NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. Organization, Operations and
Basis of Accounting
Response
Genetics, Inc. (the “Company”) was incorporated in the State of Delaware on September 23, 1999 as Bio Type, Inc. for
the purpose of providing molecular profiling services of tumor tissue that has been formalin-fixed and embedded in paraffin. In
August 2000, the Company changed its name to Response Genetics, Inc.
The
Company is a life science company engaged in the research, development, marketing and sale of pharmacogenomics-clinical diagnostic
tests for cancer. Pharmacogenomics is the science of how an individual’s genetic makeup relates to drug response. Diagnostic
tests based on pharmacogenomics facilitate the prediction of a response to drug therapy or survival following surgery based on
an individual’s genetic makeup. In order to generate pharmacogenomic information from patient specimens for these tests,
the Company uses its proprietary technologies that enable the Company to reliably and consistently extract ribonucleic acid (“RNA”)
and deoxyribonucleic acid (“DNA”) from tumor specimens that are stored as formalin-fixed and paraffin-embedded (“FFPE”)
specimens and, thereby to analyze genetic information contained in these tissues for each patient. The Company’s platforms
include analysis of single biomarkers using the polymerase chain reaction method as well as global gene interrogation using microarray
methods and fluorescence in situ hybridization (“FISH”) from paraffin or frozen tissue specimens. The Company primarily
derives its revenue from the sale of its ResponseDX
®
diagnostic testing products and by providing pharmacogenomic
clinical trial testing services to pharmaceutical companies in the United States, Asia and Europe.
The
Company’s goal is to provide cancer patients and their physicians with a means to make informed, individualized treatment
decisions based on genetic analysis of tumor tissues. The Company’s pharmacogenomic analysis of clinical trial specimens
for the pharmaceutical industry may provide data that will lead to a better understanding of the molecular basis for response to
specific drugs and, therefore lead to individualized treatment.
Since
its inception, the Company has devoted substantial effort in developing its products and has incurred losses and negative cash
flows from operations. At June 30, 2014, the Company had an accumulated deficit of $71,940,591. The Company anticipates continued
losses and negative cash flows as it funds its selling and marketing activities and research and development programs.
The
Company’s current operating plan includes various assumptions concerning the level and timing of cash receipts from
sales and cash outlays for operating expenses and capital expenditures. Management believes that existing cash and cash
equivalents, as well as other available resources, will be sufficient to meet the Company’s working capital
requirements through the next twelve months. The Company’s ability to successfully carry out its business plan is
primarily dependent upon its ability to (1) attract and retain knowledgeable employees, (2) generate significant revenues and
(3) if needed, obtain capital at acceptable costs. Until the Company can generate and maintain sufficient revenue to finance
its cash requirements, the Company expects to satisfy its future cash needs primarily through public or private equity
offerings, strategic collaborations, the line of credit, the credit facility and other financing opportunities. However,
there can be no assurance that any additional financing or strategic investments will be available on acceptable terms, if at
all. If the Company is not able to secure additional funding when needed, the company have to delay, reduce the scope of or
eliminate selling and marketing activities or research and development programs which may have a material adverse effect on
the Company.
On
July 30, 2014, the Company amended its line of credit agreement, which included extending the maturity to July 25, 2016. Also on
July 30, 2014, the Company entered into a credit agreement for a maximum loan commitment of $12,000,000, of which the Company drew
$8,500,000 gross proceeds. (See Note 11.)
If
events or circumstances occur such that the Company does not meet its operating plan as expected, the Company will most likely
be required to reduce certain discretionary spending and/or curtail operations, which could have a material adverse effect on the
Company’s ability to achieve its intended business objectives. No adjustments have been made to the accompanying unaudited
condensed consolidated financial statements to reflect any of the matters discussed above. The unaudited condensed consolidated
financial statements have been prepared on the basis that the Company will continue as a going concern.
The
accompanying unaudited condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted
accounting principles (“U.S. GAAP”) for interim financial information and with the instructions for Form 10-Q promulgated
by the Securities and Exchange Commission (the “SEC”). Accordingly, they do not include all of the information and
footnotes required by U.S. GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of
normal recurring adjustments) considered necessary for a fair presentation have been included. The results of operations for interim
periods are not necessarily indicative of the results that may be expected for the fiscal year. The balances as of December 31,
2013 were derived from our audited financial statements as of December 31, 2013. The financial statements should be read in conjunction
with the Company’s audited December 31, 2013 and 2012 consolidated financial statements and accompanying notes included in
the Company’s Annual Report on Form 10-K previously filed with the SEC on March 31, 2014.
2. Summary of Significant Accounting
Policies
Basis of Consolidation
The
condensed consolidated financial statements include the accounts of the Company and its wholly owned subsidiary, Response Genetics,
Ltd., a Scottish corporation (the “Subsidiary”), which was incorporated in November 2006. The Subsidiary had no employees
or active operations in 2013 or to date in 2014. All significant intercompany transactions and balances have been eliminated in
consolidation.
Cash and
Cash Equivalents
The
Company considers all highly liquid investments with a maturity date of three months or less from the date of purchase to be cash
equivalents. The carrying value of cash equivalents approximates fair value due to the short-term nature and liquidity of these
instruments. The Company’s cash equivalents are comprised of cash on hand, deposits in banks and money market investments.
RESPONSE GENETICS,
INC.
NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
2. Summary of Significant Accounting
Policies (continued)
Accounts
Receivable
Pharmaceutical
Accounts Receivable
The
Company invoices its clients as specimens are processed and any other contractual obligations are met. The Company’s contracts
with clients typically require payment within 45 days of the date of invoice. The Company maintains allowances for doubtful accounts
for estimated losses resulting from the inability of its clients to make required payments. The Company specifically analyzes accounts
receivable and historical bad debts, client credit, current economic trends and changes in client payment trends when evaluating
the adequacy of the allowance for doubtful accounts. Account balances are charged-off against the allowance when it is probable
the receivable will not be recovered. To date, the Company’s pharmaceutical customers have primarily been large pharmaceutical
companies. As a result, bad debts from pharmaceutical accounts receivable to date have been minimal. Pharmaceutical company accounts
receivable as of December 31, 2013 and June 30, 2014 were $1,892,384 and $1,060,649, respectively. There were no allowances for
doubtful accounts recorded against these pharmaceutical accounts receivable at December 31, 2013 and June 30, 2014.
ResponseDX
®
Accounts Receivable
ResponseDX
®
accounts receivable are recorded from two primary payors: (1) Medicare and (2) third party payors such as commercial insurance
and private payors or self-paying payors (“Private Payors”). ResponseDX
®
accounts receivable are recorded
at established billing rates less an estimated billing adjustment, based on reporting models utilizing historical cash collection
percentages and updated for current effective reimbursement factors. Management performs ongoing valuations of accounts receivable
balances based on management’s evaluation of historical collection experience and industry trends. Based on the historical
experience for our Medicare and Private Payor accounts, management has determined, based on a detailed analysis, that accounts
receivable associated with certain billings are unlikely to be collected. Therefore, the Company has recorded an allowance for
doubtful accounts of $2,404,659 and $1,912,668 as of December 31, 2013 and June 30, 2014, respectively. The Company’s bad
debt expense for the three months ended June 30, 2013 and 2014 was $349,984 and $1,367,842, respectively, and for the six months
ended June 30, 2013 and 2014 was $818,451 and $2,661,693, respectively.
ResponseDX
®
accounts receivable as of December 31, 2013 and June 30, 2014, consisted of the following:
|
|
December 31,
2013
|
|
|
June 30,
2014
|
|
|
|
|
|
|
(Unaudited)
|
|
Net Medicare receivable
|
|
$
|
2,422,611
|
|
|
$
|
2,574,923
|
|
Net Private Payor receivable
|
|
|
4,315,587
|
|
|
|
4,806,646
|
|
|
|
|
6,738,198
|
|
|
|
7,381,569
|
|
Allowance for doubtful accounts
|
|
|
(2,404,659
|
)
|
|
|
(1,912,668
|
)
|
Total
|
|
$
|
4,333,539
|
|
|
$
|
5,468,901
|
|
Property and Equipment
Property
and equipment are carried at cost less accumulated depreciation and amortization. Depreciation and amortization are calculated
using the double declining balance and straight-line methods over the estimated useful lives of the assets. The Company has determined
the estimated useful lives of its property and equipment, as follows:
Laboratory equipment
|
|
5 to 7 years
|
Furniture and equipment
|
|
3 to 7 years
|
Leasehold improvements
|
|
Shorter of the useful life (5 to 7 years) or the lease term
|
Maintenance
and repairs are charged to expense as incurred. The cost and accumulated depreciation of assets sold or otherwise disposed of are
removed from the related accounts and the resulting gain or loss is reflected in the statements of operations.
Intangible Assets
Intangible
assets are carried at the cost to obtain them. Purchased software and internally-developed intangible assets are amortized using
the straight-line method over estimated useful lives of three to five years. The Company has capitalized costs related to the development
of database software. (See Note 3.) The portion of this database placed into service is amortized in accordance with ASC 350-40,
Internal-Use Software
. The amortization period is five years using the straight-line method.
