Transave, Inc.
(A Development Stage Company)
Index to Financial Statements
Contents
| Report of Independent Auditors |
| Balance Sheets as of December 31, 2008 and 2009 |
| Statements of Operations for the Years Ended December 31, 2008 and 2009 and the Period From May 27, 1997 (Inception) to December 31, 2009 |
| Statements of Stockholders’ Deficiency for the Period May 27, 1997 (Inception) to December 31, 2009 |
| Statements of Cash Flows for the Years Ended December 31, 2008 and 2009 and the Period From May 27, 1997 (Inception) to December 31, 2009 |
| Notes to Financial Statements |
| |
Report of Independent Auditors
The Board of Directors and Stockholders
We have audited the accompanying balance sheets of Transave, Inc. (a development stage company) (the Company) as of December 31, 2009 and 2008, and the related statements of operations, stockholders’ deficiency, and cash flows for the years then ended and the period from May 27, 1997 (inception) to December 31, 2009. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Company’s internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Transave, Inc. (a development stage company) at December 31, 2009 and 2008, and the results of its operations and its cash flows for the years then ended and the period from May 27, 1997 (inception) to December 31, 2009, in conformity with accounting principles generally accepted in the United States.
The accompanying financial statements have been prepared assuming that the Company will continue as a going concern. As more fully described in Note 1, the Company has incurred recurring operating losses and will require additional funding in the future. These conditions raise substantial doubt about the Company’s ability to continue as a going concern. Management’s plans in regard to these matters are also described in Note 1. The financial statements do not include any adjustments to reflect the possible future effects of the recoverability and classification of assets or the amounts and classification of liabilities that may result from the outcome of this uncertainty.
/s/Ernst & Young LLP
Metropark, New Jersey
April 27, 2010
Transave, Inc.
(A Development Stage Company)
Balance Sheets
| | | December 31 | |
| | | 2009 | | | 2008 | |
| Assets | | | | | | |
| Current assets: | | | | | | |
| Cash and cash equivalents | | $ | 2,745,210 | | | $ | 18,838,213 | |
| Prepaid expenses and other current assets | | | 90,260 | | | | 93,757 | |
| Total current assets | | | 2,835,470 | | | | 18,931,970 | |
| | | | | | | | | |
| Fixed assets, net of accumulated depreciation | | | 1,719,325 | | | | 2,134,937 | |
| Deferred financing fees | | | 176,457 | | | | 146,070 | |
| Other assets | | | 90,616 | | | | 90,616 | |
| Total assets | | $ | 4,821,868 | | | $ | 21,303,593 | |
| | | | | | | | | |
| Liabilities and stockholders’ deficiency | | | | | | | | |
| Current liabilities: | | | | | | | | |
| Accounts payable | | $ | 1,616,418 | | | $ | 2,373,277 | |
| Accrued expenses | | | 2,058,431 | | | | 2,014,104 | |
| Capital lease payable | | | 136,068 | | | | 102,172 | |
| Venture debt (current portion) | | | 4,487,297 | | | | 655,243 | |
| Total current liabilities | | | 8,298,214 | | | | 5,144,796 | |
| | | | | | | | | |
| Capital lease payable, net of current maturity | | | 131,220 | | | | 270,011 | |
| Warrant liability | | | 1,633,064 | | | | 568,182 | |
| Convertible notes | | | 5,027,070 | | | | – | |
| Venture debt | | | 7,009,941 | | | | 11,350,382 | |
| | | | | | | | | |
Series A, 7% noncumulative redeemable convertible preferred stock, $0.001 par value; 5,733,884 shares authorized; 3,935,374 shares issued and outstanding; liquidation preference $1,318,350 at December 31, 2009 and 2008 | | | 2,636,700 | | | | 2,636,700 | |
Series B, 7% noncumulative redeemable convertible preferred stock, $0.001 par value; 17,779,414 shares authorized; 17,165,733 shares issued and outstanding; liquidation preference $6,866,293 at December 31, 2009 and 2008 | | | 13,715,051 | | | | 13,680,534 | |
Series C, 7% noncumulative redeemable convertible preferred stock, $0.001 par value; 69,682,941 shares authorized; 68,588,096 shares issued and outstanding; liquidation preference $19,890,548 at December 31, 2009 and 2008 | | | 39,263,763 | | | | 39,008,700 | |
| Series D, 7% noncumulative redeemable convertible preferred stock, $0.001 par value, 207,750,046 shares authorized; 180,895,692 and 178,791,375 shares issued and outstanding; liquidation preference $36,197,228 and $35,776,154, at December 31, 2009 and 2008, respectively | | | 35,978,395 | | | | 35,497,330 | |
| | | | | | | | | |
| Stockholders’ deficiency: | | | | | | | | |
Common stock, $0.001 par value; 432,663,372 shares authorized, 22,433,903 and 22,073,867 shares issued and outstanding at December 31, 2009 and 2008, respectively | | | 22,434 | | | | 22,074 | |
| Additional paid-in capital | | | 8,525,378 | | | | 8,183,502 | |
| Deficit accumulated during the development stage | | | (117,417,957 | ) | | | (95,015,646 | ) |
| Accumulated other comprehensive (loss) income | | | (1,405 | ) | | | (42,972 | ) |
| Total stockholders’ deficiency | | | (108,871,550 | ) | | | (86,853,042 | ) |
| Total liabilities and stockholders’ deficiency | | $ | 4,821,868 | | | $ | 21,303,593 | |
See accompanying notes.
Transave, Inc.
(A Development Stage Company)
Statements of Operations
| | | Year Ended December 31 | | | Period from May 27, 1997 (Inception) to December | |
| | | 2009 | | | 2008 | | | | 31, 2009 | |
| | | | | | | | | | | |
| Grant and other revenue | | $ | 2,325,000 | | | $ | 359,167 | | | $ | 4,055,791 | |
| | | | | | | | | | | | | |
| Operating expenses: | | | | | | | | | | | | |
| Research and development | | | 18,226,427 | | | | 24,449,654 | | | | 91,488,486 | |
| General and administrative | | | 3,951,100 | | | | 4,222,448 | | | | 23,470,075 | |
| Other expense | | | 235,154 | | | | 110,514 | | | | 345,668 | |
| Total operating expenses | | | 22,412,681 | | | | 28,782,616 | | | | 115,304,229 | |
| | | | | | | | | | | | | |
| Loss from operations | | | (20,087,681 | ) | | | (28,423,449 | ) | | | (111,248,438 | ) |
| | | | | | | | | | | | | |
| Interest expense | | | (2,025,972 | ) | | | (362,321 | ) | | | (3,345,045 | ) |
| Interest income | | | 3,246 | | | | 289,419 | | | | 1,345,678 | |
| Change in fair value of warrant liability | | | 78,530 | | | | 6,063 | | | | 563,107 | |
| Loss before income tax benefit | | | (22,031,877 | ) | | | (28,490,288 | ) | | | (112,684,698 | ) |
| | | | | | | | | | | | | |
| Income tax (expense) benefit | | | (20,863 | ) | | | 518,330 | | | | 2,528,689 | |
| Net loss | | $ | (22,052,740 | ) | | $ | (27,971,958 | ) | | $ | (110,156,009 | ) |
See accompanying notes.
Transave, Inc.
