sheet date through the date whennormal course of business with contract research organizations and subcontractors to further develop our financial statementsproducts. The contracts are cancellable, with varying provisions regarding termination. If a contract with a specific vendor were issued to determine if they must be reported. Management has determined that other than as disclosed below, there were no additional reportable subsequent events to be disclosed.

Debt offerings

The Company entered into Secured notes under the senior secured loan agreement in the aggregate amount of $15,000 on July 26, 2017; $105,000 on August 7, 2017 and $132,000 on September 21, 2017.

Other

On July 17, 2017, the Company issued a press release entitled “Heatwurx Announces Letter of Intent with Promet Therapeutics, LLC Relating to a Reverse Merger” in which the Company disclosedterminated, we would only be obligated for products or services that it has entered into a non-binding letter of intent to engage in a reverse merger with Promet Therapeutics, LLC.

Board of Directors

On August 24, 2017, Mr. Justin Yorke and Mr. Christopher Bragg were appointed to the Board of Directorswe received as of the Company.effective date of the termination and any applicable cancellation fees. We had no purchase obligations at June 30, 2020.

ITEM

Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONSManagement’s Discussion and Analysis of Financial Condition and Results of Operation

Forward Looking Statements

This Quarterly Report on Form 10-Q contains “forward-looking statements” that reflect, when made, the Company’s expectations or beliefs concerning future events that involve risks and uncertainties. Forward-looking statements frequently are identified by the words “believe,” “anticipate,” “expect,” “estimate,” “intend,” “project,” “will be,” “will continue,” “will likely result,” or other similar words and phrases. Similarly, statements herein that describe the Company’s objectives, plans or goals also are forward-looking statements. Actual results could differ materially from those projected, implied or anticipated by the Company’s forward-looking statements. Some of the factors that could cause actual results to differ include: our limited operating history, limited cash and history of losses; our ability to achieve profitability; our ability to obtain adequate financing to fund our business operations in the future; the impact of the global pandemic caused by the novel coronavirus, COVID-19, including its impact on our ability to obtain financing or complete clinical trials; our ability to secure required FDA or other governmental approvals for our product candidates and the breadth of the indication sought; the impact of competitive or alternative products, technologies and pricing; whether we are successful in developing and commercializing our technology, including through licensing; the adequacy of protections afforded to us and/or our licensor by the anticipated patents that we own or license and the cost to us of maintaining, enforcing and defending those patents; our and our licensor’s ability to protect non-patented intellectual property rights; our exposure to and ability to defend third-party claims and challenges to our and our licensor’s anticipated patents and other intellectual property rights; and our ability to continue as a going concern. For a discussion of these and all other known risks and uncertainties that could cause actual results to differ from those contained in the forward-looking statements, see “Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019, which is available on the SEC’s website at www.sec.gov. All forward-looking statements are qualified in their entirety by this cautionary statement, and the Company undertakes no obligation to revise or update this Quarterly Report on Form 10-Q to reflect events or circumstances after the date hereof.

For purposes of this Management’s Discussion and Analysis of Financial Condition and Results of Operations, references to the “Company,” “we,” “us” or “our” refer to the operations of Processa Pharmaceuticals, Inc. and its direct and indirect subsidiaries for the periods described herein.

Overview

We are an emerging pharmaceutical company focused on the clinical development of drug products that are intended to improve the survival and/or quality of life for patients who have a high unmet medical need. Within this group of pharmaceutical products, we currently are developing one product for multiple indications (i.e., the use of a drug to treat a particular disease) and will begin developing newly acquired drugs (PCS11T and PCS100) once adequate funding has been obtained. We continue searching for additional products for our portfolio that meet our criteria.