RESPONSE GENETICS,
INC.
NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
2. Summary of Significant Accounting
Policies - (continued)
Revenue
Recognition
Pharmaceutical
Revenue
Revenues
that are derived from testing services provided to pharmaceutical companies are recognized on a contract specific basis pursuant
to the terms of the related agreements. Revenue is recognized in accordance with ASC 605,
Revenue Recognition,
which requires
that four basic criteria must be met before revenue can be recognized: (1) persuasive evidence that an arrangement exists; (2)
delivery has occurred and title and the risks and rewards of ownership have been transferred to the client or services have been
rendered; (3) the price is fixed or determinable; and (4) collectability is reasonably assured.
Revenues
are recorded on an accrual basis as the contractual obligations are completed and as a set of assays is processed through the Company’s
laboratory under a specified contractual protocol and are recorded on the date the tests are completed. Certain contracts have
minimum assay requirements that, if not met, result in payments that are due upon the completion of the designated period. In these
cases, revenues are recognized when the end of the specified contract period is reached.
On
occasion, the Company may enter into a contract that requires the client to provide an advance payment for specimens that will
be processed at a later date. In these cases, the Company records this advance as deferred revenue and recognizes the revenue as
the specimens are processed or at the end of the contract period, as appropriate.
The
Company recorded revenue from pharmaceutical clients for the three months ended June 30, 2013 and 2014 of $2,207,837 and $599,282,
respectively and for the six months ended June 30, 2013 and 2014 of $4,649,531 and $1,176,663, respectively.
ResponseDX
®
Revenue
Revenues
that are derived from ResponseDX
®
testing services are recognized in accordance with ASC 605,
Revenue Recognition
,
which requires that four basic criteria be met before revenue can be recognized: (1) persuasive evidence that an arrangement exists;
(2) delivery has occurred and title and the risks and rewards of ownership have been transferred to the client or services have
been rendered; (3) the price is fixed or determinable; and (4) collectability is reasonably assured. We record revenues when our
tests have confirmed results, which are evidence that the services have been performed.
Revenues
are recorded on an accrual basis as the contractual obligations are completed and as a set of assays is processed through our laboratory
under a specified contractual protocol.
ResponseDX
®
Private Payor and Medicare revenues are recorded at established billing rates less an estimated billing adjustment, based on reporting
models utilizing historical cash collection percentages and updated for current effective reimbursement factors. The Company’s
Medicare provider number allows it to invoice and collect from Medicare. The Company’s invoicing to Medicare is primarily
based on amounts allowed by Medicare for the service provided as defined by Common Procedural Terminology (“CPT”).
The
following details ResponseDX
®
revenue for the periods indicated:
|
|
Three Months
|
|
|
Six Months
|
|
|
|
Ended June 30,
|
|
|
Ended June 30,
|
|
|
|
(Unaudited)
|
|
|
(Unaudited)
|
|
|
|
2013
|
|
|
2014
|
|
|
2013
|
|
|
2014
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Medicare revenue
|
|
$
|
1,078,473
|
|
|
$
|
1,211,995
|
|
|
$
|
2,422,688
|
|
|
$
|
2,520,416
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Private Payor revenue
|
|
|
2,027,604
|
|
|
|
2,469,958
|
|
|
|
3,865,886
|
|
|
|
4,479,090
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net ResponseDX
®
revenue
|
|
$
|
3,106,077
|
|
|
$
|
3,681,953
|
|
|
$
|
6,288,574
|
|
|
$
|
6,999,506
|
|
RESPONSE GENETICS, INC.
NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
2. Summary
of Significant Accounting Policies - (continued)
Revenue
Recognition – (continued)
Cost-Containment Measures
Both
government and private pay sources have instituted cost-containment measures designed to limit payments made to providers of health
care services, which include diagnostic test providers such as the Company, and there can be no assurance that future measures
designed to limit payments made to providers will not adversely affect the Company.
Regulatory
Matters
A
portion of the Company’s revenues are derived from Medicare reimbursement. Laws and regulations governing Medicare programs
are complex and subject to change and to interpretation, and the Company may be adversely affected by future changes in the applicable
laws and regulations and governmental investigations, lawsuits or private actions which include mandatory damages, fines, penalties,
criminal charges, loss or suspension of licenses and/or suspension or exclusion from Medicare and certain other governmental programs.
The Company believes that it is in compliance with all applicable laws and regulations and is not aware of any pending or threatened
investigations involving allegations of potential wrongdoing.
Medicare
reimbursement rates are also subject to regulatory changes and government funding restrictions. In January 2013, a Medicare fee
schedule update was announced which included proposed changes to Medicare reimbursement rates that significantly reduced the reimbursement
rates for certain of the testing services we provide. The Company participated with other impacted organizations to provide guidance
to the local Medicare Administrative Contractor (“MAC”) that resulted in the local MAC updating certain pricing through
September 2013 which reflected an increase in many of the tests originally priced in January 2013. On October 1, 2013, the Centers
for Medicare and Medicaid Services (“CMS”) issued fees for some, but not all, of the CPT codes used by the Company.
It is uncertain if continued guidance provided to Medicare and the local MAC by impacted organizations will result in additional
fee increases or additional positive coverage determinations in 2014. If, however, the current reduction in reimbursement rates
is adopted as is, it may have a material adverse effect on the Company's operations.
As
a result of these Current Procedural Terminology (“CPT”) code changes and Medicare price changes, we have experienced
a departure from our normal reimbursement patterns with Medicare and other payors. Specifically, we have experienced delays in
certain reimbursements for services and an increase in initial denials of claims for certain services provided. Accordingly, we
re-evaluated the assumptions employed in our model for estimating revenue to be recognized for ResponseDX
®
testing.
We view the code and price changes described above as affecting only the assumptions we used in pricing our services. The nature
of the testing we provide, the evidence we gather to establish the creditworthiness of our payors and the delivery method of our
services have not changed from prior periods, and there are no indicators that these assumptions require change.
We
performed an analysis that considered our historical patterns of revenue by payor in conjunction with the fluctuations we experienced
in the three and six months ended June 30, 2013 and 2014 to arrive at the revenue recorded during those periods. We believe that
the changes in CPT codes and pricing that are causing confusion and erratic payment experience in the payor community will take
some time to resolve. The time needed for resolution will depend upon Medicare and the local MAC releasing additional pricing changes
and potentially, revisions to previously revised prices, and upon the private payor community adopting the new CPT codes and some
level of revised pricing. Accordingly, our revenue recognition estimates could be materially affected in future periods as pricing
and payments patterns change and develop, and we may be materially affected by future or retroactive price changes.
On
July 8, 2013, CMS released a new proposed rulemaking entitled “Medicare Program; Revisions to Payment Policies under the
Physician Fee Schedule, Clinical Laboratory Fee Schedule & Other Revisions to Part B for CY 2014”. This proposed rule
contains a number of provisions that may adversely impact the level of reimbursement for a variety of tests for which the Company
receives reimbursement from the Medicare program beginning in 2014. Among other things, CMS has proposed examining approximately
1,200 laboratory tests that appear on the Clinical Lab Fee Schedule (“CLFS”) over a period of five years to determine
whether advances in technology may have reduced the cost of providing such tests and whether or not the level of reimbursement
should be revised. The Company is currently performing molecular testing which is reimbursed using CPT codes that fall on the CLFS.
CMS has also proposed changing the methodology used to determine reimbursement rates for the technical component of certain tests
reimbursed off of the Physician Fee Schedule (“PFS”). Among other provisions, CMS has proposed limiting the Relative
Value Units (“RVUs”) ascribed to the Practice Expense component of their reimbursement formula for tests performed
in “Non-Facilities” (which would include most clinical laboratories like the Company) to the RVUs that have been ascribed
for the same procedures under the Hospital Outpatient Prospective Payment System, or the Ambulatory Payment Classification (“APC”)
system which are used to reimburse “Facilities” (such as hospitals and ambulatory surgery centers). The Company currently
performs FISH testing, which may be impacted by this PFS rule change if it is enacted.
Additionally,
CMS has as part of its regulatory structure the National Correct Coding Initiative (“NCCI”). Recent changes to NCCI
guidance may reduce allowable quantities billed for FISH testing. These changes would lower reimbursement amounts for FISH tests,
and there can be no assurance that CMS will make any modifications in the existing language of the NCCI documents.
A
number of proposals for legislation or regulation continue to be under discussion which could have the effect of substantially
reducing Medicare reimbursements for clinical laboratories or introducing cost sharing to beneficiaries. Depending upon the nature
of regulatory action, if any, which is taken and the content of legislation, if any, which is adopted, the Company could experience
a significant decrease in revenues from Medicare and Medicaid, which could have a material adverse effect on the Company. The Company
is unable to predict, however, the extent to which such actions will be taken.