(A Development Stage Company)
Statements of Stockholders’ Deficiency
| | | Common Stock | | | Additional Paid-in | | | Deficit Accumulated During the | | | Other Comprehensive | | | Total | |
| | | Number of Shares | | | Amount | | | Capital (Note 1) | | | Development Stage | | | Income (Loss) | | | Stockholders’ Deficiency | |
| | | | | | | | | | | | | | | | | | | |
| Balance, May 27, 1997 (inception) | | | – | | | $ | – | | | $ | – | | | $ | – | | | $ | – | | | $ | – | |
| Issuance of common stock to founders | | | 6,000,000 | | | | 6,000 | | | | – | | | | – | | | | – | | | | 6,000 | |
| Net loss | | | – | | | | – | | | | – | | | | (112,115 | ) | | | – | | | | (112,115 | ) |
| Balance, January 1, 2000 | | | 6,000,000 | | | | 6,000 | | | | – | | | | (112,115 | ) | | | – | | | | (106,115 | ) |
| Net loss | | | – | | | | – | | | | – | | | | (460,893 | ) | | | – | | | | (460,893 | ) |
| Balance, December 31, 2000 | | | 6,000,000 | | | | 6,000 | | | | – | | | | (573,008 | ) | | | – | | | | (567,008 | ) |
| Net loss | | | – | | | | – | | | | – | | | | (1,804,961 | ) | | | – | | | | (1,804,961 | ) |
| Balance, December 31, 2001 | | | 6,000,000 | | | | 6,000 | | | | – | | | | (2,377,969 | ) | | | – | | | | (2,371,969 | ) |
| Issuance of warrant in connection with capital lease | | | – | | | | – | | | | 1,451 | | | | – | | | | – | | | | 1,451 | |
| Issuance of common stock to Board of Directors | | | 65,000 | | | | 60 | | | | 4,140 | | | | – | | | | – | | | | 4,200 | |
| Accretion of issuance costs | | | – | | | | – | | | | – | | | | (63,518 | ) | | | – | | | | (63,518 | ) |
| Issuance of options to nonemployees | | | – | | | | – | | | | 8,450 | | | | – | | | | – | | | | 8,450 | |
| Net loss | | | – | | | | – | | | | – | | | | (2,532,728 | ) | | | – | | | | (2,532,728 | ) |
| Balance, December 31, 2002 | | | 6,065,000 | | | | 6,060 | | | | 14,041 | | | | (4,974,215 | ) | | | – | | | | (4,954,114 | ) |
| Issuance of warrants in connection with an operating lease | | | – | | | | – | | | | 10,814 | | | | – | | | | – | | | | 10,814 | |
| Issuance of common stock | | | 140,000 | | | | 140 | | | | 27,761 | | | | – | | | | – | | | | 27,901 | |
| Issuance of options in connection with a capital lease | | | – | | | | – | | | | 3,998 | | | | – | | | | – | | | | 3,998 | |
| Accretion of issuance costs | | | – | | | | – | | | | – | | | | (86,603 | ) | | | – | | | | (86,603 | ) |
| Issuance of options to nonemployees | | | – | | | | – | | | | 47,148 | | | | – | | | | – | | | | 47,148 | |
| Net loss | | | – | | | | – | | | | – | | | | (4,518,651 | ) | | | – | | | | (4,518,651 | ) |
| Balance, December 31, 2003 | | | 6,205,000 | | | | 6,200 | | | | 103,762 | | | | (9,579,469 | ) | | | – | | | | (9,469,507 | ) |
| Issuance of common stock | | | 240,000 | | | | 240 | | | | 22,944 | | | | – | | | | – | | | | 23,184 | |
| Issuance of common stock for exercise of options | | | 125,640 | | | | 65 | | | | 25,063 | | | | – | | | | – | | | | 25,128 | |
| Accretion of issuance costs | | | – | | | | – | | | | – | | | | (93,932 | ) | | | – | | | | (93,932 | ) |
| Net loss | | | – | | | | – | | | | – | | | | (7,591,713 | ) | | | – | | | | (7,591,713 | ) |
| Balance, December 31, 2004 | | | 6,570,640 | | | | 6,505 | | | | 151,769 | | | | (17,265,114 | ) | | | – | | | | (17,106,840 | ) |
| Issuance of common stock | | | 130,000 | | | | 196 | | | | 37,804 | | | | – | | | | – | | | | 38,000 | |
| Issuance of common stock for exercise of options | | | 7,125 | | | | 7 | | | | 1,168 | | | | – | | | | – | | | | 1,175 | |
| Issuance of options to nonemployees | | | – | | | | – | | | | 10,754 | | | | – | | | | – | | | | 10,754 | |
| Accretion of issuance costs | | | – | | | | – | | | | – | | | | (93,932 | ) | | | – | | | | (93,932 | ) |
| Net loss | | | – | | | | – | | | | – | | | | (8,504,243 | ) | | | – | | | | (8,504,243 | ) |
| Balance, December 31, 2005 | | | 6,707,765 | | | | 6,708 | | | | 201,495 | | | | (25,863,289 | ) | | | – | | | | (25,655,086 | ) |
| Issuance of common stock for exercise of options | | | 97,500 | | | | 97 | | | | 16,340 | | | | – | | | | – | | | | 16,437 | |
| Stock-based compensation | | | 480,000 | | | | 480 | | | | 198,895 | | | | – | | | | – | | | | 199,375 | |
| Reclassification of warrant liability upon exercise of Series C redeemable convertible preferred stock warrants | | | – | | | | – | | | | 936 | | | | – | | | | – | | | | 936 | |
| Accretion of issuance costs | | | – | | | | – | | | | – | | | | (295,034 | ) | | | – | | | | (295,034 | ) |
| Accretion of preferred stock dividends | | | – | | | | – | | | | – | | | | (2,450,343 | ) | | | – | | | | (2,450,343 | ) |
| Net loss | | | – | | | | – | | | | – | | | | (14,154,498 | ) | | | – | | | | (14,154,498 | ) |
| Other comprehensive loss: | | | | | | | | | | | | | | | | | | | | | | | | |
| Foreign currency translation adjustment | | | – | | | | – | | | | – | | | | – | | | | 39,800 | | | | 39,800 | |
| Total comprehensive loss | | | | | | | | | | | | | | | | | | | | | | | (14,114,698 | ) |
| Balance, December 31, 2006 | | | 7,285,265 | | | | 7,285 | | | | 417,666 | | | | (42,763,164 | ) | | | 39,800 | | | | (42,298,413 | ) |
| Issuance of common stock | | | 369,959 | | | | 370 | | | | 25,527 | | | | – | | | | – | | | | 25,897 | |
| Issuance of common stock for exercise of options | | | 40,250 | | | | 41 | | | | 4,985 | | | | – | | | | – | | | | 5,026 | |
| Stock-based compensation | | | – | | | | – | | | | 147,370 | | | | – | | | | – | | | | 147,370 | |
| Accretion of issuance costs | | | – | | | | – | | | | – | | | | (325,875 | ) | | | – | | | | (325,875 | ) |
| Accretion of preferred stock dividends | | | – | | | | – | | | | – | | | | (3,133,108 | ) | | | – | | | | (3,133,108 | ) |
| Conversion of preferred stock dividends | | | 9,250,060 | | | | 9,250 | | | | 5,574,200 | | | | – | | | | – | | | | 5,583,450 | |
| Net loss | | | – | | | | – | | | | – | | | | (20,451,509 | ) | | | – | | | | (20,451,509 | ) |
| Other comprehensive loss: | | | | | | | | | | | | | | | | | | | | | | | | |
| Foreign currency translation adjustment | | | – | | | | – | | | | – | | | | – | | | | (4,833 | ) | | | (4,833 | ) |
| Total comprehensive loss | | | | | | | | | | | | | | | | | | | | | | | (20,456,342 | ) |
Transave, Inc.