On October 4, 2017, we acquired all the net assets of Promet Therapeutics, LLC (“Promet) a private Delaware limited liability company, including the rights to the CoNCERT Agreement in exchange for 4,535,036 shares of our common stock. Immediately following the transaction, the former equity holders of Promet owned approximately 84% and held approximately 6% of the shares for the benefit of CoNCERT in relation to the CoNCERT contribution of the license to Processa as part of the Section 351 transaction, and our stockholders immediately prior to the transaction owned approximately 10% of our common stock. In March 2018, Promet released 298,615 shares to CoNCERT in connection with exercising the license and option agreement. Promet has since distributed the remaining 4,236,421 shares of the common stock it held to its partners. We accounted for the net asset acquisition transaction as a “reverse acquisition” merger under the acquisition method for GAAP, where Promet was considered the accounting acquirer; and for tax purposes, as a tax-free contribution under Internal Revenue Code Section 351.

We have a limited operating history as we were formed on March 29, 2011. Since that date, our operations have focused on acquiring the rights to PCS499, PCS11T, PCS100; organizing and staffing our company; business planning; raising capital; establishing our intellectual property portfolio and conducting clinical trials. We do not have any drug candidates approved for sale and have not yet generated any revenue from drug sales. We have funded our operations through the private sale of equity and equity-linked securities to accredited investors. Since inception, we have incurred operating losses. As of June 30, 2020, we had an accumulated deficit of $12.6 million. We expect to continue to incur significant expenses and operating losses for the foreseeable future. We anticipate that our expenses will increase significantly in connection with our ongoing activities, as we:

Going Concern and Management’s Plan

Our condensed consolidated financial statements have been prepared using U.S. GAAP and are based on the assumption that we will continue as a going concern, which contemplates the realization of assets and liquidation of liabilities in the normal course of business. We face certain risks and uncertainties that are present in many emerging pharmaceutical companies regarding product development and commercialization, limited working capital, recurring losses and negative cash flow from operations, future profitability, ability to obtain future capital, protection of patents, technologies and property rights, competition, rapid technological change, navigating the domestic and major foreign markets’ regulatory and clinical environment, recruiting and retaining key personnel, dependence on third party manufacturing organizations, third party collaboration and licensing agreements, lack of sales and marketing activities. We currently have no customers or pharmaceutical products to sell or distribute. These risks and other factors raise substantial doubt about our ability to continue as a going concern.

We have relied primarily on private placements with a small group of accredited investors to finance our business and operations. As described in more detail below, we recently entered into two line of credit agreements with related parties providing a revolving commitment of an aggregate of up to $1.4 million. We have not had any revenue since our inception. We are looking at ways to add a revenue stream to offset some of our expenses but do not currently have any revenue under contract or any immediate sales prospects. At June 30, 2020, we had an accumulated deficit of $12.6 million, and during the six months ended June 30, 2020, we incurred a net loss for the six months of $1,607,750 and used $897,029 in net cash from operating activities from continuing operations. At June 30, 2020, we had cash and cash equivalents totaling $452,654.

On September 20, 2019, we entered into two separate Line of Credit Agreements (“LOC Agreements”) to borrow up to $700,000 with current shareholders and related parties DKBK Enterprises, LLC (“DKBK”) and CorLyst, LLC (“CorLyst”) ($1.4 million total). Under the LOC Agreements, all funds borrowed bear an 8% annual interest rate. The lenders have the right to convert all or any portion of the debt and interest into shares of our common stock. Our Chief Executive Officer (CEO) is also the CEO and Managing Member of both lenders. DKBK directly holds 16,166 shares of our common stock, less than 1% of our outstanding common stock, and CorLyst beneficially owns 1,095,649 shares, representing 19.9% of our outstanding common stock. In April and June 2020, we drew $500,000 under the LOC Agreement with DKBK. On July 21, 2020, we drew an additional $200,000, bringing the total amount drawn under the LOC Agreement with DKBK to $700,000.

In December 2019, we closed our bridge financing and issued $805,000 of 2019 Senior Notes to accredited investors. In order to preserve cash, in August 2019 we began delaying some cash outflows, primarily through the deferred payment of certain salaries ($210,800 has been included in accrued expenses at June 30, 2020) until such time as we have raised sufficient funding.

In May 2020, we entered into a promissory note in favor of the Bank of America under the Small Business Administration Paycheck Protection Program of the Coronavirus Aid, Relief and Economic Security Act of 2020 (“the CARES Act”), for a $162,459 loan (“the PPP Loan”). We have used the loan proceeds for payroll costs in accordance with the relevant terms and conditions of the CARES Act.