Cost of Revenue
Cost
of revenue represents the cost of materials, direct labor, royalties, costs associated with processing tissue specimens including
pathological review, staining, microdissection, paraffin extraction, reverse transcription polymerase chain reaction (“PCR”),
FISH, quality control analyses, license fees and delivery charges necessary to render an individualized test result. Costs associated
with performing tests are recorded as the tests are processed.
License Fees
The
Company licenses technology for the extraction of RNA and DNA from FFPE tumor specimens from the University of Southern California
(“USC”) in exchange for royalty fees on revenue generated by use of the technology. These royalties are calculated
as a fixed percentage of revenue that we generate from use of the technology licensed from USC. We also maintain a non-exclusive
license to use Roche Molecular Systems, Inc.’s (“Roche”) PCR, homogenous PCR, and reverse transcription PCR processes.
We pay Roche a fixed percentage royalty fee for revenue that we generate through use of this technology.
The
Company is subject to potentially significant variations in royalties recorded in any period. While the amount paid is based on
a fixed percentage from revenues of specific tests pursuant to terms set forth in the agreements with USC and Roche, the amount
due is calculated based on the revenue we recognize using the respective licensed technology. As discussed above, this revenue
can vary from period to period as it is dependent on the timing of the specimens submitted by our clients for testing.
Additionally,
the Company periodically analyzes the technical procedures performed in its test offerings to assess which activities utilize licensed
technologies and to calculate royalties for use of the licensed technology. The most recent analyses indicate that the Company
could owe less than the amounts that have been accrued for royalties payable. However, the licensors have not reviewed the Company’s
updated royalty calculations. As a result, the Company has not reduced the historical accrued liability for royalties but has adjusted
the current period accrual based on the revised calculation.
RESPONSE GENETICS,
INC.
NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
2. Summary of Significant Accounting
Policies - (continued)
Research
and Development
The
Company expenses costs associated with research and development activities as incurred. Research and development costs are expensed
as incurred and classified as research and development costs. Research and development costs include employee costs (salaries,
payroll taxes, benefits, and travel), equipment depreciation and warranties and maintenance, laboratory supplies, primers and probes,
reagents, patent costs and occupancy costs.
Line of
Credit
On
July 14, 2011, the Company entered into a line of credit agreement with Silicon Valley Bank (the “Bank”) and, on July
30, 2014, subsequent to the end of the quarter, the agreement was amended by the Waiver and Sixth Amendment to Loan and Security
Agreement. The line of credit is collateralized by the Company’s pharmaceutical, Private Payor and Medicare receivables.
As of June 30, 2014, the amount the Company can draw from the line of credit was $2,000,000 calculated as the lesser of (i) the
Company’s calculated borrowing base, which was 80% of certain of the Company’s accounts receivable, or (ii) the amount
available under the credit line. As of June 30, 2014, the interest fees associated with this line of credit were set at the prime
rate plus 1%. The fee for the unused portion of the facility was 0.25%. During the three and six months ended June 30, 2013 and
2014, the rate charged to the Company was 5%. As needed from time to time, the Company may draw on this line for use for general
corporate purposes. As of December 31, 2013 and June 30, 2014, the Company had drawn $1,000,000 and $1,500,000, respectively, against
the line of credit. The line of credit is subject to various financial covenants. At June 30, 2014, the Company was in compliance
with the covenants. Historically, however, the Company has been out of compliance with the covenants from time to time, and the
Company has received waivers and forbearance agreements from the Bank.
As
of December 31, 2013, the line of credit under the credit agreement was classified as a non-current liability on the accompanying
condensed consolidated balance sheets as the line of credit had a maturity date of March 7, 2015, which was greater than one year
from the date of the balance sheet. As of June 30, 2014, the line of credit under the credit agreement was classified as a non-current
liability because the Waiver and Sixth Amendment to Loan and Security Agreement extended the maturity of the facility to July 25,
2016.
From
time to time, the Company’s calculated borrowing base under its Bank line of credit may decrease to a level where the Company
is in an over-advance position in which case the Company will be required to repay any outstanding amounts greater than the calculated
borrowing base for such covered period back to the Bank immediately. The Company will be able to draw down on the credit line again
with respect to such paid back amount once the Company is in compliance with the borrowing base requirement.
On
July 30, 2014, in connection with entering into a credit agreement with SWK Funding LLC (both as agent and initial lender), the
Company and Silicon Valley Bank entered into a Waiver and Sixth Amendment to Loan and Security Agreement (“Sixth Amendment”).
The Sixth Amendment waived previous defaults under the loan agreement, modified the financial covenants, extended the maturity
of the loan to July 25, 2016, modified the interest rate to the prime rate published by the
Wall Street Journal
plus 2.25%
per annum, and implemented a pre-payment fee of $40,000. The financial covenants under the Sixth Amendment include a revenue covenant
and a liquidity covenant that conform with and are cross defaulted with the revenue covenant and liquidity covenant of the SWK
Credit Agreement. The Company will pay a closing fee of $10,000 for the Sixth Amendment on July 18, 2015, approximately one year
from the date of the closing. For more information, see Note 11 Subsequent Events.
Income Taxes
Deferred
tax assets and liabilities are determined based on differences between the financial reporting and tax basis of assets and liabilities
and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. Valuation
allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized.
ASC
740,
Income Taxes
, clarifies the accounting for uncertainty in income taxes recognized in financial statements and requires
the impact of a tax position to be recognized in the financial statements if that position is more likely than not of being sustained
by the taxing authority. As of December 31, 2013 and June 30, 2014, the Company does not have a liability for unrecognized tax
benefits. The Company recognizes interest and penalties associated with tax matters as part of the income tax provision and
includes accrued interest and penalties with the related tax liability in the balance sheet. For the periods ended June 30, 2013
and 2014, nominal amounts of interest and penalties were recorded in the Condensed Consolidated Statement of Operations.
Stock-Based Compensation
The
Company accounts for stock-based compensation in accordance with ASC 718,
Stock Compensation
,
Share-Based Payment
.
Stock-based compensation expense for all stock-based compensation awards granted is based on the grant-date fair value estimated
in accordance with the provisions of ASC 718. The Company recognizes these compensation costs on a straight-line basis over
the requisite service period of the award, which is generally the option vesting period.
The
Company accounts for equity instruments issued to non-employees in accordance with ASC 505,
Equity
. Under ASC 505, stock
option awards issued to non-employees are measured at fair value using the Black-Scholes option-pricing model and recognized pursuant
to a performance model.
RESPONSE
GENETICS, INC.
NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
2. Summary of Significant Accounting
Policies - (continued)
Management Estimates
The
preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses during the reporting period. Significant estimates
in these condensed consolidated financial statements have been made for revenue, allowances for doubtful accounts, impairment of
long-lived assets, depreciation of property and equipment and stock-based compensation. Actual results could differ materially
from those estimates.
Long-lived Assets
Long-lived
assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may
not be recoverable. The Company evaluates potential impairment by comparing the carrying amount of the asset with the estimated
undiscounted future cash flows associated with the use of the asset and its eventual disposition. Should the review indicate that
the assets cost is not recoverable, the carrying value of the asset would be reduced to its fair value, which is measured by future
discounted cash flows.
Foreign Currency Translation
The
financial position and results of operations of the Company’s foreign subsidiary are determined using local currency as the
functional currency. Assets and liabilities of these operations are translated at the exchange rate in effect at each period-end.
Statement of Operations amounts are translated at the average rate of exchange prevailing during the period. Translation adjustments
arising from the use of differing exchange rates from period to period are included in accumulated other comprehensive loss in
stockholders’ equity.
Comprehensive Loss
The
components of comprehensive loss are accumulated net loss and unrealized foreign currency translation adjustments for the three
and six months ended June 30, 2013 and 2014.
Fair Value of Financial Instruments
Cash
and cash equivalents are stated at cost, which approximates fair market value. Cash equivalents consist of money market accounts,
with fair values estimated based on quoted market prices. Debt balances are stated at historical amounts less principal payments,
which approximate fair market value. The Company believes interest rates in its debt agreements are commensurate with lender risk
profiles for similar companies.
Advertising Costs
The
Company markets its services through its advertising activities in trade publications and on the internet. Advertising costs are
included in selling and marketing expenses on the statements of operations and are expensed as incurred. Advertising costs for
the three months ended June 30, 2013 and 2014 were $3,324 and $19,839, respectively, and for the six months ended June 30,
2013 and 2014 were $3,324 and $26,260, respectively.
RESPONSE GENETICS,
INC.
NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
2. Summary
of Significant Accounting Policies - (continued)
Concentration
of Credit Risk and Clients and Limited Suppliers
Cash
and cash equivalents are maintained at financial institutions and, at times, balances may exceed federally insured limits. The
Company has never experienced any losses related to these balances. At June 30, 2014, the Company had $2,124,809 in cash and cash
equivalents that exceeded federally insured limits. At June 30, 2014, $12,719 of cash was held outside of the United States.