(A Development Stage Company)
Statements of Stockholders’ Deficiency (continued)
| | | Common Stock | | | Additional Paid-in | | | Deficit Accumulated During the | | | Other Comprehensive | | | Total | |
| | | Number of Shares | | | Amount | | | Capital (Note 1) | | | Development Stage | | | Income (Loss) | | | Stockholders’ Deficiency | |
| | | | | | | | | | | | | | | | | | | |
| Balance, December 31, 2007 | | | 16,945,534 | | | $ | 16,946 | | | $ | 6,169,748 | | | $ | (66,673,656 | ) | | $ | 34,967 | | | $ | (60,451,995 | ) |
| Issuance of common stock for services | | | 512,827 | | | | 513 | | | | 21,200 | | | | – | | | | – | | | | 21,713 | |
| Issuance of common stock for exercise of options | | | 85,205 | | | | 85 | | | | 10,081 | | | | – | | | | – | | | | 10,166 | |
| Accretion of issuance costs | | | – | | | | – | | | | – | | | | (370,032 | ) | | | – | | | | (370,032 | ) |
| Conversion of preferred stock dividends | | | (33 | ) | | | – | | | | (20 | ) | | | – | | | | – | | | | (20 | ) |
| Conversion of Series D pay-to-play | | | 4,530,334 | | | | 4,530 | | | | 1,667,613 | | | | – | | | | – | | | | 1,672,143 | |
| Stock-based compensation to employees | | | – | | | | – | | | | 314,880 | | | | – | | | | – | | | | 314,880 | |
| Net loss | | | – | | | | – | | | | – | | | | (27,971,958 | ) | | | – | | | | (27,971,958 | ) |
| Other comprehensive loss: | | | | | | | | | | | | | | | | | | | | | | | | |
| Foreign currency translation adjustment | | | – | | | | – | | | | – | | | | – | | | | (77,939 | ) | | | (77,939 | ) |
| Total comprehensive loss | | | | | | | | | | | | | | | | | | | | | | | (28,049,897 | ) |
| Balance, December 31, 2008 | | | 22,073,867 | | | | 22,074 | | | | 8,183,502 | | | | (95,015,646 | ) | | | (42,972 | ) | | | (86,853,042 | ) |
| Issuance of common stock | | | 185,863 | | | | 186 | | | | 7,249 | | | | – | | | | – | | | | 7,435 | |
| Issuance of common stock for exercise of options | | | 174,173 | | | | 174 | | | | 6,792 | | | | – | | | | – | | | | 6,966 | |
| Accretion of issuance costs | | | – | | | | – | | | | – | | | | (349,571 | ) | | | – | | | | (349,571 | ) |
| Stock-based compensation to employees | | | – | | | | – | | | | 327,835 | | | | – | | | | – | | | | 327,835 | |
| Net loss | | | – | | | | – | | | | – | | | | (22,052,740 | ) | | | – | | | | (22,052,740 | ) |
| Other comprehensive loss: | | | | | | | | | | | | | | | | | | | | | | | | |
| Foreign currency translation adjustment | | | – | | | | – | | | | – | | | | – | | | | 41,567 | | | | 41,567 | |
| Total comprehensive loss | | | | | | | | | | | | | | | | | | | | | | | (22,011,173 | ) |
| Balance, December 31, 2009 | | | 22,433,903 | | | $ | 22,434 | | | $ | 8,525,378 | | | $ | (117,417,957 | ) | | $ | (1,405 | ) | | $ | (108,871,550 | ) |
See accompanying notes.
Transave, Inc.
(A Development Stage Company)
Statements of Cash Flows
| | | Year Ended December 31 | | | Period from May 27, 1997 (Inception) to December 31, | |
| | | 2009 | | | 2008 | | | 2009 | |
| Cash flows from operating activities | | | | | | | | | |
| Net loss | | $ | (22,052,740 | ) | | $ | (27,971,958 | ) | | $ | (110,156,009 | ) |
| Adjustments to reconcile net loss to net cash used in operating activities: | | | | | | | | | | | | |
| Depreciation and amortization | | | 661,697 | | | | 510,081 | | | | 2,364,594 | |
| Stock-based compensation to employees | | | 327,835 | | | | 314,880 | | | | 1,103,673 | |
| Issuance of common stock for services | | | – | | | | 21,713 | | | | 88,065 | |
| Series D preferred stock issued in connection with licensing agreement | | | 421,074 | | | | 776,155 | | | | 1,197,229 | |
| Warrant costs in connection with operating lease | | | – | | | | – | | | | 10,814 | |
| Warrant costs in connection with bridge financing | | | – | | | | – | | | | 462,722 | |
| Loss on abandonment of leasehold improvements | | | – | | | | – | | | | 12,791 | |
| Change in fair value of warrant liability | | | (78,530 | ) | | | (6,063 | ) | | | (563,107 | ) |
| Amortization of debt issuance cost | | | 72,015 | | | | 14,696 | | | | 86,711 | |
| Noncash interest expense, net | | | 446,392 | | | | 31,710 | | | | 538,782 | |
| Changes in operating assets and liabilities: | | | | | | | | | | | | |
| Prepaid expenses and other current assets | | | (98,905 | ) | | | (29,629 | ) | | | (199,754 | ) |
| Other assets | | | – | | | | (1,641 | ) | | | (90,616 | ) |
| Accounts payable and accrued expenses | | | (712,532 | ) | | | 107,227 | | | | 3,690,869 | |
| Net cash used in operating activities | | | (21,013,694 | ) | | | (26,232,829 | ) | | | (101,453,236 | ) |
| | | | | | | | | | | | | |
| Cash flows from investing activities | | | | | | | | | | | | |
| Purchase of marketable securities | | | – | | | | – | | | | (1,202,113 | ) |
| Sale of marketable securities | | | – | | | | – | | | | 1,281,713 | |
| Purchases of fixed assets | | | (246,085 | ) | | | (1,026,301 | ) | | | (2,863,833 | ) |
| Net cash used in investing activities | | | (246,085 | ) | | | (1,026,301 | ) | | | (2,784,233 | ) |
| | | | | | | | | | | | | |
| Cash flows from financing activities | | | | | | | | | | | | |
| Proceeds from issuance of convertible notes, net | | | 5,870,947 | | | | – | | | | 11,870,947 | |
| Proceeds from issuance of preferred stock, net | | | – | | | | 19,361,936 | | | | 84,321,289 | |
| Proceeds from issuance of common stock, net | | | 14,401 | | | | 10,166 | | | | 108,429 | |
| Proceeds from venture debt, net | | | – | | | | 12,339,214 | | | | 12,339,214 | |
| Payment of venture debt, net | | | (655,243 | ) | | | – | | | | (655,243 | ) |
| Payment of capital lease obligation, net | | | (104,896 | ) | | | – | | | | (965,585 | ) |
| Net cash provided by financing activities | | | 5,125,209 | | | | 31,711,316 | | | | 107,019,051 | |
| | | | | | | | | | | | | |
| Effect of exchange rate differences on cash and cash equivalents | | | 41,567 | | | | (77,939 | ) | | | (36,372 | ) |
| | | | | | | | | | | | | |
| Net increase (decrease) in cash and cash equivalents | | | (16,093,003 | ) | | | 4,374,247 | | | | 2,745,210 | |
| Cash and cash equivalents at beginning of period | | | 18,838,213 | | | | 14,463,966 | | | | – | |
| Cash and cash equivalents at end of period | | $ | 2,745,210 | | | $ | 18,838,213 | | | $ | 2,745,210 | |
| | | | | | | | | | | | | |
| Supplemental schedule of noncash financing and investing activities | | | | | | | | | | | | |
| Issuance of shares for intellectual property | | $ | – | | | $ | – | | | $ | 6,000 | |
| Issuance of shares for offering costs | | $ | – | | | $ | – | | | $ | 47,642 | |
| Conversion of Series D pay-to-play | | $ | – | | | $ | 1,672,143 | | | $ | 1,672,143 | |
| Assets acquired from capital lease obligations | | $ | – | | | $ | 372,183 | | | $ | 1,349,005 | |
| Interest paid in cash | | $ | 1,463,601 | | | $ | 330,610 | | | $ | 2,750,964 | |
| Warrants issued in connection with Venture debt | | $ | – | | | $ | 526,087 | | | $ | 526,087 | |
| Warrants issued in connection with Convertible Notes | | $ | 1,143,412 | | | $ | – | | | $ | 1,143,412 | |
See accompanying notes.
Transave, Inc.
(A Development Stage Company)
Notes to Financial Statements
December 31, 2009
| | 1. Nature of Operations and Summary of Significant Accounting Policies |
| | Nature of Operations and Basis of Presentation |
Transave, Inc. (the Company) was incorporated in the state of Delaware on May 27, 1997. The Company is engaged in research and development related to the creation of a unique lipid and liposome platform technology for the treatment of lung diseases. The Company is considered a development stage enterprise as defined by ASC 915, Development Stage Entities.
