NOTES TO CONDENSED FINANCIAL STATEMENTS
(unaudited)
1. Organization and Summary of Significant Accounting Policies
The Company
We are a specialty pharmaceutical company
developing proprietary therapeutics for the treatment of serious medical disorders. Our product development programs focus primarily
on important pharmaceutical markets with significant unmet medical needs and commercial potential. We are directly developing our
product candidates and also utilize corporate, academic and government partnerships as appropriate. Such collaborations have helped
to fund product development and have enabled us to retain significant economic interest in our products. We operate in only one
business segment, the development of pharmaceutical products.
Basis of Presentation
The accompanying unaudited condensed financial
statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim
financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not
include all of the information and footnotes required by U.S. GAAP for complete financial statement presentation. In the opinion
of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been
included. Operating results for the three month period ended March 31, 2014 are not necessarily indicative of the results that
may be expected for the year ending December 31, 2014, or any future interim periods.
The balance sheet at December 31,
2013 has been derived from the audited financial statements at that date, but does not include all of the information and footnotes
required by U.S. GAAP for complete financial statements. These unaudited condensed financial statements should be read in conjunction
with the audited financial statements and footnotes thereto included in the Titan Pharmaceuticals, Inc. Annual Report on Form 10-K
for the year ended December 31, 2013, as filed with the Securities and Exchange Commission (“SEC”).
The preparation of financial statements
in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Actual results could differ from those estimates.
The accompanying financial statements have
been prepared assuming we will continue as a going concern. At March 31, 2014, we had cash of approximately $10.2 million, which
we believe is sufficient to fund our planned operations into April 2015.
Our efforts since receipt of the Complete
Response letter (the “CRL”) to the Probuphine New Drug Application (“NDA”) on April 30, 2013 have focused
on working with Titan’s partner, Braeburn Pharmaceuticals Sprl (“Braeburn”), a team of expert clinical and regulatory
advisors and the
U.S. Food and Drug Administration (the “FDA”)
to establish a path forward for potential resubmission of the the “NDA” with the additional information requested
by the FDA.
The FDA has recently provided clear guidance
on the full clinical study protocol of Probuphine®, the company’s investigational subdermal implant for the maintenance
treatment of opioid dependence.
The study, which was submitted for FDA review in mid-March
by Braeburn, is expected to begin enrollment by mid-year 2014, and study completion is anticipated by the middle of 2015. The clinical
study is a randomized, double blind, double dummy design that is expected to enroll approximately 180 patients into two parallel
treatment arms. The study population will be clinically stable patients who are receiving maintenance treatment with an approved
sublingual formulation containing buprenorphine at a daily dose of 8mg or less. Patients will be randomized to receive either four
Probuphine implants, or to continue the daily sublingual buprenorphine therapy. The patients are expected to be treated for six
months, and the primary analysis will be a non-inferiority comparison of responders in the two arms. Updates on the progress of
the study will be provided periodically.
Although Braeburn is proceeding with plans
for commencing the clinical study expeditiously, under our December 2012 license agreement with Braeburn, as amended (the “Agreement”),
Braeburn currently has the technical right to terminate the Agreement. If Braeburn were to exercise its right to terminate the
Agreement, we would not have sufficient funds available to us to complete the FDA regulatory process and, in the event of ultimate
approval, commercialize Probuphine without raising additional capital. If we are unable to complete a debt or equity offering,
or otherwise obtain sufficient financing in such event, our business and prospects would be materially adversely impacted. Furthermore,
in light of the reduced $15 million milestone payment payable to us under the Third Amendment if the FDA ultimately approves Probuphine,
we may be unable to advance our current Parkinson’s disease development program to later stage clinical studies and will
not be able to pursue any additional programs beyond the very initial stages without obtaining additional financing, either through
the sale of debt or equity securities, a corporate partnership or otherwise. We cannot assure you that the financing we need will
be available on acceptable terms.