We have begun the process of raising capital in an underwritten public offering, however, we have faced delays due to the global pandemic caused by the novel coronavirus, COVID-19. Based on our current plan, we will need to raise additional capital to fund our future operations. While we believe our current resources are adequate to complete the closeout of our current Phase 2A trial for NL, we do not currently have resources to conduct other future trials, such as the Phase 2B/3 clinical trial approved by the FDA, or to develop our other drug candidates without raising additional capital. We believe that our existing cash and LOC Agreements will enable us to fund our operating expenses and capital expenditure requirements into the third quarter of 2020.

Additional funding may not be available to us on acceptable terms, or at all. If we are unable to obtain adequate financing when needed, we may have to delay, reduce the scope of, or suspend our current or future clinical trial plans, or research and development programs. We may seek to raise any necessary additional capital through a combination of public or private equity offerings, debt financings, collaborations, strategic alliances, licensing arrangements and other marketing and distribution arrangements. To the extent that we raise additional capital through marketing and distribution arrangements or other collaborations, strategic alliances or licensing arrangements with third parties, we may have to relinquish valuable rights to our product candidates, future revenue streams, research programs or product candidates or to grant licenses on terms that may not be favorable to us. If we raise additional capital through public or private equity offerings, the ownership interest of our existing stockholders will be diluted, and the terms of these securities may include liquidation or other preferences that adversely affect our stockholders’ rights. If we raise additional capital through debt financing, we may be subject to covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, making capital expenditures or declaring dividends.

Uncertainty concerning our ability to continue as a going concern may hinder our ability to obtain future financing. Continued operations and our ability to continue as a going concern are dependent on our ability to obtain additional funding in the future and thereafter, and no assurances can be given that such funding will be available at all, in a sufficient amount, or on reasonable terms. Without additional funds from debt or equity financing, sales of assets, sales or out-licenses of intellectual property or technologies, or other transactions providing funds, we will rapidly exhaust our resources and be unable to continue operations. Absent additional funding, we believe that our cash and cash equivalents will not be sufficient to fund our operations for a period of one year or more after the date that these condensed consolidated financial statements are available to be issued based on the timing and amount of our projected net loss from continuing operations and cash to be used in operating activities during that period of time.

As a result, substantial doubt exists about our ability to continue as a going concern within one year after the date that these condensed consolidated financial statements are available to be issued. The accompanying condensed consolidated financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of recorded assets, or the amounts and classification of liabilities that might be different should we be unable to continue as a going concern based on the outcome of these uncertainties described above.

Status of our Phase 2A Clinical Trial in Necrobiosis Lipoidica

Our lead product, PCS499, is an oral tablet that is a deuterated analog of one of the major metabolites of pentoxifylline (PTX or Trental^®). The advantage of PCS499 is that it potentially may work in many conditions because PCS499 and its metabolites act on multiple pharmacological targets that are important in the treatment of these conditions. Based on its pharmacological activity, we have identified unmet medical need conditions where the use of PCS499 may result in clinical efficacy. The lead indication currently under development for PCS499 is Necrobiosis Lipoidica (NL). NL is a chronic, disfiguring condition affecting the skin and the tissue under the skin typically on the lower extremities with no currently approved FDA treatments. NL presents more commonly in women than in men and ulceration occurs in approximately 30% of NL patients, which can lead to more severe complications, such as deep tissue infections and osteonecrosis threatening life of the limb. Approximately 22,000 - 55,000 people in the United States and more than 120,000 people outside the United States are affected with ulcerated NL.

The degeneration of tissue occurring at the NL lesion site is caused by a number of pathophysiological changes, which has made it extremely difficult to develop effective treatments for this condition. PCS499 may provide a solution since PCS499 and its metabolites affect a number of biological pathways, several of which contribute to the pathophysiology associated with NL.