The financial statements have been prepared assuming that the Company will continue as a going concern. For the year ended December 31, 2009, the Company incurred a net loss of approximately $22,053,000 and a use of cash in operating activities of approximately $21,014,000. The Company’s deficit accumulated during the development stage was approximately $117,418,000 at December 31, 2009, and the Company expects to incur substantial losses for the foreseeable future. The Company’s cash requirements have been funded primarily through sales of its redeemable convertible preferred stock and venture loans. In October and November 2009, the Company completed the first tranche of a convertible note financing. In February 2010, the Company completed the second tranche of a convertible note financing. The Compa ny is currently working with existing investors on financing terms for additional funds. As of the date of issuance of the financial statements, the Company needed additional funds to support long-term ongoing operations and to complete clinical studies. These conditions raise substantial doubt about the Company’s ability to continue as a going concern. There is no guarantee that the Company will successfully obtain the required capital or, if obtained, the amounts will be sufficient to fund ongoing operations in 2010. The inability to secure additional capital could have a material adverse effect on the Company, including the possibility that the Company could have to cease operations.
The preparation of the financial statements and related disclosures in conformity with accounting principles generally accepted in the United States (U.S. GAAP) requires management to make estimates and judgments that affect the amounts reported in the financial statements and accompanying notes. The Company bases its estimates and judgments on historical experience
| | 1. Nature of Operations and Summary of Significant Accounting Policies (continued) |
and on various other assumptions that it believes are reasonable under the circumstances. The amounts of assets and liabilities reported in the Company’s balance sheets and the amounts of revenues and expenses reported for each of the periods presented are affected by estimates and assumptions, which are used for, but not limited to, the accounting for revenue recognition, stock-based compensation, income taxes, loss contingencies and accounting for research and development costs. Actual results could differ from those estimates.
| | Cash and Cash Equivalents |
The Company considers all highly liquid instruments purchased with an original maturity of three months or less to be cash equivalents. The Company maintains a cash account in the United Kingdom which is translated at each balance sheet date.
| | Fair Value of Financial Instruments |
In September 2006, ASC 820 was issued, Fair Value Measurement and Disclosures. The Company adopted ASC 820 on January 1, 2008. ASC 820 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles and establishes a hierarchy that categorizes and prioritizes the inputs to be used to estimate fair value. ASC 820 also expands financial statement disclosures about fair value measurements. ASC 820 describes the following three levels of inputs that may be used to measure fair value:
| | Level 1 – Quoted prices in active markets for identical assets or liabilities. |
| | Level 2 – Inputs other than Level 1 that are observable for the asset or liability, either directly or indirectly, such as quoted prices for similar assets and liabilities in active markets; quoted prices for identical or similar assets or liabilities in markets that are not active; or other inputs that are observable or can be corroborated by observable market data by correlation or other means. |
| | Level 3 – Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. |
| | 1. Nature of Operations and Summary of Significant Accounting Policies (continued) |
A summary of the fair value of the Company’s financial assets (allocated by Level) as of December 31, 2009 and 2008 is as follows:
| | | Fair Value as of December 31, 2009 | |
| | | Level 1 | | | Level 2 | | | Level 3 | | | Total | |
| | | | | | | | | | | | | |
| Money market funds/cash and cash equivalents | | $ | 1,033,066 | | | $ | – | | | $ | – | | | $ | 1,033,066 | |
| Warrant liabilities | | | – | | | | – | | | | (1,633,064 | ) | | | (1,633,064 | ) |
Fair value is estimated using an option-pricing model, which includes variables such as the expected volatility based on guidelines public companies, the preferred stock value, and the estimated time to a liquidity event. Below is a roll-forward of the Level 3 Liabilities, which reflects the 2009 change in fair value of the warrant liability, which is associated with the warrants issued in connection with the issuance of multiple financing.
| | | Warrant Liabilities | |
| | | | |
| Balance, beginning of year | | $ | (568,182 | ) |
| Issuances of warrants | | | (1,143,412 | ) |
| Unrealized (gains) losses due to fair value change | | | 78,530 | |
| Balance, end of year | | $ | (1,633,064 | ) |
The significant assumptions used in preparing the option pricing model for valuing the Company’s warrants as of December 31, 2009 include (i) volatility (73.15%), (ii) risk free interest rate (estimated using treasury constant maturities with useful life of 5 years and interest rate of 2.2%), (iii) strike price (ranging from $0.20 to $0.80), (iv) fair value of preferred shares ($0.20), and (v) expected life (ranging from 1.13 to 10.0 years).
| | 1. Nature of Operations and Summary of Significant Accounting Policies (continued) |
Fixed assets are stated at cost, less accumulated depreciation and amortization. Depreciation for fixed assets is provided using the straight-line method over the estimated useful lives of the respective assets, generally three to ten years. Leasehold improvements are amortized over the shorter of the life of the asset or the lease term.
Deferred financing costs include costs directly attributable to the Company’s debt offering. These costs are deferred and are capitalized. Costs attributable to the debt financing are amortized over the term of the financing. During 2009, the Company expensed $72,015 of deferred financing fees associated with the Company’s venture debt. The Company had approximately $176,457 in other assets associated with debt as of December 31, 2009.
| | Concentration of Credit Risk |
The Company’s financial instruments that are exposed to concentration of credit risk consist primarily of cash and cash equivalents. The Company maintains its cash and cash equivalents in bank accounts, which, at times, exceed federally insured limits. The Company has not recognized any losses from credit risks on such accounts during any of the periods presented. The Company believes it is not exposed to significant credit risk on cash and cash equivalents.
The Company stock options are governed by its 2000 Stock Option Plan, as amended (the Stock Option Plan), which is described more fully in Note 8. On January 1, 2006, the Company adopted the fair value recognition provisions of ASC 718, Stock Compensation, using the prospective transition method. Under the prospective transition method, compensation expense is recognized in the financial statements on a prospective basis for all shared-based payments granted subsequent to January 1, 2006, based upon grant-date fair value estimated in accordance with the provisions of ASC 718.
| | 1. Nature of Operations and Summary of Significant Accounting Policies (continued) |
| | Foreign Currency Translation |
The gains and losses resulting from the changes in exchange rates from year to year have been translated into U.S. dollars and reported in other comprehensive loss. All asset and liability accounts have been translated using the exchange rates in effect at the balance sheet date. Income statement amounts have been translated using the average exchange rate for the year. As of December 31, 2009 and 2008, the accumulated unrealized foreign exchange translation gain (loss) included in other comprehensive gain (loss) was $(1,405) and $(42,972), respectively.
The Company applies the provisions of ASC 220, Comprehensive Income. Comprehensive loss is defined to include all changes in equity, except those resulting from investments by stockholders and distribution to stockholders, and is reported in the statement of stockholders’ equity. Comprehensive loss as of December 31, 2009 and 2008 is as follows:
| | | December 31, | |
| | | 2009 | | | 2008 | |
| | | | | | | |
| Net loss | | $ | (22,052,740 | ) | | $ | (27,971,958 | ) |
| Foreign currency translation adjustment | | | 41,567 | | | | (77,939 | ) |
| Total comprehensive loss | | $ | (22,011,173 | ) | | $ | (28,049,897 | ) |
| | Grant Revenue Recognition |
Payments received under contracts to fund certain research activities are recognized as revenue in the period in which the research activities are performed.
| | Redeemable Convertible Preferred Stock |
The carrying value of redeemable convertible preferred stock is increased by periodic accretions so that the carrying amount will equal the redemption amount at the earliest redemption date.
| | 1. Nature of Operations and Summary of Significant Accounting Policies (continued) |
The Company accounts for its warrants to purchase redeemable convertible preferred stock in accordance with ASC 480, Distinguishing Liabilities From Equity. ASC 480 requires that a financial instrument, other than an outstanding share, that, at inception, is indexed to an obligation to repurchase the issuer’s equity shares, regardless of the timing of the redemption feature, and may require the issuer to settle the obligation by transferring assets be classified as a liability. The Company measures the fair value of its warrant liability using an option pricing model with changes in fair value recognized as a change in warrant liability which is reflected in the statement of operation. The value of the warrant liability at issuance was $2,197,111. The value as of December ;31, 2009 was $1,633,064.