Revenue Recognition
We generate revenue principally from collaborative
research and development arrangements, technology licenses, and government grants. Consideration received for revenue arrangements
with multiple components is allocated among the separate units of accounting based on their respective selling prices. The selling
price for each unit is based on vendor-specific objective evidence, or VSOE, if available, third party evidence if VSOE is not
available, or estimated selling price if neither VSOE nor third party evidence is available. The applicable revenue recognition
criteria are then applied to each of the units.
Revenue is recognized when the four basic
criteria of revenue recognition are met: (1) a contractual agreement exists; (2) transfer of technology has been completed
or services have been rendered; (3) the fee is fixed or determinable; and (4) collectibility is reasonably assured. For
each source of revenue, we comply with the above revenue recognition criteria in the following manner:
|
•
|
Technology license agreements typically consist of non-refundable upfront license fees, annual minimum access fees or royalty payments. Non-refundable upfront license fees and annual minimum payments received with separable stand-alone values are recognized when the technology is transferred or accessed, provided that the technology transferred or accessed is not dependent on the outcome of our continuing research and development efforts.
|
|
•
|
Royalties earned are based on third-party sales of licensed products and are recorded in accordance with contract terms when third-party results are reliably measurable and collectibility is reasonably assured. Pursuant to certain license agreements, we earn royalties on the sale of Fanapt
™
by Novartis Pharma AG in the U.S. As described in Note 6, “Commitments and Contingencies”, and Note 7, “Royalty Liability”, we are obligated to pay royalties on such sales to Sanofi-Aventis and the Deerfield Healthcare group of entities (“Deerfield”). As we have no performance obligations under the license agreements, we have recorded the royalties earned, net of royalties we are obligated to pay, as revenue in our Statement of Operations and Comprehensive Income (Loss). On March 28, 2013, we amended the agreements with Deerfield terminating our option to repurchase the royalty rights. As a result, we no longer recognize royalty income related to the Fanapt royalty payments received from Novartis unless Fanapt sales exceed certain thresholds (see Note 7, “Royalty Liability” for further discussion).
|
|
•
|
Government grants, which support our research efforts in specific
projects, generally provide for reimbursement of approved costs as defined in the notices of grants. Grant revenue is recognized
when associated project costs are incurred.
|
|
•
|
Collaborative arrangements typically consist of non-refundable and/or exclusive technology access fees, cost reimbursements for specific research and development spending, and various milestone and future product royalty payments. If the delivered technology does not have stand-alone value, the amount of revenue allocable to the delivered technology is deferred. Non-refundable upfront fees with stand-alone value that are not dependent on future performance under these agreements are recognized as revenue when received, and are deferred if we have continuing performance obligations and have no evidence of fair value of those obligations. Cost reimbursements for research and development spending are recognized when the related costs are incurred and when collections are reasonably expected. Payments received related to substantive, performance-based “at-risk” milestones are recognized as revenue upon achievement of the clinical success or regulatory event specified in the underlying contracts, which represent the culmination of the earnings process. Amounts received in advance are recorded as deferred revenue until the technology is transferred, costs are incurred, or a milestone is reached.
|
Research and Development Costs and Related Accrual
Research and development expenses include
internal and external costs. Internal costs include salaries and employment related expenses, facility costs, administrative expenses
and allocations of corporate costs. External expenses consist of costs associated with outsourced clinical research organization
activities, sponsored research studies, product registration, patent application and prosecution, and investigator sponsored trials.
We also record accruals for estimated ongoing clinical trial costs. Clinical trial costs represent costs incurred by clinical research
organizations (“CROs”) and clinical sites. These costs are recorded as a component of research and development expenses.
Under our agreements, progress payments are typically made to investigators, clinical sites and CROs. We analyze the progress of
the clinical trials, including levels of patient enrollment, invoices received and contracted costs when evaluating the adequacy
of accrued liabilities. Significant judgments and estimates must be made and used in determining the accrued balance in any accounting
period. Actual results could differ from those estimates under different assumptions. Revisions are charged to expense in the period
in which the facts that give rise to the revision become known.
