ITEM 2 — Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis of our financial condition and results of operations should be read together with our financial statements and related notes appearing elsewhere in this Quarterly Report on Form 10-Q.
Forward Looking Statements
This Quarterly Report on Form 10-Q contains “forward-looking statements” that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could cause our results to differ materially from those expressed or implied by such forward-looking statements. The statements contained in this Quarterly Report on Form 10-Q that are not purely historical are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Forward-looking statements are often identified by the use of words such as, but not limited to, “anticipate,” “believe,” “can,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “will,” “plan,” “project,” “seek,” “should,” “target,” “will,” “would” and similar expressions or variations intended to identify forward-looking statements. These statements are based on the beliefs and assumptions of our management based on information currently available to management. Such forward-looking statements are subject to risks, uncertainties and other important factors that could cause actual results and the timing of certain events to differ materially from future results expressed or implied by such forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those discussed in the section titled “Risk Factors” in Part I, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2012, and any updates to those risk factors included in Part II, Item 1A of this Quarterly Report on Form 10-Q. Furthermore, such forward-looking statements speak only as of the date of this report. Except as required by law, we undertake no obligation to update any forward-looking statements to reflect events or circumstances after the date of such statements.
Overview
We are a medical technology and therapeutics company, developing an innovative and proprietary platform technology offering what we believe to be a novel approach for the $100+ billion protein therapeutics market. Our Biopump Platform Technology is designed to provide sustained protein therapy to treat a range of chronic diseases and conditions.
Since our inception on January 27, 2000, we have focused our efforts on research and development and clinical trials and have received no revenue from product sales. We have funded our operations principally through equity and debt financings, participation from the Office of the Chief Scientist (OCS) in Israel and a collaborative agreement. Our operations to date have been primarily limited to organizing and staffing our company, developing the Biopump Platform Technology and its applications, developing and initiating clinical trials for our product candidates, and improving and maintaining our patent portfolio.
We have generated significant losses to date, and we expect to continue to generate losses as we progress towards the commercialization of our product candidates. We have incurred net losses of approximately $11.92 million for the nine month period ended September 30, 2013 and $76.93 million for the period from inception through September 30, 2013. As of September 30, 2013, we had stockholders’ equity of approximately $21.95 million. We are unable to predict the extent of any future losses or when we will become profitable, if at all.
Financial Operations Overview
Research and Development Expense
Research and development expense consists of: (i) internal costs associated with our development activities; (ii) payments we make to third party contract research organizations, contract manufacturers, clinical trial sites, and consultants; (iii) technology and intellectual property license costs; (iv) manufacturing development costs; (v) personnel related expenses, including salaries, benefits, travel, and related costs for the personnel involved in product development; (vi) activities related to regulatory filings and the advancement of our product candidates through preclinical studies and clinical trials; and (vii) facilities and other allocated expenses, which include direct and allocated expenses for rent, facility maintenance, as well as laboratory and other supplies. All research and development costs are expensed as incurred.
Conducting a significant amount of development is central to our business model. Through September 30, 2013, we incurred approximately $44.19 million in gross research and development expenses since our inception on January 27, 2000. Product candidates in later-stage clinical development generally have higher development costs than those in earlier stages of development, primarily due to the significantly increased size and duration of the clinical trials. We plan to increase our research and development expenses for the foreseeable future in order to further develop the Biopump platform and to identify attractive commercial markets for the technology.
The process of conducting pre-clinical studies and clinical trials necessary to obtain regulatory approval is costly and time consuming. The probability of success for each product candidate and clinical trial may be affected by a variety of factors, including, among others, the quality of the product candidate’s early clinical data, investment in the program, competition, manufacturing capabilities and commercial viability. As a result of these uncertainties, together with the uncertainty associated with clinical trial enrollments and the risks inherent in the development process, we are unable to determine the duration and completion costs of current or future clinical stages of our product candidates or when, or to what extent, we will generate revenues from the commercialization and sale of any of our product candidates. Development timelines, probability of success and development costs vary widely. We are currently focusing on the optimization of the Biopump performance with the 2
nd
generation viral vectors and new implantation protocols through the EPODURE development program.