Long-lived assets to be held and used are reviewed for impairment when events or changes in circumstances indicate that the carrying amount of such assets may not be recoverable. Determination of recoverability is based on an estimate of undiscounted future cash flows resulting from the use of the asset and its eventual disposition. In the event that such cash flows are not expected to be sufficient to recover the carrying amount of the assets, the assets are written down to their estimated fair values. Long-lived assets to be disposed are reported at the lower of the carrying amount or fair value less cost to sell.
| | Research and Development Expenses |
Research and development costs are expensed as incurred. Research and development expense consists primarily of costs related to personnel, including salaries and other personnel-related expenses, consulting fees and the cost of facilities and support services used in drug development. All research and development costs are charged to operations as incurred in accordance with ASC 730, Research and Development.
| | 1. Nature of Operations and Summary of Significant Accounting Policies (continued) |
| | Income Taxes and Other Related Accounts |
Deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the amounts of existing assets and liabilities carried on the financial statements and their respective tax bases and the benefits arising from the realization of operating loss and tax credit carryforwards.
Deferred tax assets and liabilities are measured using tax rates in effect for the year in which those temporary differences are expected to be recovered or settled. A valuation allowance is established when it is more likely than not that a deferred tax asset will not be realized.
On January 1, 2009, the Company adopted the authoritative guidance on accounting for and disclosure of uncertainty in tax positions which prescribes a comprehensive model for the financial statement recognition, measurement, presentation and disclosure of uncertain tax positions taken or expected to be taken in income tax returns. The Company has no uncertain tax positions as of December 31, 2009 that qualify for either recognition or disclosure in the financial statements under this new guidance.
| | 2. Research Funding Agreement |
During 2009 and 2005, the Company entered into a research funding agreements with Cystic Fibrosis Foundation Therapeutics, Inc. (CFFT) where the Company received $2.2 million and $1.7 million for each respective agreement in research funding for the development of its Arikace™ (formerly known as SLIT™ Amikacin) product. If Arikace™ becomes an approved product in the United States, the Company will owe a “royalty payment” to CFFT of up to $13.4 million that is payable over a three-year period after approval as a commercialized drug in the United States. Furthermore, if certain sales milestones are meet within 5 years of the drug commercialization approval in the United States, the Company would owe an additional $3.9 million in additional “royalty payment.” Since there is significant development risk associated with Arikace™, the Company has not accrued the royalty obligations. In addition, the Company is recording the research funding payments over the expected performance periods, which is each phase of development, as defined in the CFFT contract.
Fixed assets consist of the following:
| | | December 31 | |
| | | 2009 | | | 2008 | |
| | | | | | | |
| Equipment | | $ | 3,002,263 | | | $ | 2,766,964 | |
| Furniture and fixtures | | | 101,768 | | | | 101,768 | |
| Leasehold improvements | | | 979,286 | | | | 968,500 | |
| | | | 4,083,317 | | | | 3,837,232 | |
| Less accumulated depreciation and amortization | | | (2,363,992 | ) | | | (1,702,295 | ) |
| Fixed assets, net | | $ | 1,719,325 | | | $ | 2,134,937 | |
Fixed assets include equipment held under capital lease obligations with an approximate net carrying value at December 31, 2009 and 2008 of $287,062 and $375,637, respectively.
The Company leases its laboratory and office space located in Monmouth Junction, New Jersey under an operating lease arrangement. The Company’s office and laboratory space lease will expire on November 30, 2010. Also, the Company leases miscellaneous equipment which will expire throughout 2011. Rental expense was approximately $533,850, $533,850 and $2,866,700 for the years ended December 31, 2009 and 2008 and the period from May 27, 1997 (inception) through December 31, 2009, respectively.
In 2008, the Company entered into two equipment lease agreements totaling $221,301 for equipment purchases with an effective interest rate of approximately 9.9%. All draws on this financing arrangement are collateralized by the equipment purchased.
Total annual future minimum lease payments at December 31, 2009 are as follows:
| | | Capital | | | Operating | |
| | | Leases | | | Leases | |
| Year Ending December 31: | | | | | | |
| 2010 | | $ | 149,636 | | | $ | 596,252 | |
| 2011 | | | 55,819 | | | | 6,149 | |
| 2012 | | | 55,819 | | | | 5,880 | |
| 2013 | | | 37,576 | | | | 980 | |
| 2014 | | | – | | | | – | |
| Total minimum lease payments | | | 298,850 | | | $ | 609,261 | |
| Less amount representing interest | | | (31,562 | ) | | | | |
| Present value of minimum lease payments | | | 267,288 | | | | | |
| Less amount due within one year | | | (136,068 | ) | | | | |
| Long-term portion | | $ | 131,220 | | | | | |
During 2005, the Company issued a series of notes and warrants in connection with term loans (Bridge Loans) to help fund the Company’s operations prior to the closing of the Series C financing. The principal owed on all these notes issued in 2005 plus accrued interest was converted into 10,902,852 Series C shares on February 17, 2006. The notes accrued interest at an annual rate of 7%. In addition, the Company issued 1,034,474 warrants in connection with the Bridge Loans. The value of the warrant at issuance was accounted for as a debt discount and amortized to interest expense over the life of the loan. Total interest expense recognized related to amortization of debt discount in 2005 is $411,000 (see warrant discussion below).
During 2008, the Company entered into a $12,500,000 venture loan and security agreement and borrowed $7,500,000 and $5,000,000 on August 27, 2008 and December 22, 2008, respectively. The principal amount outstanding under this loan agreement bears interest at 11.75% per annum. Principal repayments on the loans begin October 1, 2009 and February 1, 2010, respectively. The loans are scheduled to mature on February 29, 2012 and July 1, 2012, respectively. In connection with this loan agreement, the Company granted the lender a first-priority security interest on all of the Company’s assets, except for intellectual property.
| | 5. Debt Financing (continued) |
In connection with this loan agreement, the Company entered into a warrant agreement, under which the lender has the right to purchase 3,748,125 shares of the Company’s Series D redeemable convertible preferred stock with an exercise price of $0.2001. The warrants became exercisable upon issuance. See Note 6 for further description.
The scheduled debt payments as of December 31, 2009 are as follows:
| Year Ending December 31: | | | |
| 2010 | | $ | 4,487,297 | |
| 2011 | | | 5,204,404 | |
| 2012 | | | 2,153,056 | |
| 2013 | | | – | |
| Thereafter | | | – | |
| Total | | $ | 11,844,757 | |
The Company is in compliance with all of its loan and security agreement covenants as of December 31, 2009.
During 2009, the Company entered into a $12,000,000 convertible note financing. The principal amount outstanding under the agreement bears interest at 10.0% per annum. The first draw on the convertible notes amounted to $5,870,946. The second draw was in the amount of $6,129,054 and occurred on February 23, 2010. The principal and unpaid interest on the Notes shall be due and payable at the earlier of (i) the written election, on or after March 31, 2011, of the holders of 62.5% in interest of the then outstanding principal under the Notes, (ii) the Company’s equity securities issued in a transaction or series of related transactions with aggregate gross proceeds of at least $10,000,000, excluding conversion of any of the Notes (the “Next Equity Financing”), (iii) the closing of a Liquidity Equity or the initial publ ic offering of the Company’s common stock. Each Note shall (i) be automatically converted into shares of the Next Equity Financing, or (ii) be converted, at the election of the Requisite Lenders at any time after March 31, 2011, into shares of the Company’s Series D Preferred Stock or (iii) be automatically converted immediately prior to a Liquidity Event or the initial public offering of the Company’s common stock into shares of the Company’s Series D Preferred Stock. The conversion price is $0.2001 per share.
| | 5. Debt Financing (continued) |
In connection with this convertible note financing, the Company entered into a warrant agreement to issue Series D redeemable convertible stock with an exercise price of $0.2001 per share equal to the sum of 25.0 percent of the principal amount of the Notes issued divided by the Share Price. The number of warrants issued for Tranche 1 was 7,334,267 (see Note 6).
During 2002 in connection with a bridge loan prior to the Series B financing, the Company issued warrants to purchase 75,000 shares of Series B redeemable convertible preferred stock at $0.80 per share. The Company recorded the warrants at the date of issuance as a component of issuance costs. These warrants will expire upon either a change in control or June 30, 2012, whichever is earlier. The value of these warrants was $1,815 in 2009 and $3,285 in 2008.
During 2003, the Company issued warrants to purchase 13,518 shares of common stock in connection with its capital lease financing. These warrants will expire on December 31, 2013. The warrant was fully vested at issuance and was valued at $3,998 and recorded as a component of interest expense. In addition, the Company also issued warrants to purchase 273,773 shares of common stock in connection with the renewal of its facility lease. These warrants vest over a three-year period with escalating exercise prices starting at $1.00 per common share. The value of the vested warrants was $10,814 and was recorded as a component of general and administrative expense. These warrants will expire upon a change in control or January 31, 2013, whichever is earlier.