Recent Accounting Pronouncements
In July 2013, the FASB issued ASU
No. 2013-11,
Income Taxes (Topic 740): Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward,
a Similar Tax Loss, or a Tax Credit Carryforward Exists
, providing guidance on the presentation of unrecognized tax benefits
in the financial statements as either a reduction to a deferred tax asset or either a liability to better reflect the manner in
which an entity would settle at the reporting date any additional income taxes that would result from the disallowance of a tax
position when net operating loss carryforwards, similar tax losses or tax credit carryforwards exist. The amendments in this ASU
do not require new recurring disclosures. The amendments in this ASU are effective for fiscal years, and interim periods within
those years, beginning after December 15, 2013. The amendments in this ASU should be applied prospectively to all unrecognized
tax benefits that exist at the effective date. The adoption of the amendments in this ASU did not have a significant impact on
our financial statements.
Subsequent Events
We have evaluated events that have occurred
after March 31, 2014 and through the date that the financial statements are issued.
Fair Value Measurements
We measure the fair value of financial
assets and liabilities based on authoritative guidance which defines fair value, establishes a framework consisting of three levels
for measuring fair value, and expands disclosures about fair value measurements. Fair value is defined as the exchange price that
would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for
the asset or liability in an orderly transaction between market participants on the measurement date. There are three levels of
inputs that may be used to measure fair value:
Level 1 – quoted prices in active markets for identical
assets or liabilities
Level 2 – quoted prices for similar assets and liabilities
in active markets or inputs that are observable;
Level 3 – inputs that are unobservable (for example cash
flow modeling inputs based on assumptions).
Financial instruments, including cash,
receivables, accounts payable and accrued liabilities are carried at cost, which we believe approximates fair value due to the
short-term nature of these instruments. Our warrant liabilities are classified within level 3 of the fair value hierarchy because
the value is calculated using significant judgment based on our own assumptions in the valuation of these liabilities.
As a result of the fair value adjustment
of the warrant liabilities, we recorded a non-cash loss on an increase in the fair value of $0.9 million and $3.0 million for
the three months ended March 31, 2014 and 2013, respectively, in our Condensed Statements of Operations and Comprehensive Income
(Loss). See Note 8, “Warrant Liability” for further discussion on the calculation of the fair value of the warrant
liabilities.
(in thousands)
|
|
Warrant
liability
|
|
Total warrant liability at December 31, 2013
|
|
$
|
1,817
|
|
Adjustment to record warrants at fair value
|
|
|
864
|
|
Total warrant liability at March 31, 2014
|
|
$
|
2,681
|
|
2. Stock Plans
The following table summarizes the stock-based
compensation expense recorded for awards under the stock option plans for the three month periods ended March 31, 2014 and 2013:
|
|
Three Months Ended
March 31,
|
|
(in thousands, except per share amounts)
|
|
2014
|
|
|
2013
|
|
Research and development
|
|
$
|
145
|
|
|
$
|
304
|
|
General and administrative
|
|
|
181
|
|
|
|
201
|
|
|
|
|
|
|
|
|
|
|
Total stock-based compensation expenses
|
|
$
|
326
|
|
|
$
|
505
|
|
No tax benefit was recognized related to
stock-based compensation expense since we have incurred operating losses and we have established a full valuation allowance to
offset all the potential tax benefits associated with our deferred tax assets.