Research and development expenses are shown net of participation by third parties.
General and Administrative Expense
General and administrative expense consists primarily of salaries and other related costs, including stock-based compensation expense, for persons serving as our directors and in our executive, finance and accounting functions. Other general and administrative expense includes facility-related costs not otherwise included in research and development expense, costs associated with industry and trade shows, and professional fees for legal services and accounting services. We expect that our general and administrative expenses will increase as we continue to add personnel. Since our inception on January 27, 2000 through September 30, 2013, we spent approximately $40.29 million on general and administrative expense.
Other Income
We have not generated any product revenue since our inception, but, in connection with our first collaboration agreement, we received $3.97 million from Baxter Healthcare through December 31, 2011 of which $2.9 million was recognized as other income.. If our product development efforts result in clinical success, regulatory approval and successful commercialization of any of our products, we would expect to generate revenue from sales or licenses of any such products.
Financial Income and Expense
Financial expense consists primarily of interest and amortization of beneficial conversion feature of convertible note, convertible debentures valuations, warrant valuations and interest incurred on debentures.
Financial income consists primarily of interest earned on our cash and cash equivalents and marketable securities.
Results of Operations for the Nine Months Ended September 30, 2013 and 2012
Research and Development Expenses
Gross research and development expenses for the nine months ended September 30, 2013 were $6.56 million, increasing from $5.13 million for the same period in 2012, due mainly to an increase in research and development personnel and an increase in activity.
Research and development expenses, net for the nine months ended September 30, 2013 were $5.23 million, increasing from $3.36 million for the same period in 2012. The increase in the research and development expenses, net was due to the participation by the OCS of $1.33 million in the nine months ended September 30, 2013 as opposed to $1.77 million in the same period in 2012 in addition to the increase in the gross research and development expenses as explained above.
General and Administrative Expenses
General and administrative expenses for the nine months ended September 30, 2013 were $6.70 million increasing from $5.60 million for the same period in 2012, due mainly to an increase in general and administrative personnel, directors’ equity compensation and professional fees.
Financial Income and Expenses
Financial expenses for the nine months ended September 30, 2013 were $0.02 million, decreasing from $3.72 million for the same period in 2012. This decrease of $3.70 million was mainly due to the change in valuation of the warrant liability.
Financial income for the nine months ended September 30, 2013 increased by an insignificant amount compared to the same period in 2012.
Results of Operations for the Three Months Ended September 30, 2013 and 2012
Research and Development Expenses
Gross research and development expenses for the three months ended September 30, 2013 were $2.45 million, increasing from $1.89 million for the same period in 2012, due mainly to an
increase in research and development personnel and an increase in activity.
Research and development expenses, net for the three months ended September 30, 2013 were $2.34 million, increasing from $1.61 million for the same period in 2012. The increase in the research and development expenses, net was due mainly to the increase in the gross research and development expenses as explained above
.
General and Administrative Expenses
General and administrative expenses for the three months ended September 30, 2013 were $2.56 million, increasing from $1.47 million for the same period in 2012, primarily due to an
increase in general and administrative personnel, directors’ equity compensation and professional fees.
Financial Income and Expenses
Financial expenses for the three months ended September 30, 2013 were $1.26 million, increasing from nil for the same period in 2012. This increase was mainly due to the change in valuation of the warrant liability.
Financial income for the three months ended September 30, 2013 was $0.02 million, decreasing from $0.06 million for the same period in 2012. This decrease was primarily due to the change in valuation of the warrant liability.
Liquidity and Capital Resources
Sources of Liquidity
We have financed our operations primarily through a combination of equity, debt issues and grants from the OCS and other third parties.