During 2005, in connection with a bridge loan prior to the Series C financing, the Company issued warrants to purchase 1,034,474 shares of Series C redeemable convertible preferred stock at $0.58 per share. The value of the warrant liability at issuance was $411,000. The value of the warrants as of December 31, 2009 and 2008, calculated using an option pricing model, was $10,841 and $33,038, respectively. These warrants will expire on February 17, 2011. During 2006, 2,036 shares of the Series C warrants were exercised at $0.58 per share.
In August and December 2008 in connection with its venture debt financing, the Company issued 2,248,875 and 1,499,250 shares of Series D redeemable convertible preferred stock at $0.2001 per share, respectively. The value of the warrant liability at issuance was $526,087. The value of the warrants as of December 31, 2009 and 2008, calculated using an option pricing model was $483,433 and $531,859, respectively. The warrants will expire on August 27, 2015 and December 22, 2015.
In October and November 2009 in connection with its convertible note financing, the Company issued 6,924,057 and 410,210 shares of warrants that are currently exercisable into Series D redeemable convertible preferred stock at $0.2001 per share, respectively. The value of the warrant liability at issuance was $1,143,412. The value of the warrants as of December 31, 2009, calculated using an option pricing model was $1,136,975. The warrants will expire on October 26, 2019 and November 23, 2019.
As of December 31, 2009, the Company has outstanding warrants as follows:
| Series B preferred stock | | | 75,000 | |
| Series C preferred stock | | | 1,032,438 | |
| Series D preferred stock | | | 11,082,392 | |
| Common stock | | | 295,119 | |
During 2007, in connection with the Series D financing, the Company issued rights/obligations to purchase 97,114,942 shares of Series D redeemable convertible preferred stock at $0.2001 per share. The Company accounts for its rights to purchase shares of its Series D redeemable convertible preferred stock in accordance with FASB ASC 480, Distinguishing Liabilities From Equity. As this feature represents the right to acquire Series D redeemable convertible preferred stock, it must be recorded as a liability and carried at fair value at each reporting period. The Company measures the fair value of its put option liability using an option pricing model with changes in fair value recognized as nonoperating income or expense. The value of the put liability at issuance was $2,877,000 . The right was exercised in April 2008.
As of December 31, 2009, the Company had reserved shares of common stock for issuance as follows:
| Exercise of common stock options | | | 40,261,710 | |
| Conversion of Series A preferred stock | | | 7,002,739 | |
| Conversion of Series B preferred stock | | | 34,276,620 | |
| Conversion of Series C preferred stock | | | 110,555,832 | |
| Conversion of Series D preferred stock | | | 180,895,692 | |
| Exercise of common stock warrants | | | 295,119 | |
| | Redeemable Convertible Preferred Stock |
At December 31, 2009, the Company is authorized to issue 5,733,884 shares of Series A redeemable convertible preferred stock (Series A), 17,779,414 shares of Series B redeemable convertible preferred stock (Series B), 69,682,941 shares of Series C redeemable convertible preferred stock (Series C), and 207,750,046 shares of Series D redeemable convertible preferred stock (Series D).
| | | Series A Redeemable Convertible Preferred Stock | | | Series B Redeemable Convertible Preferred Stock | | | Series C Redeemable Convertible Preferred Stock | | | Series D Redeemable Convertible Preferred Stock | |
| | | Shares | | | Amount | | | Shares | | | Amount | | | Shares | | | Amount | | | Shares | | | Amount | |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| Balance, January 1, 2000 | | | – | | | $ | – | | | | – | | | $ | – | | | | – | | | $ | – | | | | – | | | $ | – | |
| Issuance of Series A 7% noncumulative redeemable convertible preferred stock, net of stock issuance costs | | | 5,733,884 | | | | 3,622,801 | | | | – | | | | – | | | | – | | | | – | | | | – | | | | – | |
| Accretion of issuance costs | | | – | | | | 2,978 | | | | – | | | | – | | | | – | | | | – | | | | – | | | | – | |
| Balance, December 31, 2000 | | | 5,733,884 | | | | 3,625,779 | | | | – | | | | – | | | | – | | | | – | | | | – | | | | – | |
| Accretion of issuance costs | | | – | | | | 5,955 | | | | – | | | | – | | | | – | | | | – | | | | – | | | | – | |
| Balance, December 31, 2001 | | | 5,733,884 | | | | 3,631,734 | | | | – | | | | – | | | | – | | | | – | | | | – | | | | – | |
Issuance of Series B 7% noncumulative redeemable convertible preferred stock, net of stock issuance costs | | | – | | | | – | | | | 15,204,414 | | | | 11,822,910 | | | | – | | | | – | | | | – | | | | – | |
| Accretion of issuance costs | | | – | | | | 59,475 | | | | – | | | | 4,043 | | | | – | | | | – | | | | – | | | | – | |
| Balance, December 31, 2002 | | | 5,733,884 | | | | 3,691,209 | | | | 15,204,414 | | | | 11,826,953 | | | | – | | | | – | | | | – | | | | – | |
Issuance of Series B 7% noncumulative redeemable convertible preferred stock, net of stock issuance costs | | | – | | | | – | | | | 2,500,000 | | | | 1,958,332 | | | | – | | | | – | | | | – | | | | – | |
| Accretion of issuance costs | | | – | | | | 27,363 | | | | – | | | | 59,240 | | | | – | | | | – | | | | – | | | | – | |
| Balance, December 31, 2003 | | | 5,733,884 | | | | 3,718,572 | | | | 17,704,414 | | | | 13,844,525 | | | | – | | | | – | | | | – | | | | – | |
| Accretion of issuance costs | | | – | | | | 27,363 | | | | – | | | | 66,569 | | | | – | | | | – | | | | – | | | | – | |
| Balance, December 31, 2004 | | | 5,733,884 | | | | 3,745,935 | | | | 17,704,414 | | | | 13,911,094 | | | | – | | | | – | | | | – | | | | – | |
| Accretion of issuance costs | | | – | | | | 27,363 | | | | – | | | | 66,569 | | | | – | | | | – | | | | – | | | | – | |
| Balance, December 31, 2005 | | | 5,733,884 | | | | 3,773,298 | | | | 17,704,414 | | | | 13,977,663 | | | | – | | | | – | | | | – | | | | – | |
Issuance of Series C 7% noncumulative redeemable convertible preferred stock, net of stock issuance costs | | | – | | | | – | | | | – | | | | – | | | | 52,187,850 | | | | 28,767,186 | | | | – | | | | – | |
| Accretion of issuance costs | | | – | | | | 51,140 | | | | – | | | | 24,649 | | | | – | | | | 219,245 | | | | – | | | | – | |
| Dividends | | | – | | | | 233,554 | | | | – | | | | 861,065 | | | | – | | | | 1,355,724 | | | | – | | | | – | |
| Exercise of warrants | | | – | | | | – | | | | – | | | | – | | | | 2,036 | | | | 1,180 | | | | – | | | | – | |
| Balance, December 31, 2006 | | | 5,733,884 | | | | 4,057,992 | | | | 17,704,414 | | | | 14,863,377 | | | | 52,189,886 | | | | 30,343,335 | | | | – | | | | – | |
Issuance of Series C 7% noncumulative redeemable convertible preferred stock, net of stock issuance costs | | | – | | | | – | | | | – | | | | – | | | | 16,460,617 | | | | 9,547,158 | | | | – | | | | – | |
| Issuance of Series D redeemable convertible preferred stock, net of stock issuance costs | | | – | | | | – | | | | – | | | | – | | | | – | | | | – | | | | 77,797,598 | | | | 15,299,889 | |
| Accretion of issuance costs | | | – | | | | 13,464 | | | | – | | | | 55,372 | | | | – | | | | 255,064 | | | | – | | | | 1,975 | |
| Dividends | | | – | | | | 223,977 | | | | – | | | | 825,753 | | | | – | | | | 2,083,378 | | | | – | | | | – | |
| Reclassification to put option liability | | | – | | | | – | | | | – | | | | – | | | | – | | | | – | | | | – | | | | (2,877,000 | ) |
| Conversion of dividends to common stock | | | – | | | | (457,531 | ) | | | – | | | | (1,686,818 | ) | | | – | | | | (3,439,101 | ) | | | – | | | | – | |
| Balance, December 31, 2007 | | | 5,733,884 | | | | 3,837,902 | | | | 17,704,414 | | | | 14,057,684 | | | | 68,650,503 | | | | 38,789,834 | | | | 77,797,598 | | | | 12,424,864 | |
| | | Series A Redeemable Convertible Preferred Stock | | | Series B Redeemable Convertible Preferred Stock | | | Series C Redeemable Convertible Preferred Stock | | | Series D Redeemable Convertible Preferred Stock | |
| | | Shares | | | Amount | | | Shares | | | Amount | | | Shares | | | Amount | | | Shares | | | Amount | |