We use the Black-Scholes-Merton option-pricing
model with the following assumptions to estimate the stock-based compensation expense for the three month period ended March 31,
2014 and 2013:
|
|
Three Months Ended
March 31,
|
|
|
|
2014
|
|
|
2013
|
|
Weighted-average risk-free interest rate
|
|
|
2.0
|
%
|
|
|
0.64
|
%
|
Expected dividend payments
|
|
|
—
|
|
|
|
—
|
|
Expected holding period (years)
1
|
|
|
6.5
|
|
|
|
4.4
|
|
Weighted-average volatility factor
2
|
|
|
1.66
|
|
|
|
1.83
|
|
Estimated forfeiture rates for options granted
to management
3
|
|
|
31
|
%
|
|
|
23
|
%
|
Estimated forfeiture rates
for options granted to non-management
3
|
|
|
31
|
%
|
|
|
41
|
%
|
(1)
|
Expected holding periods are based on the simplified method provided in Staff Accounting Bulletin No. 107 for “plain vanilla options.”
|
(2)
|
Weighted average volatility is based on the historical volatility of our common stock.
|
(3)
|
Estimated forfeiture rates are based on historical data.
|
Options to purchase 275,000 common shares
were granted during the three month period ended March 31, 2014. No options were granted during the three month period ended March
31, 2013.
The following table summarizes option activity
for the three month period ended March 31, 2014:
(in thousands, except per share amounts)
|
|
Options
|
|
|
Weighted
Average
Exercise
Price
|
|
|
Weighted
Average
Remaining
Option
Term
|
|
|
Aggregate
Intrinsic
Value
|
|
Outstanding at January 1, 2014
|
|
|
6,732
|
|
|
$
|
1.31
|
|
|
|
5.75
|
|
|
$
|
—
|
|
Granted
|
|
|
275
|
|
|
|
0.66
|
|
|
|
|
|
|
|
|
|
Exercised
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
Expired or cancelled
|
|
|
(60
|
)
|
|
|
3.69
|
|
|
|
|
|
|
|
|
|
Forfeited
|
|
|
(2
|
)
|
|
|
4.06
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at March 31, 2014
|
|
|
6,945
|
|
|
$
|
1.27
|
|
|
|
5.57
|
|
|
$
|
3
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable at March 31, 2014
|
|
|
6,869
|
|
|
$
|
1.27
|
|
|
|
5.52
|
|
|
$
|
2
|
|
The following table summarizes restricted
stock activity for the three month period ended March 31, 2014:
(in thousands, except per share amounts)
|
|
Restricted Stock
|
|
|
Weighted
Average
Exercise
Price
|
|
|
Weighted
Average
Remaining
Term
|
|
|
Aggregate
Intrinsic
Value
|
|
Outstanding at January 1, 2014
|
|
|
—
|
|
|
$
|
—
|
|
|
|
—
|
|
|
$
|
—
|
|
Granted
|
|
|
617
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
Released
|
|
|
(259
|
)
|
|
|
—
|
|
|
|
|
|
|
|
|
|
Expired or cancelled
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
Forfeited
|
|
|
—
|
|
|
|
—
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at March 31, 2014
|
|
|
358
|
|
|
$
|
—
|
|
|
|
9.87
|
|
|
$
|
207
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable at March 31, 2014
|
|
|
—
|
|
|
$
|
—
|
|
|
|
—
|
|
|
$
|
—
|
|
617,000 shares of restricted stock were
awarded to employees, directors and consultants during the three month period ended March 31, 2014.
As of March 31, 2014, there was approximately
$181,000 of total unrecognized compensation expense related to non-vested stock options and restricted stock. This expense is expected
to be recognized over a weighted-average period of 0.9 years.
3. Net Income (Loss) Per Share
Basic net income (loss) per share excludes
the effect of dilution and is computed by dividing net income (loss) by the weighted-average number of shares outstanding for the
period. Diluted net income (loss) per share reflects the potential dilution that could occur if securities or other contracts to
issue shares were exercised into shares. In calculating diluted net income (loss) per share, the numerator is adjusted for the
change in the fair value of the warrant liability (only if dilutive) and the denominator is increased to include the number of
potentially dilutive common shares assumed to be outstanding during the period using the treasury stock method.