Revenue
sources that account for greater than 10 percent of total revenue are provided below.
|
|
Three Months Ended
June 30,
Ended June 30,
|
|
|
Six Months Ended
June 30,
Ended June 30,
|
|
|
|
2013
|
|
|
2014
|
|
|
2013
|
|
|
2014
|
|
|
|
(Unaudited)
|
|
|
(Unaudited)
|
|
|
|
Revenue
|
|
|
Percent
of Total
Revenue
|
|
|
Revenue
|
|
|
Percent
of Total
Revenue
|
|
|
Revenue
|
|
|
Percent
of Total
Revenue
|
|
|
Revenue
|
|
|
Percent
of Total
Revenue
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
GlaxoSmithKline
entities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
GlaxoSmithKline,
LLC
|
|
$
|
502,814
|
|
|
|
22
|
%
|
|
$
|
—
|
|
|
|
—
|
%
|
|
$
|
502,814
|
|
|
|
*
|
%
|
|
$
|
—
|
|
|
|
—
|
%
|
GlaxoSmithKline
Biologicals S.A.
|
|
|
1,176,361
|
|
|
|
10
|
|
|
|
392,875
|
|
|
|
*
|
|
|
|
2,532,745
|
|
|
|
23
|
|
|
|
721,155
|
|
|
|
*
|
|
Total
GlaxoSmithKline entities
|
|
$
|
1,679,175
|
|
|
|
32
|
|
|
$
|
392,875
|
|
|
|
*
|
|
|
$
|
3,035,559
|
|
|
|
28
|
%
|
|
$
|
721,155
|
|
|
|
*
|
|
Medicare,
net of contractual allowances
|
|
$
|
1,078,473
|
|
|
|
20
|
%
|
|
$
|
1,211,995
|
|
|
|
28
|
%
|
|
$
|
2,422,688
|
|
|
|
22
|
%
|
|
$
|
2,520,416
|
|
|
|
31
|
%
|
*
Represents less than 10% of revenue.
Customers
that account for greater than 10 percent of gross accounts receivable are provided below.
|
|
As of December 31, 2013
|
|
|
As of June 30, 2014
|
|
|
|
|
|
|
(Unaudited)
|
|
|
|
Receivable
Balance
|
|
|
Percent of
Total
Receivables
|
|
|
Receivable
Balance
|
|
|
Percent of
Total
Receivables
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
GlaxoSmithKline entities:
|
|
|
|
|
|
|
|
|
|
|
|
|
GlaxoSmithKline LLC
|
|
$
|
597,937
|
|
|
|
*
|
%
|
|
$
|
—
|
|
|
|
—
|
%
|
GlaxoSmithKline Biologicals S.A.
|
|
$
|
544,298
|
|
|
|
*
|
%
|
|
$
|
701,797
|
|
|
|
11
|
%
|
Total GlaxoSmithKline entities
|
|
$
|
1,142,235
|
|
|
|
13
|
%
|
|
$
|
701,797
|
|
|
|
11
|
%
|
Medicare, net of contractual allowances
|
|
$
|
2,422,611
|
|
|
|
28
|
%
|
|
$
|
2,574,923
|
|
|
|
39
|
%
|
*
Represents less than 10% of accounts receivable.
Many
of the supplies and reagents used in the Company’s testing process are procured from a limited number of suppliers. Any supply
interruption or an increase in demand beyond the suppliers’ capabilities could have an adverse impact on the Company’s
business. Management believes it can identify alternative sources, if necessary, but it is possible such sources may not be identified
in sufficient time to avoid an adverse impact on its business. The Company purchases certain laboratory supplies and reagents primarily
from two suppliers. The Company made approximately 93% of its reagent purchases from four suppliers during the three months ended
June 30, 2013 and made approximately 71% of its reagent purchases from two suppliers during the three months ended June 30,
2014. The Company made approximately 92% of its reagent purchases from four suppliers during the six months ended June 30,
2013 and made approximately 72% of its reagent purchases from two suppliers during the six months ended June 30, 2014.
Recent Accounting
Pronouncements
In
May 2014, the Financial Accounting Standards Board issued Accounting Standards Update (“ASU”) No. 2014-09, Revenue
from Contracts with Customers (Topic 606) (“ASU 2014-09”), which modifies how all entities recognize revenue, and consolidates
into one Accounting Standards Codification ("ASC") Topic (ASC Topic 606, Revenue from Contracts with Customers) the current
guidance found in ASC Topic 605, Revenue Recognition, and various other revenue accounting standards for specialized transactions
and industries. The core principle of the guidance is that “an entity should recognize revenue to depict the transfer of
promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled
in exchange for those goods or services.” In achieving this objective, an entity must perform five steps: (1) identify the
contract(s) with a customer, (2) identify the performance obligations of the contract, (3) determine the transaction price, (4)
allocate the transaction price to the performance obligations in the contract, and (5) recognize revenue when (or as) the entity
satisfies a performance obligation. ASU 2014-09 also clarifies how an entity should account for costs of obtaining or fulfilling
a contract in a new ASC Subtopic 340-40, Other Assets and Deferred Costs – Contracts with Customers.
ASU
2014-09 is effective for public companies for annual periods beginning after December 15, 2016 and interim periods within those
annual periods, and early adoption is not permitted. ASU 2014-09 may be applied using either a full retrospective approach, in
which all years included in the financial statements are presented under the revised guidance, or a modified retrospective approach.
Under the modified retrospective approach, financial statements will be prepared using the new standard for the year of adoption,
but not for prior years. Under this method, entities will recognize a cumulative catch-up adjustment to the opening balance of
retained earnings at the effective date for contracts that still require performance by the company and disclose all line items
in the year of adoption as if they were prepared under the old revenue guidance. We will adopt ASU 2014-09 on January 1, 2017 and
are currently evaluating the impact that this adoption will have on our consolidated financial statements. At this time, the Company
has not determined the transition method that will be used.
RESPONSE GENETICS,
INC.
NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
3. Property and Equipment and Intangible
Assets
Property
and equipment and intangible assets consist of the following:
|
|
December 31,
2013
|
|
|
June 30,
2014
|
|
|
|
|
|
|
(Unaudited)
|
|
Laboratory equipment
|
|
$
|
4,468,055
|
|
|
$
|
4,536,732
|
|
Furniture and equipment
|
|
|
736,886
|
|
|
|
750,886
|
|
Leasehold improvements
|
|
|
487,843
|
|
|
|
496,523
|
|
|
|
|
5,692,784
|
|
|
|
5,784,141
|
|
Less: Accumulated depreciation
|
|
|
(3,758,202
|
)
|
|
|
(4,092,603
|
)
|
Total property and equipment, net
|
|
$
|
1,934,582
|
|
|
$
|
1,691,538
|
|
Purchased software
|
|
$
|
749,587
|
|
|
$
|
898,252
|
|
Internally developed software
|
|
|
213,361
|
|
|
|
108,361
|
|
Trademarks
|
|
|
33,000
|
|
|
|
33,000
|
|
|
|
|
995,948
|
|
|
|
1,039,613
|
|
Less: Accumulated amortization
|
|
|
(228,725
|
)
|
|
|
(321,595
|
)
|
Total intangible assets, net
|
|
$
|
767,223
|
|
|
$
|
718,018
|
|
Depreciation
expense, included in cost of revenue, general and administrative expenses, and research and development expenses for the three
months ended June 30, 2013 and 2014 was $149,455 and $220,388, respectively, and for the six months ended June 30, 2013 and 2014
was $286,854 and $427,273, respectively.
Capital
Leases
The
Company leases certain equipment that is recorded as capital leases. This equipment is included in property and equipment on the
accompanying consolidated balance sheet as of June 30, 2014 as follows:
|
|
(Unaudited)
|
|
Equipment purchased under capital leases
|
|
$
|
584,150
|
|
Less: Accumulated amortization
|
|
|
(418,127
|
)
|
Equipment purchased under capital leases, net
|
|
$
|
166,023
|
|
Future minimum lease payments under
capital leases as of June 30, 2014 are as follows:
Years ending December 31,
|
|
(Unaudited)
|
|
2014
|
|
$
|
72,434
|
|
2015
|
|
|
101,309
|
|
2016
|
|
|
46,851
|
|
Total minimum lease payments
|
|
|
220,594
|
|
Less amount represented by interest
|
|
|
(24,521
|
)
|
Less current portion
|
|
|
(101,015
|
)
|
Capital lease obligation, net of current portion
|
|
$
|
95,058
|
|
RESPONSE GENETICS,
INC.
NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
4. Loss Per
Share
The
Company calculates net loss per share in accordance with ASC 260,
Earnings Per Share
. Under the provisions of ASC 260, basic
net loss per share is computed by dividing the net loss for the period by the weighted average number of shares of common stock
outstanding for the period. Diluted net loss per share is computed by dividing the net loss by the weighted average number of shares
of common stock and dilutive common stock equivalents then outstanding. Common stock equivalents consist of shares of common stock
issuable upon the exercise of stock options and warrants.