| | | | | | | | | | | | | | | | | | | | | | | | | |
| Issuance of Series D redeemable convertible preferred stock in connection with licensing agreement | | | – | | | $ | – | | | | – | | | $ | – | | | | – | | | $ | – | | | | 3,878,835 | | | $ | 776,155 | |
| Issuance of Series D redeemable convertible preferred stock, net of stock issuance costs | | | – | | | | – | | | | – | | | | – | | | | – | | | | – | | | | 97,114,942 | | | | 19,361,936 | |
| Accretion of issuance costs | | | – | | | | 3,800 | | | | – | | | | 53,795 | | | | – | | | | 255,062 | | | | – | | | | 57,375 | |
| Reclassification of put option liability | | | – | | | | – | | | | – | | | | – | | | | – | | | | – | | | | – | | | | 2,877,000 | |
| Conversion to common stock | | | (1,798,510 | ) | | | (1,205,002 | ) | | | (538,681 | ) | | | (430,945 | ) | | | (62,407 | ) | | | (36,196 | ) | | | – | | | | – | |
| Balance, December 31, 2008 | | | 3,935,374 | | | | 2,636,700 | | | | 17,165,733 | | | | 13,680,534 | | | | 68,588,096 | | | | 39,008,700 | | | | 178,791,375 | | | | 35,497,330 | |
| Issuance of Series D redeemable convertible preferred stock in connection with licensing agreement | | | – | | | | – | | | | – | | | | – | | | | – | | | | – | | | | 2,104,317 | | | | 421,074 | |
| Accretion of issuance costs | | | – | | | | – | | | | – | | | | 34,517 | | | | – | | | | 255,063 | | | | – | | | | 59,991 | |
| Balance, December 31, 2009 | | | 3,935,374 | | | $ | 2,636,700 | | | | 17,165,733 | | | $ | 13,715,051 | | | | 68,588,096 | | | $ | 39,263,763 | | | | 180,895,692 | | | $ | 35,978,395 | |
Annual accretion of issuance cost over the next three years will be as follows:
| 2010 | | $ | 331,288 | |
| 2011 | | | 230,297 | |
| 2012 | | | 143,220 | |
| | | $ | 704,805 | |
The convertible preferred stockholders have voting rights equal to the common stockholders on an as converted basis.
The holders of the Series A, B, C and D Preferred Stock have the right to convert their Preferred Stock shares, at any time, in whole or in part, into shares of Common Stock at a ratio equal to (i) the applicable purchase price divided by (ii) the then applicable conversion price (in the case of the Series A Preferred, $0.67 divided by $0.376524; in the case of the Series B Preferred, $0.80 divided by $0.400640; in the case of the Series C Preferred, $0.58 divided by $0.359828; and in the case of the Series D Preferred, $0.2001 divided by $0.2001), subject to certain adjustments for dilution, if any, resulting from future stock issuances. Additionally, the convertible preferred shares automatically convert into common stock concurrent with the closing of a firm commitment underwritten public offering of common stock under the Securities A ct of 1933, in which the Company receives at least $40,000,000 in gross proceeds and at least $0.6003 per share or on the effective date of a written election by the 62.5% of the preferred stock, voting together on an as converted basis as a separate class. The Company has reserved sufficient shares of common stock at December 31, 2009 for issuance upon the conversion of preferred stock and warrants.
| | Series D Pay-to-Play Conversion |
At the Supplemental First Closing for the sale of the Company’s Series D preferred stock on March 5, 2008, investors of the Company’s Series A, B and C preferred stock (the “Existing Preferred Stock”) who did not fully participate in the purchase of their pro-rata share of Series D preferred stock had their shares of their individual holdings of the Existing Preferred Stock converted into shares of Common stock pro-ratably in order of Series A, Series B then Series C
shares, respectively. The calculation was based on the then prevailing preferred stock to common stock conversion ratios of 1.84195 Common per Series A, 2.06696 Common per Series B and 1.66851 Common per Series C. These pay-to-play conversions resulted in 1,798,510 shares of Series A preferred stock, 538,681 shares of Series B preferred stock and 62,407 shares of Series C preferred stock being converted to 4,530,334 shares of common stock.
| | Preferred Stock Dividends |
Series A, B, C and D convertible preferred stockholders are entitled to noncumulative dividends at an annual rate of 7% when and if declared. Dividends will be paid only when declared by the Board of Directors or upon a liquidity event or redemption out of legally available funds. No dividends have been declared as of or for any period prior to December 31, 2007. However, the Company converted the dividends of Series A, B and C shares accrued since the Series C financing date (February 17, 2006) into common stock (approximately $5.6 million) on the Series D financing date (December 14, 2007).
Series A, B, C and D convertible preferred stockholders are entitled to receive, upon liquidation, dissolution or winding up of the Company (including consolidation or merger) a distribution of $0.335, $0.40, $0.29 and $0.2001 per share, respectively (subject to adjustment for a recapitalization), plus declared but unpaid dividends. Thereafter, the Series A, B, C and D stockholders will fully participate with common stockholders on an “as converted” basis for all remaining assets distributable to stockholders.
The holder of the preferred stock shall have the right but not the obligation to require redemption of the preferred stock at any time after the fifth anniversary of the Series D financing date. Redemption is subject to a 60-day notice with a) submission of at least 2/3 of Series D shares, as a separate class for redemption of Series D shares; and b) submission of at least 2/3 of Series A, B and C shares, together as one class, for the redemption of Series A, B and C shares. Redemption price per share is equal to original issue price (subject to adjustment for splits, stock dividends, combination of shares, reclassification or other similar event) plus all declared but unpaid dividends. The Series A, B and C redemption is grouped together and is available for redemption only after all of the Series D has been redeemed in full.
In December 2000, the Board of Directors approved and adopted the 2000 Stock Option Plan (the Stock Option Plan), as amended. On December 14, 2007, an amendment was passed increasing the total number of shares of common stock available for awards from 16,034,447 to 44,074,105. Stock options granted under the Stock Option Plan may be incentive stock options or nonstatutory stock options. Incentive stock options may be granted to employees with exercise prices of no less than the fair value, and nonstatutory options may be granted to employees or consultants at exercise prices of no less than fair value of the common stock on the grant date, as determined by the Board of Directors. If, at the time the Company grants an option, the optionee directly or by attribution owns stock possessing more than 10% of the total combined voting power of all classes of stock of the Company, the option price shall be at least 110% of the fair value. Options expire no more than ten years after the date of grant or earlier if employment is terminated.
In addition, in connection with the Stock Option Plan certain employees and consultants may receive restricted stock. The employee is entitled to all of the rights of a shareholder unless otherwise specified. Upon termination of employee’s employment or consultant’s contract for services, any unvested restricted stock is forfeited.
As a result of the adoption of ASC 718, both loss from operations and net loss for the year ended December 31, 2009, 2008 and for the period from May 27, 1997 (inception) through December 31, 2009, include incremental stock-based compensation expense of $327,835, $314,880 and $1,103,673, respectively. For the year ended December 31, 2009 and 2008 and the period from May 27, 1997 (inception) through December 31, 2009, respectively, research and development expense include 94,697, $89,178, and $231,777 general and administrative expense include $233,138, $225,702 and $871,896 of stock compensation expense, respectively. Prior to the adoption of ASC 718, the Company accounted for stock-based compensation under the recognition and measurement provision of APB No. 25, Accounting for Stock Issued to Employees, and related interpretations.
Upon adoption of ASC 718, the Company selected the Black-Scholes option pricing model as the most appropriate model for determining the estimated fair value of the stock-based awards. The fair value is then amortized on a straight-line basis over the requisite service period of the awards, which is generally the vesting period. Use of a valuation requires management to make certain assumptions with respect to model inputs. Expected volatility was calculated based on an average of historical information of similar public entities for which historical information was available. The expected life was determined using the short-cut approach as described in SAB 107, which is the midpoint between the vesting date and the end of the contractual term. The ris k-free interest rate is based on the market yield on U.S. Treasury securities at five-year constant maturity. Forfeitures are estimated based on a historical percentage of actual option forfeitures. The assumptions used in the Black-Scholes option pricing model are as follows:
| | | Year Ended December 31, 2009 | |
| | | | |
| Expected price volatility | | | 73.15 | % |
| Risk-free interest rate | | | 2.2 | % |
| Expected life of options (years) | | | 6.25 | |
| Expected annual dividend per share | | $ | 0.00 | |
Stock options under the Stock Option Plan typically vest ratably over four years from the date of grant. Options may be granted with different vesting terms from time to time. In the event option holders cease to be employed by the Company or the consultant’s services are terminated, all unvested options are forfeited and all vested options may be exercised for three months from the date of termination or until the expiration of the term of the option, whichever is shorter. The options issued to nonemployees are to be exercisable for not more than ten years after the grant and generally vest over four years.
As of December 31, 2009, the total unrecognized compensation cost related to non-vested stock options was approximately $453,712. This cost is expected to be recognized over a weighted average period of 1.75 years.
Stock option and restricted stock activity under the Stock Option Plan was as follows:
| | | | | | | | | Options Outstanding | |
| | | Shares Available for Grant | | | Restricted Shares | | | Number of Options | | | Option Price Per Share Range | | | Weighted-Average Exercise Price | |
| | | | | | | | | | | | | | | | |
| Balance at December 31, 2007 | | | 30,854,756 | | | | 1,424,959 | | | | 11,523,875 | | | | | | $ | 0.11 | |
| Options granted | | | (29,905,097 | ) | | | – | | | | 29,905,097 | | | $ | 0.04 | | | | | |
| Options exercised | | | – | | | | – | | | | (85,205 | ) | | $ | 0.12 | | | | | |
| Options forfeited | | | 588,281 | | | | – | | | | (588,281 | ) | | $ | 0.10 | | | | | |
| Restricted stock grant | | | (512,827 | ) | | | 512,827 | | | | – | | | | | | | | | |
| Balance at December 31, 2008 | | | 1,025,113 | | | | 1,937,786 | | | | 40,755,486 | | | | | | | $ | 0.08 | |
| Options granted | | | (80,000 | ) | | | – | | | | 80,000 | | | $ | 0.04 | | | | | |
| Options exercised | | | – | | | | – | | | | (360,036 | ) | | $ | 0.08 | | | | | |
| Options forfeited | | | 213,740 | | | | – | | | | (213,740 | ) | | $ | 0.05 | | | | | |
| Restricted stock grant | | | – | | | | – | | | | – | | | | | | | | | |
| Balance at December 31, 2009 | | | 1,158,853 | | | | 1,937,786 | | | | 40,261,710 | | | | | | | $ | 0.06 | |
| Expected to vest | | | | | | | | | | | 37,988,786 | | | | | | | | | |
| Exercisable | | | | | | | | | | | 21,383,427 | | | | | | | | | |
The total fair value for options granted during 2009 was $2,120.
The following table summarizes information about stock options outstanding at December 31, 2009:
| | | | | | | Options Outstanding | | | Options Exercisable | |
Range of Exercise Prices | | | Number Outstanding as of December 31, 2009 | | | Weighted-Average Remaining Contractual Term | | | Weighted- Average Exercise Price | | | Number Exercisable as of December 31, 2009 | | | Weighted-Average Exercise Price | |
| | | | | | | | | | | | | | | | | | | | |
| $ | 0.04 | | | $ | 0.04 | | | | 29,254,585 | | | | 7.25 | | | $ | 0.04 | | | | 12,259,359 | | | $ | 0.04 | |
| | 0.07 | | | | 0.07 | | | | 75,000 | | | | 0.81 | | | | 0.07 | | | | 75,000 | | | | 0.07 | |
| | 0.10 | | | | 0.10 | | | | 10,426,246 | | | | 6.69 | | | | 0.10 | | | | 8,543,189 | | | | 0.10 | |
| | 0.15 | | | | 0.15 | | | | 97,750 | | | | 2.10 | | | | 0.15 | | | | 97,750 | | | | 0.15 | |
| | 0.20 | | | | 0.20 | | | | 385,920 | | | | 4.24 | | | | 0.20 | | | | 385,920 | | | | 0.20 | |
| | 1.50 | | | | 1.50 | | | | 22,209 | | | | 5.59 | | | | 1.50 | | | | 22,209 | | | | 1.50 | |
| | 0.04 | | | | 1.50 | | | | 40,261,710 | | | | 7.05 | | | $ | 0.06 | | | | 21,383,427 | | | $ | 0.07 | |
Cash proceeds for options exercised during 2009 were $6,966 having an intrinsic value of $0.
Deferred income taxes reflect the net tax effects of temporary differences between the carrying amount of assets for financial reporting and the amount used for income tax purposes. Significant components of the Company’s deferred tax assets were as follows:
| | | December 31 | |
| | | 2009 | | | 2008 | |
| Deferred tax assets (liabilities): | | | | | | |
| Net operating loss carryforwards | | $ | 41,671,000 | | | $ | 33,388,000 | |
| Research and development tax credit | | | 5,318,000 | | | | 3,739,000 | |
| Fixed assets | | | (49,000 | ) | | | (132,000 | ) |
| Other | | | 527,000 | | | | 393,000 | |
| Total net deferred tax assets | | | 47,467,000 | | | | 37,388,000 | |
| Valuation allowance for deferred net tax assets | | | (47,467,000 | ) | | | (37,388,000 | ) |
| Net deferred tax assets | | $ | – | | | $ | – | |
Realization of the deferred tax assets is dependent upon future taxable income, if any, the amount and timing of which are uncertain. Accordingly, the net deferred tax assets have been fully offset by a valuation allowance of approximately $47,467,000 and $37,388,000 at December 31, 2009 and 2008, respectively. The net valuation allowance increased by approximately $10,079,000 and $11,581,000 during the years ended December 31, 2009 and 2008, respectively.
As of December 31, 2009 and 2008, the Company had federal net operating loss carryforwards of approximately $108,000,000 and $87,262,000, respectively. The Company also had federal research and development tax credit carryforwards of approximately $3,577,000 and $2,773,000, respectively. The net operating loss and tax credit carryforwards will expire at various dates beginning in 2019, if not utilized.
The Company recognized a tax benefit of approximately $523,430 in connection with the sale of New Jersey State net operating losses and New Jersey research and development credits during the year ended December 31, 2008.
| | 10. Defined Contribution Plan |
The Company has established a defined contribution pension plan (the Plan) covering all eligible employees. Employees are eligible to participate in the Plan following the completion of one year of service, as defined in the Plan document. Employee contributions may not exceed 15% of their compensation for the Plan year and the Company will match contributions at its discretion. The Company also has the discretion to make an annual contribution to the Plan. As of December 31, 2009, no employer contributions were made to the Plan.
| | 11. Other Licensing Arrangements |
In August 2008, the Company in-licensed certain technology from an unrelated third party and will use that technology to further develop ArikaceTM for pulmonary delivery in connection with the treatment of cystic fibrosis. In the event of commercialization, the Company will owe future royalty payments. In connection with the agreement, for the year ended December 31, 2009 and 2008, respectively, the Company issued 2,104,317 and 3,878,835 shares of Series D Redeemable Convertible Preferred Stock.
On February 23, 2010, the Company closed another round of its convertible note financing amounting to $6,129,054.
The Company evaluated events that occurred subsequent to December 31, 2009 through April 27, 2010, which is the date the financial statements were available to be issued.