The following table sets forth the reconciliation
of the numerator and denominator used in the computation of basic and diluted net income (loss) per common share for the three
months ended March 31, 2014 and 2013:
|
|
Three months ended March 31,
|
|
(in thousands, except per share amounts)
|
|
2014
|
|
|
2013
|
|
Numerator:
|
|
|
|
|
|
|
|
|
Net income (loss) used for basic earnings per share
|
|
$
|
(1,804
|
)
|
|
$
|
6,001
|
|
Less change in fair value of warrant liability
|
|
|
—
|
|
|
|
—
|
|
Net (loss) income used for diluted earnings per share
|
|
$
|
(1,804
|
)
|
|
$
|
6,001
|
|
Denominator:
|
|
|
|
|
|
|
|
|
Basic weighted-average outstanding common shares
|
|
|
88,929
|
|
|
|
78,256
|
|
Effect of dilutive potential common shares resulting from options
|
|
|
—
|
|
|
|
2,237
|
|
Effect of dilutive potential common shares resulting from warrants
|
|
|
—
|
|
|
|
6,269
|
|
Weighted-average shares outstanding—diluted
|
|
|
88,929
|
|
|
|
86,762
|
|
Net income (loss) per common share:
|
|
|
|
|
|
|
|
|
Basic
|
|
$
|
(0.02
|
)
|
|
$
|
0.08
|
|
Diluted
|
|
$
|
(0.02
|
)
|
|
$
|
0.07
|
|
The table below presents common shares
underlying stock options and warrants that are excluded from the calculation of the weighted average number of common shares outstanding
used for the calculation of diluted net income (loss) per common share. These are excluded from the calculation due to their anti-dilutive
effect for the three months ended March 31, 2014 and 2013:
|
|
Three months ended September
30,
|
|
(in thousands)
|
|
2014
|
|
|
2013
|
|
Weighted-average anti-dilutive common shares resulting from options
|
|
|
6,697
|
|
|
|
491
|
|
Weighted-average anti-dilutive common shares resulting from warrants
|
|
|
3,967
|
|
|
|
7
|
|
|
|
|
10,664
|
|
|
|
498
|
|
4. Comprehensive Income (Loss)
Comprehensive income and loss for the periods
presented is comprised solely of our net income and loss. We had no items of other comprehensive income (loss) during the three-month
periods ended March 31, 2014 and 2013. Comprehensive loss for the three-month period ended March 31, 2014 was $1.8 million. Comprehensive
income for the three-month period ended March 31, 2013 was $6.0 million.
5. Braeburn License
In December 2012, we entered into the Agreement
with Braeburn granting Braeburn exclusive commercialization rights to Probuphine in the United States and its territories, including
Puerto Rico, and Canada. As part of the Agreement, we received a non-refundable up-front license fee of $15.75 million (approximately
$15.0 million, net of expenses), and would have received $45.0 million upon approval by the FDA of the NDA as well as up to an
additional $130.0 million upon achievement of specified sales milestones and up to $35.0 million in regulatory milestones for additional
indications, including chronic pain. We would have received tiered royalties on net sales of Probuphine ranging from the mid-teens
to the low twenties.
On May 28, 2013, we entered into the
Amendment to the Agreement primarily to modify certain of the termination provisions of the Agreement. The Amendment gives Braeburn
the right to terminate the Agreement in the event that (A) after May 28, 2013, based on written or oral communications
from or with the FDA, Braeburn reasonably determines either that the FDA will require significant development to be performed before
approval of the Probuphine™ NDA can be given, such as, but not limited to, one or more additional controlled clinical studies
with a clinical efficacy endpoint, or substantial post-approval commitments that may materially impact the product’s financial
returns or that the FDA will require one or more changes in the proposed label, which change(s) Braeburn reasonably determines
will materially reduce the authorized prescribed patient base, or (B) the NDA has not been approved by the FDA on or before
June 30, 2014. The Amendment also provides that we will share in legal and consulting expenses in excess of a specified amount
prior to approval of the NDA.