We recorded $8.38 million from inception through September 30, 2013 from the OCS in development grants, of which $0.91 million was received during the nine months ended September 30, 2013.
On February 13, 2013, we completed a registered public offering of 5,600,000 shares of common stock and 5,600,000 Series 2013-A warrants to purchase up to an aggregate of 2,800,000 shares of common stock. The shares of common stock and Series 2013-A warrants were sold together as a fixed combination, each consisting of one share of common stock and one Series 2013-A warrant to purchase 0.50 of a share of common stock, at a public offering price of $5.25 per combination, less the underwriting discounts and commissions payable by us, for net proceeds of approximately $26.55 million. To cover over-allotments made in connection with the offering, the underwriters purchased, at the same price, an additional 470,000 shares of common stock and an additional 840,000 Series 2013-A warrants to purchase up to 420,000 shares of common stock, for additional net proceeds of approximately $2.27 million.
On June 18, 2012, we completed a private placement transaction in which we issued an aggregate of 1,944,734 units with each unit consisting of one share of our common stock and a warrant to purchase 0.75 shares of our common stock. The warrants to purchase an aggregate of 1,458,550 shares of common stock were issued with an exercise price of $8.34 per share and became exercisable on December 15, 2012 (which, if all were exercised in full, would result in the issuance of 1,458,576 shares of common stock due to the rounding of fractional shares) and will expire on June 18, 2017. In addition, warrants to purchase 194,473 shares of our common stock having an exercise price of $9.17 per share were issued to the placement agent, became exercisable on December 18, 2012 and will expire on June 18, 2017. Each unit was sold for a purchase price of $4.90 for total net proceeds of approximately $8.41 million.
Cash Flows
We had cash and cash equivalents of $26.79 million at September 30, 2013 and $6.43 million at December 31, 2012. The increase in our cash balance during the nine months ended September 30, 2013 was primarily the result of our registered public offering of common stock and Series 2013-A warrants during the period.
Net cash used in operating activities increased to $8.36 million for the nine months ended September 30, 2013 from $5.87 million for the nine months ended September 30, 2012 primarily due to an increase in operations.
Net cash used in investing activities of $0.16 million for the nine months ended September 30, 2013 and $0.05 million for the nine months ended September 30, 2012 relates mainly to our purchases of equipment.
Net cash provided by financing activities was $28.87 million and $9.93 million for the nine months ended September 30, 2013 and 2012, respectively. Our cash flows from financing activities during the nine months ended September 30, 2013 were primarily the result of our registered public offering of common stock and Series 2013-A warrants during the period.
Our cash flows from financing activities during the nine months ended September 30, 2012 were primarily proceeds from the private placement transaction in June 2012.
Funding Requirements
Our future capital requirements will depend on a number of factors, including the timing and outcome of clinical trials and regulatory approvals, the costs involved in preparing, filing, prosecuting, maintaining, defending, and enforcing patent claims and other intellectual property rights, the acquisition of licenses to new products or compounds, the status of competitive products, the availability of financing, and our success in developing markets for our product candidates.
Without taking into account any revenue we may receive as a result of licensing or other commercialization agreements we believe that cash on hand, including the net proceeds we received from our public offering of common stock and Series 2013-A warrants in 2013, will be sufficient to enable us to fund our operating expenses and capital expenditure requirements through the end of 2014.
We have based this estimate on assumptions that may prove to be wrong and we could use our available resources sooner than we currently expect. Because of the numerous risks and uncertainties associated with the development and commercialization of our product candidates, we are unable to estimate the amounts of increased capital outlays and operating expenditures associated with our current and anticipated clinical trials.
We do not anticipate that we will generate revenue from the sale of products for several years; however, we do intend to seek licensing or other commercialization agreements for existing and new Biopump applications. In the absence of additional funding or adequate funding from commercialization agreements, we expect our continuing operating losses to result in decreases in our cash balances over the next several quarters.