The
following table sets forth the computation for basic and diluted loss per share:
|
|
Three Months
Ended June 30,
|
|
|
Six Months
Ended June 30,
|
|
|
|
2013
|
|
|
2014
|
|
|
2013
|
|
|
2014
|
|
|
|
(Unaudited)
|
|
|
(Unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Numerator:
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss
|
|
$
|
(1,297,154
|
)
|
|
$
|
(3,138,915
|
)
|
|
$
|
(2,121,458
|
)
|
|
$
|
(6,643,411
|
)
|
Numerator for basic and diluted earnings per share
|
|
$
|
(1,297,154
|
)
|
|
$
|
(3,138,915
|
)
|
|
$
|
(2,121,458
|
)
|
|
$
|
(6,643,411
|
)
|
Denominator:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator for basic and diluted earnings per share — weighted-average shares
|
|
|
32,798,010
|
|
|
|
38,732,793
|
|
|
|
32,797,819
|
|
|
|
38,726,196
|
|
Basic and diluted loss per share
|
|
$
|
(0.04
|
)
|
|
$
|
(0.08
|
)
|
|
$
|
(0.06
|
)
|
|
$
|
(0.17
|
)
|
Outstanding
stock options to purchase 2,465,390 and 2,210,229 shares of Common Stock of the Company for the periods ended June 30, 2013 and
2014, respectively, were excluded from the calculation of diluted loss per share as their effect would have been antidilutive.
Also excluded from the calculation were 270,000 unvested shares of restricted common stock for both of the periods ended June 30,
2013 and 2014.
5. Commitments
and Contingencies
Operating
Leases
The
Company leases 27,446 square feet of office and laboratory space in Los Angeles, California, under a non-cancelable operating lease
that was amended and extended on February 3, 2014 and will expire on June 30, 2015. The Company has the option to extend the lease
to June 30, 2016. The Company also leased 1,460 square feet of space in Frederick, Maryland, where administrative functions were
performed until July 31, 2012. The Company moved the administrative functions performed out of this office primarily to its Los
Angeles facilities and closed the Maryland office on July 31, 2012. The lease for the Maryland office expired on January 31, 2013.
Rent
expense, which is classified in cost of revenue, general and administrative, and research and development expenses was $163,578
and $214,181 for the three months ended June 30, 2013 and 2014, respectively, and was $324,368 and $426,362 for the six months
ended June 30, 2013 and 2014, respectively.
Future
minimum lease payments by year and in the aggregate, under the Company’s non-cancelable operating leases for facilities,
equipment and software as a service, consist of the following at June 30, 2014:
Years Ending December 31,
|
|
Unaudited
|
|
2014
|
|
$
|
593,440
|
|
2015
|
|
|
564,518
|
|
2016
|
|
|
35,807
|
|
Total
|
|
$
|
1,193,765
|
|
RESPONSE GENETICS,
INC.
NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
5. Commitments
and Contingencies – (continued)
Guarantees
The
Company enters into indemnification provisions under its agreements with other counterparties in its ordinary course of business,
typically with business partners, clients and landlords. Under these provisions, the Company generally indemnifies and holds harmless
the indemnified party for losses suffered or incurred by the indemnified party as a result of the Company's activities. These indemnification
provisions generally survive termination of the underlying agreement. The Company reviews its exposure under these agreements no
less than annually, or more frequently when events require. The Company believes the estimated fair value of these agreements is
minimal as, historically, no payments have been made by the Company under these indemnification obligations. Accordingly, the Company
has no liabilities recorded for these agreements as of December 31, 2013 and June 30, 2014.
Legal Matters
The
Company is, from time to time, involved in legal proceedings, regulatory actions, claims and litigation arising in the ordinary
course of business. These matters are not expected to have a material adverse effect upon the Company’s financial condition.
Employment
Agreements
The
Company has employment contracts with several individuals, which provide for annual base salaries and potential bonuses. These
contracts contain certain change of control, termination and severance clauses that require the Company to make payments to certain
of these employees if certain events occur as defined in their respective contracts.
6. License
and Collaborative Agreements
License
Agreement with the University of Southern California (“USC”)
In
April 2000, as amended in June 2002 and April 2005, the Company entered into a license agreement with USC. Under this agreement,
USC granted the Company a worldwide, exclusive license with the right to sublicense, the patents for nucleic acid extraction methodologies
(“RGI-1”) and related technology, for use in human and veterinary diagnostic laboratory services, the sale of clinical
diagnostic products, and the sale of research products to the research community. USC retains the right under the agreement to
use the technology for research and educational purposes.
In
consideration for this license, the Company agreed to pay USC royalties based on a percentage of net sales of products or services
that make use of RGI-1 and related technology and to meet a certain minimum in royalty payments. Royalty expense relating to this
agreement amounted to $86,908 and $10,449 for the three months ended June 30, 2013 and 2014, respectively, and $191,014 and $21,410
for the six months ended June 30, 2013 and 2014, respectively. Such expense is included in cost of revenue in the accompanying
unaudited consolidated statements of operations.
License
Agreement with Roche Molecular Systems (“Roche”)
In
November 2004, the Company entered into a non-exclusive license to use Roche’s technology including specified nucleic acid
amplification processes (“PCR Processes”) to perform certain human invitro clinical laboratory services. In consideration
for this license, the Company is obligated to pay royalties to Roche, based on a percentage of net sales of products or services
that make use of the PCR Processes. Royalty expense included in cost of revenue relating to this agreement amounted to $84,362
and $113,704 for the three months ended June 30, 2013 and 2014, respectively and $174,507 and $158,077 for the six months ended
June 30, 2013 and 2014, respectively.
In November 2004,
the Company also entered into an agreement with Roche, pursuant to which the Company is collaborating with Roche to produce commercially
viable assays used in the validation of genetic markers for pharmaceutical companies. Specifically, the Company has licensed the
rights to Roche to use the pre-diagnostic assays the Company develops in the course of using its RNA-extraction technologies to
provide testing services to pharmaceutical companies and to produce diagnostic kits that then can be sold commercially to those
pharmaceutical companies. Roche is required to pay the Company royalties of a certain percentage of net sales of such diagnostic
kits sold to pharmaceutical companies. Through June 30, 2014, Roche has not been required to pay any royalties to the Company pursuant
to this agreement.
RESPONSE GENETICS,
INC.
NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
6. License
and Collaborative Agreements - (continued)
Services
Agreement with Taiho Pharmaceutical Co., Ltd. (“Taiho”)
In
July 2001, the Company entered into an agreement with Taiho pursuant to which the Company provided Taiho with RGI-1 generated molecular-based
tumor analyses for use in guiding chemotherapy treatment for cancer patients and for use in Taiho’s business of developing
and marketing pharmaceutical and diagnostic products for use against cancer. The agreement was subsequently amended and extended
through December 31, 2013. Revenue recognized under this agreement for the three months ended June 30, 2013 and 2014 was $306,260
and $0, respectively, and for the six months ended June 30, 2013 and 2014 was $340,180 and $0, respectively.
Services
Agreement with GlaxoSmithKline, LLC formerly known as SmithKline Beecham Corporation (d.b.a. GlaxoSmithKline or “GSK”)
In
January 2006, the Company entered into a master services agreement with GSK, a leading pharmaceutical manufacturer, pursuant to
which the Company provides services in connection with profiling the expression of various genes from a range of human cancers.
Under the agreement, the Company provides GSK with testing services as described in individual protocols and GSK pays the Company
for such services based on the pricing schedule established for each particular protocol. GSK was obligated to make minimum annual
payments to the Company under the agreement and also was obligated to make a non-refundable upfront payment to the Company, to
be credited against work undertaken pursuant to the agreement.
In
December 2008, the Company amended and restated its master services agreement with GSK and extended the term of the agreement for
a two-year period, with the option for the parties to extend the agreement for additional one-year periods at the end of the term,
upon their mutual written agreement. In addition, the Company became a preferred provider to GSK and its affiliates of genetic
testing services on a fee-for-service basis and, in anticipation of the services to be provided, GSK agreed to make a non-refundable
upfront payment.
The
Company recognized revenue of $2,814 and $0 relating to the GSK agreement for the three months ended June 30, 2013 and 2014, respectively,
and $2,814 and $0 relating to the GSK agreement for the six months ended June 30, 2013 and 2014, respectively.
Non-Exclusive License Agreement
with GSK
In
March 2010, the Company entered into a non-exclusive license agreement with GSK. Under the agreement, the Company
granted GSK a non-exclusive, sublicenseable license to its proprietary PCR analysis technology and diagnostic expertise to
assess BRAF gene mutations in human tumor samples. As part of the agreement, the Company received a non-refundable
technology access fee in consideration for the transfer of the Company’s technology to GSK. The agreement also contains
milestone provisions which allowed the Company to earn further payments from GSK. The Company has met all the milestones in
the agreement and earned the three milestone payments of $500,000 each in July 2012, May 2013 and December 2013.
RESPONSE GENETICS,
INC.
NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
6. License
and Collaborative Agreements - (continued)
Master Services
Agreement with GlaxoSmithKline Biologicals S.A. (“GSK Bio”)
On
July 26, 2012, the Company entered into a second amended and restated master services agreement with GSK Bio, the vaccine division
of GSK. Pursuant to this agreement, which has an effective date of May 15, 2012, the Company provides testing services for clinical
trials and epidemiology studies relating to GSK Bio’s cancer immunotherapies. The Company performs these testing services
on a fee-for-service basis as embodied in written task orders. GSK Bio retains the intellectual property rights to inventions,
improvements and data resulting from the services performed under the agreement. The Company retains all intellectual property
rights to its testing services, proprietary processes and all accompanying patent information owned by the Company. All intellectual
property owned by either party on the date of the agreement remains the exclusive property of the owning party.
The agreement will
expire on December 31, 2014, provided that any outstanding task orders at the time of termination will not thereby terminate (unless
otherwise agreed in writing by the parties), and any such task orders will continue for the respective terms specified in such
task orders (and the parties shall continue to perform their obligations thereunder). GSK Bio may terminate the agreement, without
cause, upon 90 days’ written notice to the Company. The Company may terminate the agreement, without cause, upon one year’s
written notice to GSK Bio. The agreement may also be terminated early if either party enters bankruptcy or similar proceedings
or in the event of a material breach. GSK Bio may terminate the agreement immediately if the Company experiences a “change
of control,” as defined in the agreement.
The agreement also
provides for mutual indemnification by the parties and contains customary representations, warranties and covenants, including
covenants governing the parties’ use of confidential information and representations regarding adequate insurance coverage
or self-insurance.
The
Company recognized revenue of $1,176,361 and $392,875 relating to the services performed for GSK Bio for the three months ended
June 30, 2013 and 2014, respectively, and $2,532,745 and $721,155 for the six months ended June 30, 2013 and 2014, respectively.
RESPONSE GENETICS,
INC.
NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
7. Stock Options,
Restricted Stock and Warrants
In
March 2000, the Company adopted a Stock Option Plan (the “2000 Stock Plan”) as approved by its Board of Directors.
Under the 2000 Stock Plan, the Company granted options to acquire up to 1,600,000 shares of common stock. In connection with the
adoption of the 2006 Employee, Director and Consultant Stock Plan, as further discussed below, the Company is to grant no additional
options under the 2000 Stock Plan. Under the 2000 Stock Plan, there were no options to purchase shares of the Company’s common
stock that remained outstanding as of December 31, 2013. Prior to March 2007, the Company also granted options to purchase 16,000
shares of common stock to two consultants which were granted under separate agreements outside of the 2000 Stock Plan.
On October 26, 2006,
the Board of Directors of the Company approved, and on May 1, 2007, reapproved the adoption of the 2006 Employee, Director and
Consultant Stock Plan (the “2006 Stock Plan”). The stockholders approved the 2006 Stock Plan on June 1, 2007. The initial
number of shares which may be issued from time to time pursuant to the 2006 Stock Plan was 2,160,000 shares of common stock. Also,
the 2006 Stock Plan includes the number of shares subject to purchase under options issued under the 2000 Stock Plan, where the
options expired on or after October 18, 2006, subject to a maximum of 210,000 additional options. In addition, on the
first day of each fiscal year of the Company during the period beginning in fiscal year 2008 and ending on the second day of fiscal
year 2017, the number of shares that may be issued from time to time pursuant to the 2006 Stock Plan is increased by the lesser
of (i) 200,000 shares or equivalent, after determination of the effect of any stock split, stock dividend, combination or similar
transactions as set forth in the 2006 Stock Plan, (ii) 5% of the number of outstanding shares of common stock of the Company on
such date or (iii) an amount determined by the Board of Directors of the Company. The initial number of shares available
for issuance of 2,160,000 increased by 210,000 for options issued under the 2000 Stock Plan expiring after October 2006 and by
200,000 in 2008 through 2014, resulting in the total number of shares that may be issued as of January 1, 2014 to be 3,770,000.
As of June 30, 2014, there were 1,463,748 options available for grant under the 2006 Stock Plan.
Employee
options vest according to the terms of the specific grant and expire 10 years from the date of grant. Non-employee option grants
to date typically vest over a 2 to 3 year period. The Company had 2,210,229 options outstanding at a weighted average exercise
price of $1.85 at June 30, 2014. There were 1,135,063 non-vested stock options outstanding with a weighted average grant date fair
value of $1.34 at June 30, 2014. As of June 30, 2014, there was $844,038 of total unrecognized compensation cost related
to non-vested share-based compensation arrangements granted under the 2006 Stock Plan. That cost is expected to be recognized over
a weighted-average period of 2.4 years.
Except
for certain grants of restricted common stock and common stock options containing market conditions as described below, the Company
estimated share-based compensation expense for the three and six months ended June 30, 2013 and 2014 using the Black-Scholes model
with the following weighted average assumptions:
|
|
Three Months Ended
June 30,
|
|
|
Six Months Ended
June 30,
|
|
|
|
2013
|
|
|
2014
|
|
|
2013
|
|
|
2014
|
|
|
|
(Unaudited)
|
|
|
(Unaudited)
|
|
|
(Unaudited)
|
|
|
(Unaudited)
|
|
Risk free interest rate
|
|
|
0.90-1.40
|
%
|
|
|
—
|
%
|
|
|
0.90-1.40
|
%
|
|
|
—
|
%
|
Expected dividend yield
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
%
|
|
|
—
|
%
|
Expected volatility
|
|
|
102.2-103.0
|
%
|
|
|
—
|
%
|
|
|
102.2-104.9
|
%
|
|
|
—
|
%
|
Expected term **(in years)
|
|
|
6.25
|
|
|
|
—
|
|
|
|
6.25
|
|
|
|
—
|
|
Forfeiture rate
|
|
|
7.0
|
%
|
|
|
—
|
%
|
|
|
7.0
|
%
|
|
|
—
|
%
|
**
Expected term is calculated using SAB 107,
Simplified Formula.
Management has concluded that the use of the simplified method
for calculating the expected term of its common stock option grants is appropriate given the Company’s lack of history of
option exercises.
The
following table summarizes the stock option activity for the 2006 Plan for the six months ended June 30, 2014:
|
|
Number of
Shares
|
|
|
Weighted
Average
Exercise
Price
|
|
|
Remaining
Contractual
Life (Years)
|
|
|
Aggregate
Intrinsic
Value
|
|
Outstanding, December 31, 2013
|
|
|
2,288,076
|
|
|
$
|
1.83
|
|
|
|
8.41
|
|
|
$
|
1,082
|
|
Granted (Unaudited)
|
|
|
—
|
|
|
$
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Exercised (Unaudited)
|
|
|
(20,000
|
)
|
|
$
|
1.16
|
|
|
|
8.08
|
|
|
|
7,605
|
|
Expired (Unaudited)
|
|
|
(10,158
|
)
|
|
|
1.40
|
|
|
|
8.62
|
|
|
|
—
|
|
Forfeited (Unaudited)
|
|
|
(47,689
|
)
|
|
$
|
1.35
|
|
|
|
—
|
|
|
|
—
|
|
Outstanding, June 30, 2014 (Unaudited)
|
|
|
2,210,229
|
|
|
$
|
1.85
|
|
|
|
7.89
|
|
|
$
|
—
|
|
Exercisable, June 30, 2014 (Unaudited)
|
|
|
1,075,166
|
|
|
$
|
2.39
|
|
|
|
6.71
|
|
|
$
|
—
|
|
The
weighted-average grant-date fair value of options granted during the three and six months ended June 31, 2013 was $1.39 and $1.38,
respectively. The Company did not grant any options during the three months ended June 30, 2014.
RESPONSE GENETICS,
INC.
NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
7. Stock Options,
Restricted Stock and Warrants – (continued)
The following table provides additional information regarding
options outstanding under the 2006 Plan as of June 30, 2014 (unaudited):
|
|
|
Options Outstanding
|
|
|
Options Exercisable
|
|
Exercise Price
|
|
|
Number of
Options
|
|
|
WA
Remaining
Contractual
Term
|
|
|
Number of
Options
|
|
|
WA
Remaining
Contractual
Term
|
|
$
|
1.00 to 1.99
|
|
|
|
1,705,229
|
|
|
|
8.61
|
|
|
|
622,278
|
|
|
|
7.80
|
|
|
2.00 to 2.99
|
|
|
|
287,500
|
|
|
|
7.07
|
|
|
|
235,388
|
|
|
|
6.97
|
|
|
3.00 to 3.99
|
|
|
|
71,000
|
|
|
|
4.08
|
|
|
|
71,000
|
|
|
|
4.07
|
|
|
4.29
|
|
|
|
11,500
|
|
|
|
3.15
|
|
|
|
11,500
|
|
|
|
3.15
|
|
|
7.00
|
|
|
|
135,000
|
|
|
|
2.94
|
|
|
|
135,000
|
|
|
|
2.94
|
|
|
|
|
|
|
2,210,229
|
|
|
|
7.89
|
|
|
|
1,075,166
|
|
|
|
6.71
|
|
Stock-based compensation
expense was classified as follows in the results of operation:
|
|
Three Months Ended
June 30,
|
|
|
Six Months Ended
June 30,
|
|
|
|
( Unaudited )
|
|
|
|
|
|
|
2013
|
|
|
2014
|
|
|
2013
|
|
|
2014
|
|
Cost of revenue
|
|
$
|
14,898
|
|
|
$
|
10,963
|
|
|
$
|
28,384
|
|
|
$
|
22,219
|
|
Research and development
|
|
|
8,916
|
|
|
|
12,494
|
|
|
|
18,758
|
|
|
|
25,691
|
|
Sales and marketing
|
|
|
(4,427
|
)
|
|
|
16,728
|
|
|
|
12,973
|
|
|
|
32,477
|
|
General and administrative
|
|
|
69,134
|
|
|
|
172,834
|
|
|
|
133,729
|
|
|
|
317,401
|
|
Totals
|
|
$
|
88,521
|
|
|
$
|
213,019
|
|
|
$
|
193,844
|
|
|
$
|
397,788
|
|
Thomas
Bologna was appointed Chief Executive Officer of the Company on December 21, 2011 and in connection with his appointment, Mr.
Bologna was awarded stock options outside of the 2006 Stock Plan. Pursuant to the employment agreement between the Company and
Mr. Bologna, dated December 21, 2011, and in reliance on NASDAQ Listing Rule 5636(c), the Company granted Mr. Bologna (i) a
stock option to purchase 600,000 shares of the Company’s common stock, which vests monthly over 36 months from the date
of grant, subject to his continued employment with the Company, (ii) a stock option to purchase 300,000 shares of the Company’s
common stock, which vested in 2012, and (iii) 270,000 shares of restricted common stock of the Company, which vest on the
date on which the 30-day trailing average closing price of the Company’s common stock equals or exceeds $2.40. The exercise
price of the stock options is $1.20 per share, the closing price of the Company’s common stock on the day prior to the date
of grant. The expense recognized in connection with these grants was $44,531 and $44,531 for the three months ended June 30, 2013
and 2014, respectively, and was $89,061 and $89,061 for the six months ended June 30, 2013 and 2014, respectively, and is included
in the above table.
RESPONSE GENETICS, INC.
NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
7. Stock Options,
Restricted Stock and Warrants – (continued)
The following
table summarizes these awards to Mr. Bologna:
Type
|
|
Grant Date
|
|
Number of Awards
|
|
|
Intrinsic
Value as of
June 30,
2014
|
|
|
Exercise Price
|
|
|
Options
Exercisable
|
|
|
Remaining
Contractual
Term
|
|
Restricted Shares
of Common Stock
|
|
12/21/2011
|
|
|
270,000
|
|
|
$
|
248,400
|
|
|
$
|
—
|
|
|
|
—
|
|
|
|
7.5
|
|
Options
|
|
12/21/2011
|
|
|
600,000
|
|
|
$
|
—
|
|
|
$
|
1.20
|
|
|
|
500,000
|
|
|
|
7.5
|
|
Options
|
|
12/21/2011
|
|
|
300,000
|
|
|
$
|
—
|
|
|
$
|
1.20
|
|
|
|
300,000
|
|
|
|
7.5
|
|
On
March 12, 2014, the Company granted 62,500 shares of restricted common stock, with a value of $86,250, to a vendor in connection
with a contract for services. The shares vest monthly in equal installments from April 2014 through December 2014. At June 30,
2014, 20,833 shares had vested. The expense recognized in connection with this grants was $28,750 for the three months and six
months ended June 30, 2014 and is included in general and administrative expense in the above table.
On
July 30, 2014, subsequent to the end of the quarter, the Company issued an initial warrant to purchase 681,090 shares of common
stock in connection with the SWK Funding LLC credit agreement. The warrant is exercisable up to and including July 30, 2020 at
an exercise price of $0.936 per share, subject to adjustment, on a cashless basis at any time. Pursuant to the SWK Funding LLC
credit agreement, upon funding of the second tranche of the commitment under the credit agreement, the Company will be required
to issue a second warrant to SWK Funding LLC. The number of common shares that could be purchased under the second warrant will
be calculated if and when the Company draws the second tranche of funding under the credit agreement. (See Note 11.)
RESPONSE GENETICS,
INC.
NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
8. Income Taxes
Deferred
income taxes result from temporary differences between income tax and financial reporting computed at the effective income tax
rate. The Company has established a valuation allowance against its net deferred tax asset due to the uncertainty surrounding the
realization of such asset. Management periodically evaluates the recoverability of the deferred tax assets. At such time it is
determined that it is more likely than not that deferred tax assets are realizable, the valuation allowance will be reduced.
The
Company files U.S. federal, U.S. state, and foreign tax returns. The Company’s major tax jurisdictions are U.S. federal and
the State of California. The Company is subject to tax examinations for the open years from 2003 through 2013.
9. Segment
Information
The
Company operates in a single reporting segment, with an operating facility in the United States.
The
following enterprise wide disclosure was prepared on a basis consistent with the preparation of the condensed consolidated financial
statements.
The
following tables contain certain financial information by geographic area:
|
|
Three Months Ended June 30,
|
|
|
Six Months Ended June 30,
|
|
|
|
2013
|
|
|
2014
|
|
|
2013
|
|
|
2014
|
|
|
|
(Unaudited)
|
|
|
(Unaudited)
|
|
|
(Unaudited)
|
|
|
(Unaudited)
|
|
Net revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
United States
|
|
$
|
3,804,268
|
|
|
$
|
3,877,360
|
|
|
$
|
7,957,441
|
|
|
$
|
7,424,264
|
|
Europe
|
|
|
1,184,976
|
|
|
|
403,875
|
|
|
|
2,546,224
|
|
|
|
746,475
|
|
Japan
|
|
|
324,670
|
|
|
|
—
|
|
|
|
434,440
|
|
|
|
5,430
|
|
|
|
$
|
5,313,914
|
|
|
$
|
4,281,235
|
|
|
$
|
10,938,105
|
|
|
$
|
8,176,169
|
|
|
|
December 31,
2013
|
|
|
June 30,
2014
|
|
|
|
|
|
|
(Unaudited)
|
|
Long-lived assets:
|
|
|
|
|
|
|
United States
|
|
$
|
2,701,805
|
|
|
$
|
2,409,556
|
|
RESPONSE GENETICS,
INC.
NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
10. Sale of Common Stock
September 2012
Private Placement
On September 13, 2012,
the Company entered into a purchase agreement (the “Purchase Agreement”) with Glaxo Group Limited, an affiliate of
GSK (the “GSK Investor”) and two existing investors, Swiftcurrent Partners, L.P. and Swiftcurrent Offshore, Ltd. (collectively
with the GSK Investor, the “September Investors”) for the private placement of an aggregate of 8,000,000 newly-issued
shares of the Company’s common stock (the “September Shares”) at a purchase price of $1.10 per share (the “September
2012 Private Placement”). The Company raised gross cash proceeds of $8,800,000 in the September 2012 Private Placement, which
closed on September 13, 2012 (the “Closing”).
Pursuant to the Purchase
Agreement, for so long as the GSK Investor or its affiliates own at least 50% of the September Shares it purchased pursuant to
the Purchase Agreement, the GSK Investor has the right to designate one non-voting board observer (the "Board Observer").
The Board Observer, if appointed, has the right to attend all meetings of the Board of Directors of the Company and to receive
all board meeting materials, subject to certain restrictions set forth in the Purchase Agreement. As of the date hereof, the GSK
Investor has not exercised its right to designate the Board Observer.
In connection with
the September 2012 Private Placement, the Company also entered into a registration rights agreement, dated September 13, 2012 (the
“September Registration Rights Agreement”), with the September Investors pursuant to which the Company agreed to file,
within 45 days of the Closing, a registration statement with the SEC to register the September Shares for resale, which registration
statement was required to become effective within 180 days following the Closing. The Company also granted the September Investors
certain “piggyback” registration rights, which are triggered if the Company proposes to file a registration statement
for its own account or the account of one or more stockholders until the earlier of the sale of all of the September Shares or
the September Shares becoming eligible for sale under Rule 144(b)(1) without restriction.
RESPONSE GENETICS,
INC.
NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
10. Sale of Common Stock –
(continued)
Under
the September Registration Rights Agreement, the Company is obligated to use commercially reasonable efforts to cause a registration
statement to become effective and to remain continuously effective and to maintain the listing of the covered common stock on NASDAQ
or other exchanges, as defined, for a period that will terminate upon the earlier of (i) the date on which all Registrable Securities
covered by such Registration Statement as amended from time to time, have been sold, (ii) the date on which there are no longer
any Registrable Securities outstanding or (iii) three years from the date of filing of such Registration Statement (the “Effectiveness
Period”) and advise each September Investor in writing when the Effectiveness Period has expired. “Registrable Securities”
means (i) the September Shares and (ii) shares of capital stock or any other securities issued or issuable with respect to or in
exchange for the September Shares; provided, that, a security shall cease to be a Registrable Security with respect to a September
Investor upon (A) sale by such September Investor pursuant to a registration statement or Rule 144 under the Securities Act of
1933, or (B) such security becoming eligible for sale by such September Investor without restriction pursuant to Rule 144(b)(1).
In the event the Company fails to satisfy its obligations under the September Registration Rights Agreement, the Company would
be in breach of such agreement, in which event, the September Investors would be entitled to pursue all rights and remedies at
law or equity including an injunction or other equitable relief. The September Registration Rights Agreement does not provide an
explicitly stated or defined penalty due upon a breach. Because the potential penalty for any breach of the September Registration
Rights Agreement is not explicitly stated or defined, which prohibits the Company from applying the guidance of ASC 825-20-15,
Registration Payment Arrangements
, the Company was required to present the investment of approximately $8,800,000 in
the Company’s common stock as common stock outside of stockholders’ equity in the accompanying consolidated balance
sheets under ASC 480-10-S99-3,
Classification and Measurement of Redeemable Securities
.
Pursuant
to the September Registration Rights Agreement, the Company filed a registration statement with the SEC on October 26, 2012, to
register the September Shares for resale. This registration statement became effective on November 13, 2012 and remained effective
as of June 30, 2014.
As
of December 31, 2012, the Company had removed the restriction on 3,000,000 of the 8,000,000 September Shares and reclassified the
shares to common stock from common stock classified outside of stockholders’ equity. At June 30, 2014, the restriction was
eligible for removal from the remaining 5,000,000 restricted September Shares. Therefore, as of December 31, 2013 and June 30,
2014, a total of $5,500,000 and $0, respectively, of common stock relating to restricted September Shares was classified outside
of stockholders’ equity related to this transaction.
Activity in common
stock classified outside of stockholders’ equity was as follows:
|
|
Number of
Shares
|
|
|
Amount
|
|
Balance, December 31, 2013
|
|
|
5,000,000
|
|
|
$
|
5,500,000
|
|
Issuance of common stock classified outside of stockholders’ equity
|
|
|
—
|
|
|
|
—
|
|
Reclassification to stockholders’ equity
|
|
|
(5,000,000
|
)
|
|
|
(5,500,000
|
)
|
Balance, June 30, 2014 (unaudited)
|
|
|
—
|
|
|
$
|
—
|
|
RESPONSE GENETICS,
INC.
NOTES TO UNAUDITED
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
11. Subsequent
Events
On
July 30, 2014 (the “Closing Date”), the Company entered into a credit agreement (the “SWK Credit Agreement”)
with SWK Funding LLC, as the agent (the “Agent”), and the lenders (including SWK Funding LLC) party thereto from time
to time (the “Lenders”). The SWK Credit Agreement provides for a multi-draw term loan to the Company (the “Loan”)
for up to a maximum amount of $12,000,000 (the “Loan Commitment Amount”). On the Closing Date, the Lenders advanced
the Company an amount equal to $8,500,000 which is due and payable on July 30, 2020 (the “Term Loan Maturity Date”)
or such earlier date on which the Loan Commitment Amount is terminated pursuant to the terms of the SWK Credit Agreement.
The
outstanding principal balance under the SWK Credit Agreement will bear interest at a rate per annum equal to the LIBOR Rate (subject
to a minimum amount of one percent (1.0%) plus twelve and half percent (12.5%), and will be due and payable in arrears (i) on the
forty-fifth (45th) day following the last calendar day of each of the months of September, December, March, and June, commencing
with November 15, 2014, (ii) upon a prepayment of the Loan and (iii) at maturity in cash. Upon the earlier of (a) the Term Loan
Maturity Date or (b) full repayment of the Loan, the Company is required to pay an exit fee.
In
addition, on the Closing Date, the Company issued the Agent a warrant (the “Initial Warrant”) to purchase 681,090 shares
of the Company's common stock, par value $0.01 per share (the “Common Stock”). The Initial Warrant is exercisable up
to and including July 30, 2020 at an exercise price of $0.936 per share, subject to adjustment. The Agent may exercise the Initial
Warrant on a cashless basis at any time. In the event the Agent exercises the Initial Warrant on a cashless basis the Company will
not receive any proceeds. The exercise price of the Initial Warrant is subject to customary adjustments provisions for stock splits,
stock dividends, recapitalizations and the like.
The
remaining $3,500,000 of the Loan Commitment Amount (the “Subsequent Term Loan”) may be advanced to the Company upon
written request to the Agent during the period beginning on the Closing Date and ending February 28, 2016 provided that (i) no
default or event of default has occurred or is continuing under the SWK Credit Agreement, (ii) the aggregate revenue recognized
by the Company and any of its subsidiaries during any period of four (4) consecutive fiscal quarters ending prior to December 31,
2015, exceeds a certain dollar amount threshold and (iii) the Agent has received an executed warrant (the “Subsequent Term
Loan Warrant”) to purchase a number of shares of Common Stock equal to the number obtained when the amount of the Subsequent
Term Loan is multiplied by 7.5% and the product is divided by the exercise price of such warrant. The exercise price of the Subsequent
Term Loan Warrant will be equal to 1.2 times the lower of (a) the average closing price of the Common Stock on the previous 20
trading days before the closing date of the Subsequent Term Loan, or (b) the closing price of the Common Stock on the last trading
day prior to such Subsequent Term Loan’s closing date. The Subsequent Term Loan Warrant will be exercisable for a period
of six years from the closing date of the Subsequent Term Loan, subject to adjustment. Upon issuance, the Agent may exercise the
Subsequent Term Loan Warrant on a cashless basis at any time. In the event the Lender exercises the Subsequent Term Loan Warrant
on a cashless basis we will not receive any proceeds. The exercise price of the Subsequent Term Loan Warrant is subject to customary
adjustments provisions for stock splits, stock dividends, recapitalizations and the like.
The
Company may prepay the Loan, in whole or in part, upon five business days written notice provided that a prepayment premium is
paid to the Lenders as set forth in the SWK Credit Agreement. The Company is required to prepay the Loan with any net cash proceeds
received from certain types of dispositions of assets described in the SWK Credit Agreement. The Company is also required to make
certain revenue based payments on the Company’s quarterly revenues applied in the following priority: (i) first to the payment
of all fees, costs, expenses and indemnities due and owing to the Agent under the SWK Credit Agreement, (ii) second, to the payment
of all fees, costs, expenses and indemnities due and owing to the Lenders under the SWK Credit Agreement, (iii) third, to the payment
of all accrued but unpaid interest until paid in full; (iv) fourth, for each revenue based payment date after August 2016, to the
payment of all principal of the Loan up to an aggregate amount of US$750,000 on any such payment date; and (v) fifth, all remaining
amounts to the Company.
The
SWK Credit Agreement contains customary affirmative and negative covenants for credit facilities of its type, including limiting
the Company’s ability to pay dividends or redeem outstanding equity interests, incur additional indebtedness, grant additional
liens, engage in any other type of business, make investments, merge, consolidate or sell all or substantially all of its assets
and enter into transactions with related parties. The SWK Credit Agreement also contains certain financial covenants, including,
certain minimum aggregate revenues requirements.
The
SWK Credit Agreement includes customary events of default, including failure to pay principal, interest or fees when due, failure
to comply with covenants, default under certain other indebtedness, certain insolvency or bankruptcy events, the occurrence of
certain material judgments the institution of any proceeding by a government agency or a change of control of the Company that
it is not otherwise permitted under the SWK Credit Agreement.
On
July 30, 2014, in connection with the SWK Credit Agreement, the Company and Silicon Valley Bank entered into a Waiver and Sixth
Amendment to Loan and Security Agreement (“Sixth Amendment”). The Sixth Amendment waived previous defaults under the
loan agreement, modified the financial covenants, extended the maturity of the loan to July 25, 2016, modified the interest rate
to the prime rate published by the
Wall Street Journal
plus 2.25% per annum, and implemented a pre-payment fee of $40,000.
The financial covenants under the Sixth Amendment include a revenue covenant and a liquidity covenant that conform with and are
cross defaulted with the revenue covenant and liquidity covenant of the SWK Credit Agreement. The Company will pay a closing fee
of $10,000 for the Sixth Amendment on July 18, 2015, approximately one year from the date of the closing.
At
the annual meeting of stockholders of the Company held on July 10, 2014, the Company’s stockholders approved an amendment
to the Company’s Certificate of Incorporation, as amended, to increase the number of authorized shares of the Company’s
common stock, par value $0.01 per share, from 50 million to 70 million shares. The approved Certificate of Amendment to the Certificate
of Incorporation of the Company, as amended, was filed with the Secretary of State of the State of Delaware on July 11, 2014 and
was effective upon filing.