On July 2, 2013, we entered into the
Second Amendment to the Agreement primarily to establish and provide the parameters for a committee comprised of representatives
of Titan and Braeburn responsible for and with the authority to make all decisions regarding the development and implementation
of a strategic plan to seek approval from the FDA of Probuphine® for subdermal use in the maintenance treatment of adult patients
with opioid dependence, including development of the strategy for all written and oral communications with the FDA. The Second
Amendment also makes Braeburn the primary contact for FDA communications regarding the Probuphine NDA.
On November 12, 2013, we entered into the
stock purchase agreement pursuant to which Braeburn made a $5 million equity investment in our company and the Third Amendment
primarily to modify the amount and timing of the approval and sales milestone payments payable under the Agreement. Under the Third
Amendment, we are entitled to receive a $15 million payment upon FDA approval of the NDA, up to $165 million in sales milestones
and $35 million in regulatory milestones. We are entitled to receive a tiered royalty in the mid-teens to low twenties on
all net sales of Probuphine. In addition, we are entitled to receive a low single digit royalty on sales by Braeburn, if any, of
other continuous delivery treatments for opioid dependence as defined in the Third Amendment and can elect to receive a low single
digit royalty on sales by Braeburn, if any, of other products in the addiction market in exchange for a similar reduction in our
royalties on Probuphine.
6. Commitments and Contingencies
Financing Agreements
On March 15, 2011, we entered into
several agreements with Deerfield, including a facility agreement (the “Facility Agreement”), pursuant to which
we issued Deerfield promissory notes in the aggregate principal amount of $20.0 million. The long-term debt bore interest at 8.5% per
annum, payable quarterly, and was originally repayable over five years, with 10% of the principal amount due on the first anniversary,
15% due on the second anniversary, and 25% due on each of the next three anniversaries. In connection with the Facility Agreement,
we issued Deerfield six-year warrants (the “Deerfield Warrants”) to purchase 6,000,000 shares of our common stock at
an exercise price of $1.57 per share. See Note 8, “Warrant Liability” for further discussion. As a result of our April
2012 sale of equity, and pursuant to the terms of the Deerfield Warrants, the exercise price of the Deerfield Warrants was adjusted
to $1.25 per share. We also entered into a royalty agreement with Deerfield (the “Royalty Agreement”) in exchange for
$3.0 million. See Note 7, “Royalty Liability” for further discussion.
We recorded the promissory notes with an
aggregate principal amount of $20.0 million at its face value less a note discount consisting of (i) $3.0 million cash discount,
(ii) a $500,000 loan fee, and (iii) the $5.5 million fair value of the associated warrants. The note discount totaling
$9.0 million was amortized using the interest method.
On November 14, 2011, we entered into
several agreements with Deerfield pursuant to which we agreed to pay a substantial portion of the remaining future royalties on
the sales of Fanapt to Deerfield in exchange for $5.0 million in cash that was recorded as royalty liability (see Note 7,
“Royalty Liability” for further discussion), a $10.0 million reduction in the principal amount owed to Deerfield under
the existing facility agreement and a revised principal repayment schedule of $2.5 million per year for four years commencing in
April 2013 to retire the remaining long-term debt of $10.0 million. We evaluated the November 2011 principal reduction and other
amendments to the $20.0 million facility agreement and determined that the modifications should be accounted for as a troubled
debt restructuring on a prospective basis. As a result, we recognized the difference between the carrying value of the long-term
debt and the total required future principal and interest payments as interest expense over the remaining term using the interest
method.