On June 22, 2018, the FDA granted orphan-drug designation for PCS499 for the treatment of NL. On September 28, 2018, the FDA cleared our IND for PCS499 in NL such that we could move forward with a Phase 2A multicenter, open-label prospective trial designed to determine the safety and tolerability of PCS499 in patients with NL. The first enrolled NL patient in this Phase 2A clinical trial was dosed on January 29, 2019 and the study completed enrollment on August 23, 2019. The main objective of the trial was to evaluate the safety and tolerability of PCS499 in patients with NL and to use the collected safety and efficacy data to design future clinical trials. Based on toxicology studies and healthy human volunteer studies, Processa and the FDA agreed that a PCS499 dose of 1.8 grams/day would be the highest dose administered to NL patients in this Phase 2A trial. As anticipated, the PCS499 dose of 1.8 grams/day, 50% greater than the maximum tolerated dose of PTX, appeared to be well tolerated with no serious adverse events reported.

Two patients presenting with more severe ulcerated NL had ulcers for more than two months prior to dosing. At baseline, the reference ulcer in one of the two patients measured 3.5 cm² and had completely closed by Month 2 of treatment. The second patient had a baseline reference ulcer of 1.2 cm² which completely closed by Month 9. In addition, while in the trial both patients also developed small ulcers at other sites as a result of contact trauma to the site and these ulcers resolved within one month. The other ten patients presenting with mild to moderate NL and no ulceration had some improvement of the NL lesions but not as dramatic as the more serious ulcerated patients. Historically, less than 20% of all the patients with NL naturally progress to complete healing over the first one to two years after presenting with NL. Although the natural healing of the more severe NL patients with ulcers has not been evaluated independently, medical experts who treat NL patients believe that the natural progression of an open ulcerated wound to complete closure would be significantly less than the 20% reported as the maximum percentage of patients who naturally heal over the 12-24 months after NL presentation with the likelihood and time of healing possibly being dependent on the size of the ulcer. Although our study enrolled only two ulcerated patients, the existing ulcers and trauma ulcers in both patients completely closed supporting that the diverse pharmacology of PCS499 and its metabolites (similar to PTX) positively effects the open ulcers in NL. In addition, those patients without ulcers in our clinical trial also saw positive changes in their NL lesion, although to a much lesser extent than the closing of the more serious ulcers.

We have completed the patient portion of our Phase 2A trial of PCS499 in NL, with the last patient completing the trial during the first quarter of 2020. We are in the process of closing the trial, but the close out of our two sites has been delayed as a result of COVID-19.

On March 25, 2020, we met with the FDA and discussed the clinical program, as well as the nonclinical and clinical pharmacology plans to support the submission of the PCS499 New Drug Application (NDA) in the U.S. for the treatment of ulcers in NL patients. With input from the FDA, we will be designing the next trial as a randomized, placebo controlled trial to evaluate the ability of PCS499 to completely close ulcers in patients with NL, along with an open labelled safety trial that will serve as an extension study for those in the randomized, placebo-controlled trial. We initially planned to begin recruiting for the randomized, placebo controlled trial in the fourth quarter 2020 but with the COVID-19 pandemic, we expect to begin recruiting patients in early 2021. The decision to conduct the study as a Phase 3 study with further input from the FDA via a Special Protocol Assessment, or to perform a smaller Phase 2B study, is still to be determined based on financial considerations, current pandemic concerns and other priorities within our portfolio. A Phase 2B or a Phase 3 trial would be of similar design but would differ in the number of patients. The FDA also noted that only a single pivotal clinical trial may be required for an NDA approval to treat ulcerated NL if the percent responders in the treatment arm is highly significant (p << 0.05) compared to the placebo arm. The FDA indicated that the final determination of accepting only a single trial for approval would be dependent on the FDA review of the trial results.

License Agreement with Akashi Therapeutics, Inc.

On August 29, 2019, we entered into an exclusive license agreement (the “Akashi Agreement”) with Akashi Therapeutics, Inc. (“Akashi”) to develop and commercialize an anti-fibrotic, anti-inflammatory drug, PCS100, which also promotes healthy muscle fiber regeneration. In previous clinical trials in Duchenne Muscular Dystrophy (DMD), PCS100 showed promising improvement in the muscle strength of non-ambulant pediatric patients. Although the FDA placed a clinical hold on the DMD trial after a serious adverse event in a pediatric patient, the FDA has removed the drug off clinical hold and defined how PCS100 can resume clinical trials in DMD. Once we have obtained adequate funding, we plan to develop PCS100 in rare adult fibrotic related diseases such as focal segmental glomerulosclerosis, idiopathic pulmonary fibrosis or Scleroderma.