Absent significant corporate collaboration and licensing arrangements, we will need to finance our future cash needs through public or private equity offerings or debt financings in the future. We do not currently have any commitments for future external funding. We may need to raise additional funds more quickly if one or more of our assumptions prove to be incorrect or if we choose to expand our product development efforts more rapidly than we presently anticipate, and we may decide to raise additional funds even before we need them if the conditions for raising capital are favorable. We may seek to sell additional equity or debt securities or obtain a bank credit facility. The sale of additional equity or debt securities, if convertible, could result in dilution to our stockholders. The incurrence of indebtedness would result in increased fixed obligations and could also result in covenants that would restrict our operations.
Our plans include seeking additional investments and commercial agreements to continue our operations. However, there is no assurance that we will be successful in our efforts to raise the necessary capital and/or reach such commercial agreements to continue our planned research and development activities.
Critical Accounting Policies
Our management’s discussion and analysis of our financial condition and results of operations is based on our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities and expenses. On an ongoing basis, we evaluate these estimates and judgments, including those described below. We base our estimates on our historical experience and on various other assumptions that we believe to be reasonable under the circumstances. These estimates and assumptions form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results and experiences may differ materially from these estimates.
While our significant accounting policies are more fully described in Note 2 to our financial statements included elsewhere in this Quarterly Report on Form 10-Q, we believe that the following accounting policies are the most critical to aid you in fully understanding and evaluating our reported financial results and affect the more significant judgments and estimates that we use in the preparation of our financial statements.
Liability in Respect of Warrants
In the past, we issued warrants whose exercise price is subject to downward adjustment. In accordance with Accounting Standards Codification No. 815-40-15-7I, we classified these warrants as a liability at their fair value. The warrants liability will be remeasured at each reporting period until exercised or expired. The decrease in the fair value of the warrants during the nine months ended September 30, 2013 of $0.02 million and the increase in the fair value of the warrants during the nine months ended September 30, 2012 of $3.63 million are reported in the Statements of Operations as financial income and expenses, respectively.
We estimate the fair value of these warrants at the respective balance sheet dates using the Binomial option pricing model. We use a number of assumptions to estimate the fair value, including the remaining contractual terms of the warrants, risk-free interest rates, expected dividend yield and expected volatility of the price of the underlying common stock. These assumptions could differ significantly in the future, thus resulting in variability of the fair value which would impact the results of operations in the future.
Stock-Based Compensation
We account for stock options according to the Accounting Standards Codification No. 718 (ASC 718) “Compensation – Stock Compensation.” Under ASC 718, stock-based compensation cost is measured at grant date, based on the estimated fair value of the award, and is recognized as an expense over the employee’s requisite service period on a straight-line basis.
We account for stock options granted to non-employees on a fair value basis using an option pricing method in accordance with ASC 718. The initial non-cash charge to operations for non-employee options with vesting are revalued at the end of each reporting period based upon the change in the fair value of the options and amortized to consulting expense over the related vesting period.
For the purpose of valuing options and warrants granted to our employees, non-employees and directors and officers during the nine months ended September 30, 2013 and 2012, we used the Binomial options pricing model. To determine the risk-free interest rate, we utilized the U.S. Treasury yield curve in effect at the time of grant with a term consistent with the expected term of our awards. We estimated the expected life of the options granted based on anticipated exercises in the future periods assuming the success of our business model as currently forecast. The expected dividend yield reflects our current and expected future policy for dividends on our common stock. The expected stock price volatility for our stock options was calculated by examining historical volatilities for publicly traded industry peers as we do not have sufficient trading history for our common stock. We will continue to analyze the expected stock price volatility and expected term assumptions as more historical data for our common stock becomes available. Given the senior nature of the roles of our employees, directors and officers, we currently estimate that we will experience 5% annual forfeiture for those options currently outstanding.
Off-Balance Sheet Arrangements
There have been no material changes to the discussion of off-balance sheet arrangements included in our Annual Report on Form 10-K for the year ended December 31, 2012.