On February 6, 2013, the facility
agreement was amended to provide that the exercise price of the Deerfield Warrants could be satisfied through a reduction in the
principal amount of our outstanding indebtedness to Deerfield. In February and March 2013, Deerfield exercised all of the Deerfield
Warrants resulting in a reduction of our outstanding indebtedness to Deerfield of $7.5 million and, accordingly, cancellation of
our obligation to make the 2014, 2015 and 2016 installment payments under the Facility Agreement. This resulted in a gain of $1.9
million which was recorded in Other Income (Expense). On April 1, 2013, we made the final principal payment of $2.5 million
under the facility agreement.
Royalty Payments
In 1997, we entered into an exclusive license
agreement with Sanofi-Aventis SA (formerly Hoechst Marion Roussel, Inc.). The agreement gave us a worldwide license to the patent
rights and know-how related to the antipsychotic agent Fanapt (iloperidone), including the ability to develop, use, sublicense,
manufacture and sell products and processes claimed in the patent rights. Upon commercialization of the product, the license agreement
provides that we will pay royalties based on net sales. Net sales of Fanapt by Novartis during the three-month periods ended March
31, 2014 and 2013 were approximately $17.3 million and $17.8 million, respectively, and we were obligated to pay royalties of approximately
$2.6 million and $3.1 million to Sanofi-Aventis on March 31, 2014 and December 31, 2013, respectively, which were included
in Accounts Receivable and Accounts Payable on the Condensed Balance Sheets.
Legal Proceedings
There are no ongoing legal proceedings
against our company.
7. Royalty Liability
On March 15, 2011, under the royalty
agreement with Deerfield, in exchange for $3.0 million that was recorded as royalty liability, we agreed to pay Deerfield 2.5%
of the net sales of Fanapt, constituting a portion of the royalty revenue that we are entitled to under our sublicense agreement
with Novartis. The agreements with Deerfield also provided us with the option to repurchase the royalty rights for $40.0 million.
The $3.0 million received under the royalty
agreement was recorded as a royalty liability in accordance with the appropriate accounting guidance as the related agreement includes
a provision which allowed us to repurchase the royalty rights from Deerfield through a payment of a lump sum. Interest on the royalty
liability was recognized using the interest method based on the estimated future royalties expected to be paid under the Royalty
Agreement.
Under the November 14, 2011 amended
and restated royalty agreement, in exchange for an additional $5.0 million royalty liability, Deerfield is entitled to our portion
of the royalties on Fanapt (5.5% to 7.5% of net sales, net of the 2.5% previously agreed to have been provided to Deerfield) up
to specified threshold levels of net sales of Fanapt and 40% of the royalties above the threshold level. We retain 60% of the royalties
on net sales of Fanapt above the threshold levels. The $5.0 million received was recorded as a royalty liability in accordance
with the appropriate accounting guidance as the related agreement included a provision which allowed us to repurchase the royalty
rights from Deerfield through a payment of a lump sum. Interest on this royalty obligation was recognized using the interest method
based on the estimated future royalties expected to be paid under the royalty agreement.
On March 28, 2013, we amended the
agreements with Deerfield terminating our option to repurchase the royalty rights. As a result, we recognized a gain on the extinguishment
of the royalty liability of approximately $9.0 million, which was recorded in other income, because we are no longer required to
account for it as a liability. Additionally, we will no longer recognize royalty income related to the Fanapt royalty payments
received from Novartis unless Fanapt sales exceed certain thresholds.
8. Warrant Liability
On March 15, 2011, in connection with
the Facility Agreement, we issued Deerfield six-year warrants to purchase 6,000,000 shares of our common stock at an initial exercise
price of $1.57 per share. As a result of our April 2012 sale of equity, and pursuant to the terms of the Deerfield Warrants, the
exercise price of the Deerfield Warrants was adjusted to $1.25 per share. The Deerfield Warrants expire on March 15, 2017. The
Deerfield Warrants contain a provision where the warrant holder has the option to receive cash, equal to the Black-Scholes fair
value of the remaining unexercised portion of the warrant, as cash settlement in the event that there is a fundamental transaction
(contractually defined to include various merger, acquisition or stock transfer activities). Due to this provision, ASC 480
Distinguishing
Liabilities from Equity
requires that these warrants be classified as liabilities. The fair values of these warrants have been
determined using the Binomial Lattice (“Lattice”) valuation model, and the changes in the fair value are recorded in
the Condensed Statements of Operations and Comprehensive Income (Loss). The Lattice model provides for assumptions regarding volatility
and risk-free interest rates within the total period to maturity.
On February 6, 2013, the Facility
Agreement was amended to provide that the exercise price of the Deerfield Warrants could be satisfied through a reduction in the
principal amount of our outstanding indebtedness to Deerfield. In February and March 2013, Deerfield exercised all of the Deerfield
Warrants resulting in a $7.5 million reduction in the amount owed to Deerfield. See Note 6. “Commitments and Contingencies”
for further discussion.
On April 9, 2012, in connection with
subscription agreements with certain institutional investors for the purchase and sale of 6,517,648 shares of our common stock,
we issued (i) six-year warrants (“Series A Warrants”) to purchase 6,517,648 shares of common stock at an exercise
price of $1.15 per share and (ii) six-month warrants (“Series B Warrants”) to purchase 6,517,648 shares of common
stock at an exercise price of $0.85 per share. The Series A Warrants and Series B Warrants contain a provision where the warrant
holder has the option to receive cash, equal to the Black Scholes fair value of the remaining unexercised portion of the warrant,
as cash settlement in the event that there is a fundamental transaction (contractually defined to include various merger, acquisition
or stock transfer activities). Due to this provision, ASC 480
Distinguishing Liabilities from Equity
requires that these
warrants be classified as liabilities. The fair values of these warrants have been determined using the Lattice valuation model,
and the changes in the fair value are recorded in the Condensed Statements of Operations and Comprehensive Income (Loss). The Lattice
model provides for assumptions regarding volatility and risk-free interest rates within the total period to maturity.
In September and October 2012, Series B
Warrants to purchase 5,761,765 shares of common stock were exercised at a price of $0.85 per share. The remaining Series B Warrants
to purchase 755,883 shares of common stock expired in October 2012.
In January and March 2013, Series A Warrants
to purchase 1,109,010 shares of common stock were exercised resulting in gross proceeds of approximately $1,275,000. The remaining
Series A Warrants to purchase 5,408,638 shares of common stock will expire in April 2018.
The key assumptions used to value the Series
A Warrants were as follows:
Assumption
|
|
March 31,
2014
|
|
|
December 31,
2013
|
|
Expected price volatility
|
|
|
125
|
%
|
|
|
90
|
%
|
Expected term (in years)
|
|
|
4.03
|
|
|
|
4.27
|
|
Risk-free interest rate
|
|
|
1.33
|
%
|
|
|
1.40
|
%
|
Dividend yield
|
|
|
0.00
|
%
|
|
|
0.00
|
%
|
Weighted-average fair value of warrants
|
|
$
|
0.50
|
|
|
$
|
0.34
|
|
9. Stockholders’ Equity
Common Stock
In November 2013, we entered into a stock
purchase agreement with Braeburn pursuant to which we sold 6,250,000 shares of our common stock for an aggregate purchase price
of $5.0 million, or $0.80 per share.
In April 2013, 144,499 shares of common
stock were issued to a former lender upon the cashless net exercise of 287,356 warrants in accordance with the terms of the warrants.
In January and March 2013, Series A Warrants
to purchase 1,109,010 shares of common stock were exercised resulting in gross proceeds of approximately $1,275,000.
On February 6, 2013, the facility
agreement with Deerfield was amended to provide that the exercise price of the Deerfield Warrants could be satisfied through a
reduction in the principal amount of our outstanding indebtedness to Deerfield. In February and March 2013, Deerfield exercised
the 6,000,000 Deerfield Warrants resulting in a $7.5 million reduction in the amount owed to Deerfield.