The Akashi Agreement provides us with a worldwide license to research, develop, make and commercialize products comprising or containing PCS100. As partial consideration for the license, we paid $10,000 to Akashi upon full execution of the Akashi Agreement. This upfront payment was expensed as a research and development cost. As additional consideration, we will pay Akashi development and regulatory milestone payments (up to $3.0 million per milestone) upon the achievement of certain milestones, which primarily consist of having a drug indication approved by a regulatory authority in the United States or another country. In addition, we must pay Akashi one-time sales milestone payments based on the achievement during a calendar year of one or more thresholds for annual sales for products made and pay royalties based on annual licensing sales. We are also required to split any milestone payments we receive with Akashi based on any sub-license agreement we may enter into.

We are required to use commercially reasonable efforts, at our sole cost and expense, to research, develop and commercialize products in one or more countries, including meeting specific diligence milestones that consist of (i) requesting a meeting with the FDA for a first indication within 18 months of the date of the Akashi Agreement, (ii) submitting an IND for a drug indication on or before June 30, 2022 and (iii) initiating a Phase 1 or 2 trial for a drug indication on or before December 30, 2022. Either party may terminate the Akashi Agreement in the event of a material breach of the license agreement that has not been cured following written notice and a 60-day opportunity to cure such breach (which is shortened to 15 days for a payment breach).

License Agreement with Aposense, Ltd.

On May 24, 2020, we entered into a condition precedent License Agreement (the “Aposense Agreement”) with Aposense, pursuant to which we were granted a contingent license in the patent rights and the know-how to develop and commercialize their next generation irinotecan cancer drug, PCS-11T. Granting of the license is conditioned on the following being satisfied within 9 months of May 24, 2020 (or the Aposense Agreement shall terminate): (i) our closing of an equity financing and successful up-listing to Nasdaq and (ii) Aposense obtaining the approval of the Israel Innovation Authority for the consummation of the transactions contemplated by the Aposense Agreement. Within five business days of satisfying the conditions, we must issue Aposense shares of common stock, the number being determined by dividing $2.5 million by the price per share paid by such investors in the equity financing. Such shares will be subject to a lock-up, with 40% of such shares released from such lock up after six months and the remaining two 30% tranches to be released upon completion of the next two subsequent quarters. As additional consideration, we will pay Aposense development and regulatory milestone payments (up to $3.0 million per milestone) upon the achievement of certain milestones, which primarily consist of having a drug indication approved by a regulatory authority in the United States or another country. In addition, we must pay Aposense one-time sales milestone payments based on the achievement during a calendar year of one or more thresholds for annual sales for products made and pay royalties based on annual licensing sales. We are also required to split any milestone payments we receive with Aposense based on any sub-license agreement we may enter into.

We are required to use commercially reasonable efforts, at our sole cost and expense, to research, develop and commercialize products in one or more countries, including meeting specific diligence milestones that consist of (i) submitting an IND for a drug indication within 30 months following the satisfaction of the license conditions above; (ii) dosing of a first patient with a product within 42 months following the satisfaction of the license conditions above; (iii) dosing of a first patient with a product in a pivotal clinical trial within 72 months following the satisfaction of the license conditions above and (iv) an NDA submission within 120 months following the satisfaction of the license conditions above. Either party may terminate the Aposense Agreement in the event of a material breach of the license agreement that has not been cured following written notice and a 90-day opportunity to cure such breach (which is shortened to 15 days for a payment breach).

Results of Operations

Comparison of the three and six months ended June 30, 2020 and 2019

The following table summarizes our net loss during the periods indicated:

Revenues.

We had no revenue during the three and six months ended June 30, 2020 and 2019. We do not currently have any revenue under contract or any immediate sales prospects.

Research and Development Expenses.

Our research and development costs are expensed as incurred. Research and development expenses include (i) licensing of compounds for product testing and development, (ii) program and testing related expenses, (iii) amortization of the exclusive PCS499 license intangible asset used in research and development activities, and (iv) internal research and development staff related payroll, taxes and employee benefits, external consulting and professional fees related to the product testing and our development activities. Non-refundable advance payments for goods and services to be used in future research and development activities are recorded as prepaid expenses and expensed when the research and development activities are performed.

During the three months ended June 30, 2020 and 2019, we incurred total research and development expenses of $427,109 and $726,904, respectively, for the continued development and testing of our lead product, PCS499. Research and development expenses were approximately $929 thousand and $1.2 million for the six months ended June 30, 2020 and 2019, respectively. Costs for the three and six months ended June 30, 2020 and 2019 were as follows:

Overall, during the three months ended June 30, 2020, our research and development costs decreased by $299,795 as detailed below. The decrease in research and development expenses was due to a decrease in preclinical, clinical trial and other costs of $253,382 during the three months ended June 30, 2020 when compared to the same period in 2019. This decrease was attributable to decreased costs related to our Phase 2A clinical trial, as we have completed the patient portion of the study. We also had a decrease in research and development salaries and benefits of $46,413 for the three months ended June 30, 2020 when compared to the same period in 2019 related to the departure of two research and development team members in the first quarter of 2020.

During the six months ended June 30, 2020, our research and development costs decreased by $282,800 as compared to the six months ended June 30, 2019. The decrease in research and development expenses was due to a decrease in preclinical, clinical trial and other costs of $217,803 and in research and development salaries and benefits of $64,997 during the six months ended June 30, 2020 when compared to the same period in 2019 for the same reasons as stated above.

We anticipate our research and development costs to increase significantly in the future as we continue pre-clinical studies and conduct future clinical trials related to our current drug portfolio. We incurred $181,751 of costs related to our Phase 2A trial during the six months ended June 30, 2020 and expect to spend an additional $305,000 for the remainder of the trial. We believe, based on our estimates, the total cost of our current Phase 2A trial in NL to be approximately $1.5 million. We had a clinical trial funding investor pay for $900,000 of the clinical trial costs and we are covering the remaining $600,000 with funds received from the sale of our 2019 Senior Notes and our LOC Agreements, as necessary.

The funding necessary to bring a drug candidate to market is, however, subject to numerous uncertainties. Once a drug candidate is identified, the further development of that drug candidate can be halted or abandoned at any time due to a number of factors. These factors include, but are not limited to, funding constraints, safety or a change in market demand. For each of our drug candidate programs, we periodically assess the scientific progress and merits of the programs to determine if continued research and development is economically viable. Certain of our programs may be terminated due to the lack of scientific progress and lack of prospects for ultimate commercialization. We anticipate our research and development costs to increase in the future as we finalize our Phase 2A clinical trial activities, prepare a Special Protocol Assessment and beginning designing and conducting a Phase 2B/3 trial to evaluate the ability of PCS499 to completely close ulcers in patients with NL and initiate any research activities related to PCS11T and PCS100. We expect to begin recruiting patients for our Phase 2B/3 trial for NL in early 2021.  

Our clinical trial accruals are based on estimates of patient enrollment and related costs at clinical investigator sites, as well as estimates for the services received and efforts expended pursuant to contracts with multiple research institutions and CROs that conduct and manage clinical trials on our behalf.

We estimate preclinical and clinical trial expenses based on the services performed, pursuant to contracts with research institutions and clinical research organizations that conduct and manage preclinical studies and clinical trials on our behalf. In accruing service fees, we estimate the time-period over which services will be performed and the level of patient enrollment and activity expended in each period. If the actual timing of the performance of services or the level of effort varies from the estimate, we will adjust the accrual accordingly. Payments made to third parties under these arrangements in advance of the receipt of the related series are recorded as prepaid expenses until the services are rendered.

General and Administrative Expenses.

Our general and administrative expenses for the three months ended June 30, 2020 decreased by $35,194 to $374,878 from $410,072 for the three months ended June 30, 2019. We experienced reductions in professional fees for legal, accounting, advisory and consulting costs of approximately $40,000, as well as decreases in other administrative costs such as office expenses, travel, and taxes and licenses of approximately $25,000. These decreases were offset by an increase in insurance and telephone expenses of $3,800 and increased payroll and related costs of approximately $26,000 (primarily due to an increase in stock-based compensation of approximately $23,000). Reimbursements from CorLyst of $25,894 for rent and other costs during the six months ended June 30, 2020 were comparable to the same period in 2019.

For the six months ended June 30, 2020, general and administrative expenses increased by $51,418 to $859,255 from $807,837 for the six months ended June 30, 2019. The majority of the increase was due to a $109,000 increase in taxes and licenses, primarily due to our Delaware franchise tax as a result of our 1-for-7 reverse stock split in December 2019. Delaware used the assumed par value method to compute their franchise tax. The reverse stock split increased the assumed par value per share which was assessed on the number of authorized shares to compute the franchise tax. On June 25, 2020, we amended our articles of incorporation to reduce the number of authorized shares in part to decrease our future Delaware franchise tax.

We also experienced increases of approximately $44,000 in payroll and related costs (due to an increase in stock-based compensation of approximately $47,000) and approximately $12,000 in administrative costs for items such as insurance and telephone expenses. The overall increase was offset by decreases in professional fees for legal, accounting, advisory and consulting costs of approximately $95,000, as well as reductions of approximately $20,000 in office expenses, travel, continuing education, utilities and repairs and maintenance. Reimbursements from CorLyst of $50,642 for rent and other costs during the six months ended June 30, 2020 were $1,800 less than the same period in 2019.

We expect the general and administrative expenses to increase in the future as we add staff to support our growing research and development activities and the administration required to operate as a public company.

Interest Expense and Interest Income.

Interest expense was $19,280 and $6,102 for the three months ended June 30, 2020 and 2019, respectively, and $36,450 and $10,702 for the six months ended June 30, 2020 and 2019, respectively, related to our $805,000 and $2.58 million of 8% Senior Notes sold in 2019 and 2017, respectively, and to the 2020 borrowings on the LOC Agreement with DKBK. Included in interest expense is the amortization of debt issuance costs totaling $2,140 and $0 for the six months ended June 30, 2020 and 2019, respectively.

Interest income was $18 and $3,398 for the three months ended June 30, 2020 and 2019, respectively, and $846 and $9,383 for the six months ended June 30, 2020 and 2019, respectively. Interest income represents interest earned on money market funds.

Income Tax Benefit.

We recognized an income tax benefit of $87,835 and $170,602 for the three months ended June 30, 2020, respectively, and $215,964 and $300,901 for the six months ended June 30, 2020 and 2019, respectively, as a result of our recording and amortizing the deferred tax liability created in connection with our acquisition of CoNCERT’s license and “Know-How” in exchange for Processa stock that had been issued in the Internal Revenue Code Section 351 transaction on March 19, 2018. The Section 351 transaction treated the acquisition of the Know-How for stock as a tax-free exchange. As a result, under ASC 740-10-25-51 Income Taxes, Processa recorded a deferred tax liability of $3,037,147 for the acquired temporary difference between the financial reporting basis of $11,038,929 and the tax basis of $1,782. The deferred tax liability will be reduced for the effect of the non-deductibility of the amortization of the intangible asset and may be offset by the deferred tax assets resulting from net operating tax losses. This offset results in the recognition of a deferred tax benefit shown in the condensed consolidated statements of operations.

Financial Condition

At June 30, 2020, we had $452,654 in cash. Net cash used in our operating activities during the six months ended June 30, 2020 totaled $897,029 compared to $1,414,903 for the six months ended June 30, 2019.

Our total assets decreased by approximately $872,000 to $10 million at June 30, 2020 compared to $10.9 million at December 31, 2019. This decrease is a result of the operating costs we incurred during the six months ended June 30, 2020.

At June 30, 2020, our total liabilities, not including the impact of deferred income taxes, increased approximately $764,000 to $2,102,770 when compared to $1,338,954 at December 31, 2019. This increase is due to increases in accrued expenses related to accrued salary liability, accrued interest related to the 2019 Senior Notes and other borrowings, funds drawn under the LOC Agreement with DKBK and the promissory note we entered into with the Bank of America under the Paycheck Protection Program.

In connection with exercising the option agreement with CoNCERT, we recognized a $3,037,147 deferred income tax liability since the intangible assets purchased had only a nominal tax basis. Our deferred tax liability has been and is expected to be reduced each period by the effect of the combination of the tax non-deductibility of the amortization of the intangible asset and an amount up to the income tax effect of our net loss.

Liquidity and Capital Resources

To date, we have funded our business and operations primarily through the private placement of equity securities and senior secured convertible notes. At June 30, 2020, we had $452,654 in cash compared to $691,536 at December 31, 2019. We have taken the following actions to address our liquidity:

Because of the numerous risks and uncertainties associated with the development and commercialization of our product candidates, and the extent to which we may enter into additional agreements with third parties to participate in their development and commercialization, we are unable to estimate the amounts of increased capital outlays and operating expenditures associated with our current and anticipated clinical trials. Our future capital requirements will depend on many factors, including:

Based on our current plan, we will need to raise additional capital to fund our future operations. While we believe our current resources are adequate to complete the closeout of our current Phase 2A trial in NL, we do not currently have resources to conduct other future trials, such as the Phase 2B/3 clinical trial approved by the FDA, or develop our other drug candidates without raising additional capital. We believe that our existing cash and LOC Agreements will enable us to fund our operating expenses and capital expenditure requirements into the third quarter of 2020. There may be costs we incur as we close our Phase 2A trial in NL that we do not currently anticipate in order to complete the trial, requiring us to need additional capital sooner than currently expected.

Cash Flows

The following table sets forth our sources and uses of cash and cash equivalents for the six months ended June 30, 2020 and 2019:

Net cash used in operating activities

We used net cash in our operating activities of $897,029 and $1,414,903 during the six months ended June 30, 2020 and 2019, respectively. The decrease in cash used in operating activities during the first six months of 2020 compared to the comparable period in 2019 was related to a decreased amount of direct cash costs incurred, such as salaries and clinical trial costs. Additionally, prepaid expenses decreased by approximately $218,000. $155,000 of which related to costs for our Phase 2A clinical trial.

Since we are in the process of developing our products, we anticipate our research and development efforts and on-going general and administrative costs will continue to generate negative cash flows from operating activities for the foreseeable future and that these amounts will increase in the future. We do not currently sell or distribute pharmaceutical products or have any sales or marketing capabilities.

Net cash used in investing activities

We had no cash sources or uses for investing activities during the six months ended June 30, 2020 or 2019.

Net cash (used in) provided by financing activities

Net cash provided by financing activities during the six months ended June 30, 2020 of $658,147 was from borrowings totaling $500,000 under our LOC Agreement with DKBK and $162,459 we received from the Bank of America pursuant to a promissory note under the Paycheck Protection Program, less transaction costs of $4,312 related to our anticipated 2020 offering. During the six months ended June 30, 2019, net cash provided by financing activities of $395,927 were funds received from our clinical trial funding investor in partial satisfaction of his stock subscription receivable that he paid directly to our CRO.

We expect that we will continue to seek additional capital through a combination of private and public equity offerings, debt financings, and strategic collaborations to fund future operations. However, no assurance can be given that we will be successful in raising adequate funds needed. Absent additional financing, substantial doubt exists about our ability to continue as a going concern, as noted under Going Concern above.

Contractual Obligations and Commitments

There have been no significant changes to the contractual obligations reported in our Annual Report on Form 10-K for the fiscal year ended December 31, 2019.

Off Balance Sheet Arrangements

At June 30, 2020, we did not have any off-balance sheet arrangements.

Critical Accounting Policies and Use of Estimates

Our discussion and analysis should be readof our financial condition and results of operations are based upon our Unaudited Condensed Consolidated Financial Statements, which have been prepared in conjunctionaccordance with U.S. GAAP. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities.