Item 2.
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Management’s Discussion and Analysis of Financial
Condition and Results of Operations
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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Overview
XBiotech Inc. (“XBiotech” or the “Company) is
a pre-market biopharmaceutical company engaged in discovering and developing True Human™ monoclonal antibodies for treating
a variety of diseases. True Human™ monoclonal antibodies are those which occur naturally in human beings—as opposed
to being derived from animal immunization or otherwise engineered. We believe that naturally occurring monoclonal antibodies have
the potential to be safer and more effective than their non-naturally occurring counterparts. XBiotech is focused on developing
its True Human™ pipeline and manufacturing system.
After the Janssen Transaction in December
2019, as of March 31, 2020, we had retained earnings of $243.6 million. We had net losses of $0.3 million and $5.9 million for
the three months ended March 31, 2020 and 2019, respectively. During the next two years, we expect that the revenues from Janssen
Transaction will generate enough cash for our research and development activities. However, we expect to incur significant and
increasing operating losses for the foreseeable future as we advance our drug candidates from discovery through preclinical testing
and clinical trials and seek regulatory approval and eventual commercialization. In addition to these increasing research and development
expenses, we expect general and administrative costs to increase as we continue to operate as a public company, particularly following
the end of the 2019 fiscal year when we lost our status as an emerging growth company and be required to comply with additional
obligations from which we are currently exempt, including the auditor attestation requirement for internal controls. We will need
to generate significant revenues to achieve or sustain profitability, and we may never do so. As of March 31, 2020, we had 63 employees.
Impact of COVID-19 Pandemic
During the first quarter of 2020, we were subject to challenging
social and economic conditions created as a result of the novel strain of coronavirus, SARS-CoV-2 (“COVID-19”). The
resulting impact of the COVID-19 outbreak has created various impacts to our operations as a result of taking necessary precautions
for essential personnel to operate safely both in person as well as remotely, disruptions in our supply chain and delays requested
by Janssen in shipping drug product under our clinical manufacturing agreement.
We are currently operating our facilities at less than normal levels.
Our office-based employees have been working from home since early March 2020, while ensuring essential staffing levels in our
operations remain in place, including maintaining key personnel in our laboratories and manufacturing facilities. The Company considered
the impact of COVID-19 on the assumptions and estimates used and determined that there were no material adverse impacts on the
Company’s results of operations and financial position at March 31, 2020; however, this may not continue to be the case in
future quarters . In addition to the delays we have already experienced in shipping drug product, it is possible that the COVID-19
pandemic and response efforts may adversely impact our future ability to manufacture clinical drugs for Janssen, which could have
a material adverse impact on our results of operations or financial position during the remainder of 2020. In addition, having
a significant number of employees working remotely could increase our cybersecurity risk, create data accessibility concerns, and
make us more susceptible to communication disruptions.
While we are currently continuing the clinical trials under the
transition services agreement with Janssen, we expect that COVID-19 precautions may directly or indirectly impact the timeline
for some of the clinical trials, which could delay or otherwise adversely affect our revenue and adversely impact our financial
position. To help mitigate the impact to our clinical trials, we are pursuing innovative approaches such as remote monitoring,
remote patient visits and supporting home infusions.
We currently anticipate fulfilling
all production volumes and returning to normal manufacturing capabilities under the clinical manufacturing agreement by the third
quarter of 2020; however, due to the uncertainty associated with the pandemic and related mitigation efforts, it is possible this
assessment could change in future periods as our manufacturing capabilities and Janssen’s purchase orders may continue to
be negatively impacted.
On April 3, 2020, the Company announced the collaboration with BioBridge
Global to participate in a U.S. Food and Drug Administration (FDA) investigational program for U.S.
blood centers to begin collecting and distributing convalescent plasma from individuals who have recovered from COVID-19. The Company
intends to use the blood samples to develop a candidate True Human™ antibody therapy for the disease.
Revenues
Prior to receiving payments under the clinical manufacturing agreement
entered into in connection with the Janssen Transaction, we had not generated any revenue. Under this clinical manufacturing agreement,
we manufacture bermekimab for use by Janssen in clinical trials, in exchange for fixed payments, paid in quarterly installments
through 2021. As of March 31, 2020, we have recorded $3 million as manufacturing revenue.
In addition, we entered into a transition services agreement under
which we agreed to continue operational management, on a fee-for-service basis, of certain ongoing clinical trials related to bermekimab.
In consideration for all of the services to be provided, for each calendar quarter during the term of the transition services agreement,
Janssen shall pay the Company a fee for such quarter equal to all Pass-Through Costs incurred by the Company during such calendar
quarter, plus a markup of 30%. As at March 31, 2020, the Company has recorded more than $7 million Pass-Through Costs and $9.7
million gross Clinical Trial Service Revenue.
Our ability to generate any additional revenue and/or to become profitable
(or sustain any profitability) depends on our ability to successfully commercialize any product candidates we may advance in the
future. On April 14, 2020, the Company announced that a novel antibody it has discovered that neutralizes interleukin-1 alpha (IL-1⍺)
has now been advanced as a product candidate for clinical and commercial development. With the discovery, the Company is on schedule
to reenter the clinic with a new anti-IL-1⍺ therapy in 2021. However, we are not able to estimate at this time the potential
impact of the COVID-19 pandemic on our estimated timelines. It is possible that measures implemented to date or that may be implemented
or re-implemented in the future by governmental authorities and/or our business partners in response to the pandemic may extend
the timelines related to our development, clinical and commercial activities, which delays may be material and may adversely affect
our revenues for future quarters , the current fiscal year or beyond.
Research and Development Expenses
Research and development expense consists of expenses incurred in
connection with identifying and developing our drug candidates. These expenses consist primarily of salaries and related expenses,
stock-based compensation, the purchase of equipment, laboratory and manufacturing supplies, facility costs, costs for preclinical
and clinical research, development of quality control systems, quality assurance programs and manufacturing processes. We charge
all research and development expenses to operations as incurred.
Clinical development timelines, likelihood of success and total costs
vary widely. We do not currently track our internal research and development costs or our personnel and related costs on an individual
drug candidate basis. We use our research and development resources, including employees and our drug discovery technology, across
multiple drug development programs. As a result, we cannot state precisely the costs incurred for each of our research and development
programs or our clinical and preclinical drug candidates. From inception through March 31, 2020, we have recorded total research
and development expenses, including share-based compensation, of $211.0 million. Our total research and development expenses for
the three months ended March 31, 2020 and 2019 were $1.2 million and $4.5 million, respectively. Share-based compensation accounted
for $533 thousand and $295 thousand for the three months ended March 31, 2020 and 2019, respectively.
Research and development expenses, as a percentage of total operating
expenses for the three months ended March 31, 2020 and 2019 were 22% and 78%, respectively. The percentages, excluding stock-based
compensation, for the three months ended March 31, 2020 and 2019, were 25% and 81%, respectively.
The clinical development costs may further increase going forward
with potentially more advanced studies in the future as we evaluate our clinical data and pipeline.
Based on the results of our preclinical studies, we anticipate that
we will select drug candidates and research projects for further development on an ongoing basis in response to their preclinical
and clinical success and commercial potential. For research and development candidates in early stages of development, it is premature
to estimate when material net cash inflows from these projects might occur. In addition, our ability to conduct research and other
laboratory activities, to engage in clinical studies and to pursue regulatory approvals may be delayed or otherwise adversely impacted
by measures implemented by governmental authorities and/or our business partners in response to the COVID-19 pandemic.
General and Administrative Expenses
General and administrative expense consists primarily of salaries
and related expenses for personnel in administrative, finance, business development and human resource functions, as well as the
legal costs of pursuing patent protection of our intellectual property and patent filing and maintenance expenses, stock–based
compensation, and professional fees for legal services. Our total general and administration expenses for the three months ended
March 31, 2020 and 2019 were $4.0 million and $1.3 million, respectively. Share-based compensation accounted for $2.1 million
and $0.3 million for the three months ended March 31, 2020 and 2019, respectively.
General and administrative expense, as a percentage of total operating
expenses for the three months ended March 31, 2020 and 2019 were 78% and 22%, respectively. The percentages, excluding stock-based
compensation, for the three months ended March 31, 2020 and 2019, were 75% and 19%, respectively.
Critical Accounting Policies
Our Management’s Discussion and Analysis of Financial Condition
and Results of Operations is based on our financial statements, which have been prepared in conformity with generally accepted
accounting principles in the United States (US GAAP). The preparation of our financial statements requires us to make estimates
and assumptions that affect the reported amounts of assets and liabilities and expenses incurred during the reported periods.
We base estimates on our historical experience, known trends and
various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments
about the carrying value of assets and liabilities that are not apparent from other sources. Actual results may differ from these
estimates under different assumptions or conditions.
Our significant accounting policies are more fully described in the
notes to our financial statements appearing in this Quarterly Report on Form 10-Q.
Income Taxes
We account for income taxes under the
asset and liability method. We record deferred tax assets and liabilities for the future tax consequences attributable to differences
between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases, as well as
for operating loss and tax credit carryforwards. We measure deferred tax assets and liabilities using enacted tax rates expected
to apply to taxable income in the years in which we expect to recover or settle those temporary differences. We recognize the effect
of a change in tax rates on deferred tax assets and liabilities in the results of operations in the period that includes the enactment
date. We assess the likelihood that deferred tax assets will be realized, and we recognize a valuation allowance if it is more
likely than not that some portion of the deferred tax assets will not be realized. This assessment requires judgment as to the
likelihood and amounts of future taxable income by tax jurisdiction. To date, we have provided a valuation allowance against our
deferred tax assets as we believe the objective and verifiable evidence of our historical pretax net losses outweighs any positive
evidence of our forecasted future results. Although we believe that our tax estimates are reasonable, the ultimate tax determination
involves significant judgment. We will continue to monitor the positive and negative evidence and will adjust the valuation allowance
as sufficient objective positive evidence becomes available.
We account for uncertain tax positions by recognizing the financial
statement effects of a tax position only when, based upon technical merits, it is more likely than not that the position will be
sustained upon examination. We recognize potential accrued interest and penalties associated with unrecognized tax positions within
our global operations in income tax expense.
Results of Operations
Revenue
Revenue during the three months ended March 31, 2020 and 2019
are summarized as follows (in thousands):
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Three Months Ended March 31,
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2020
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2019
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Revenue
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|
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Manufacturing revenue
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$
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3,000
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|
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$
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-
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Clinical Trial revenue
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9,681
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|
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-
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Total revenue
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$
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12,681
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$
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-
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We had not generated any revenue before the year 2020. Under the
clinical manufacturing agreement with Janssen, as of March 31, 2020, we have recorded $3 million as manufacturing revenue for January
and February, 2020. Clinical trial revenue is based on the transition services agreement under which we agreed to continue operational
management, on a fee-for-service basis, of certain ongoing clinical trials related to bermekimab, which includes $7.5 million pass-through
expense for two ongoing trials and $2.2 million mark-up revenue. Our first quarter results may not be indicative of future revenues
or costs associated with our clinical manufacturing or clinical trial management agreements due to the ongoing impact of the COVID-19
pandemic.
Cost of Goods Sold
Cost of goods sold during the three months ended March 31,
2020 and 2019 are summarized as follows (in thousands):
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Three Months Ended March 31,
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|
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2020
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|
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2019
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|
Cost of goods sold
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|
|
|
|
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Manufacturing cost
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$
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2,166
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|
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$
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-
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Clinical trial cost
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7,507
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|
|
|
-
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Total cost of goods sold
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$
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9,673
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$
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-
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|
We had not incurred any cost of goods sold before the year 2020.
The manufacturing cost was period expense for manufacture, quality assurance and quality control department for January and February,
2020 . Clinical trial cost was the pass-through expense for two ongoing trials and other clinical trial department expense for
the three months ended March 31, 2020. Our first quarter results may not be indicative of future revenues or costs associated with
our clinical manufacturing or clinical trial management agreements due to the ongoing impact of the COVID-19 pandemic.
Expenses
Research and Development
Research and Development costs are summarized as follows (in thousands):
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Three Months Ended March 31,
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|
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Increase
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|
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% Increase
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|
|
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2020
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|
|
2019
|
|
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(Decrease)
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|
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(Decrease)
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Salaries and related expenses
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$
|
321
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$
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1,166
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|
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$
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(845
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)
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|
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-72
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%
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Laboratory and manufacturing supplies
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|
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124
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|
|
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1,242
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|
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(1,118
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)
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|
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-90
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%
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Clinical trials and sponsored research
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|
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-
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|
|
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256
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|
|
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(256
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)
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|
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-100
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%
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Stock-based compensation
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|
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533
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|
|
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295
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|
|
|
238
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|
|
|
81
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%
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Other
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|
|
177
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|
|
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1,568
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|
|
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(1,391
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)
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|
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-89
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%
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Total
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$
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1,155
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$
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4,527
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$
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(3,372
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)
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|
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-74
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%
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We do not currently track our internal research and development
costs or our personnel and related costs on an individual drug candidate basis. We use our research and development resources,
including employees and our drug discovery technology, across multiple drug development programs. As a result, we cannot state
precisely the costs incurred for each of our research and development programs or our clinical and preclinical drug candidates.
Research and development expenses decreased $3.4 million to $1.2
million for the three months ended March 31, 2020, compared to $4.5 million for the three months ended March 31, 2019. The decrease
was mainly due to reclassification of expense. Manufacturing department expenses were reclassed to cost of goods sold as a result
of the clinical manufacturing agreement we entered into as part of the Janssen Transaction. Also, we didn’t generate clinical
trial expense for the three months ended March 31, 2020, because all such expenses incurred were pursuant to the transition services
agreement entered into as part of the Janssen Transaction. As a result, clinical trial department expenses were reclassed to cost
of goods sold. Our first quarter results may not be indicative of future revenues or costs associated with our clinical manufacturing
or clinical trial management agreements due to the ongoing impact of the COVID-19 pandemic. The stock-based compensation increased
due to the new grants to employees and Chief Executive Officer in the fourth quarter of 2019.
General and Administrative
General and administrative costs are summarized as follows (in thousands):
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Three Months Ended March 31,
|
|
|
Increase
|
|
|
% Increase
|
|
|
|
2020
|
|
|
2019
|
|
|
(Decrease)
|
|
|
(Decrease)
|
|
Salaries and related expenses
|
|
$
|
258
|
|
|
$
|
254
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|
|
$
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4
|
|
|
|
2
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%
|
Patent filing expense
|
|
|
139
|
|
|
|
199
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|
|
|
(60
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)
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|
|
-30
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%
|
Stock-based compensation
|
|
|
2,144
|
|
|
|
275
|
|
|
|
1,869
|
|
|
|
680
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%
|
Professional fees
|
|
|
938
|
|
|
|
184
|
|
|
|
754
|
|
|
|
410
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%
|
Other
|
|
|
544
|
|
|
|
366
|
|
|
|
178
|
|
|
|
49
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%
|
Total
|
|
$
|
4,023
|
|
|
$
|
1,278
|
|
|
$
|
2,745
|
|
|
|
215
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%
|
General and administrative expense increased $2.7 million to $4.0
million for the three months ended March 31, 2020, compared to $1.3 million for the three months ended March 31, 2019. The increase
was primarily related to stock–based compensation expenses of $2.1 million, due to the new grants to employees and Chief
Executive Officer in the fourth quarter of 2019. Also, professional fees increased $0.7 million mainly due to professional and
legal fees related to the tender offer completed in February 2020.
Other income (loss)
The following table summarizes other income (loss) (in thousands):
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|
Three Months Ended March 31,
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|
|
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2020
|
|
|
2019
|
|
Interest income
|
|
$
|
1,898
|
|
|
$
|
78
|
|
Other income
|
|
|
-
|
|
|
|
9
|
|
Foreign exchange gain (loss)
|
|
|
(93
|
)
|
|
|
(146
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)
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Total
|
|
$
|
1,805
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|
|
$
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(59
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)
|
The interest income for the three months ended March 31, 2020 and
2019 was mainly from the interest generated from the Company’s Canadian bank account. Foreign exchange gain and loss was
mainly due to the fluctuation between the US dollar and the Euro in the three months ended March 31, 2020 compared to the three
months ended March 31, 2019.
Liquidity and Capital Resources
Our cash requirements could change materially as a result of the
progress of our research and development and clinical programs, licensing activities, acquisitions, divestitures or other corporate
developments. In addition, the duration and extent of measures that have been or may in the future be adopted by XBiotech or our
business partners, or imposed by governmental authorities, in response to the COVID-19 pandemic may require the use of additional
cash resources and adversely impact our liquidity. We are currently unable to estimate the severity or duration of these potential
impacts to our liquidity and capital resources.
Since our inception on March 22, 2005 through March, 2020, we
have funded our operations principally through private placements and public offerings of equity securities, which have provided
aggregate cash proceeds of approximately $307.4 million. We received $675 million in cash proceeds from the Janssen Transaction
in the year ended December 31, 2019. We will receive $75 million cash from the same transaction in 2021. The following table summarizes
our sources and uses of cash (in thousands):
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Three Months Ended March 31,
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Net cash (used in) provided by:
|
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2020
|
|
|
2019
|
|
Operating activities
|
|
$
|
(60,673
|
)
|
|
$
|
(4,677
|
)
|
Investing activities
|
|
|
(389
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)
|
|
|
(6
|
)
|
Financing activities
|
|
|
(412,082
|
)
|
|
|
741
|
|
Effect of foreign exchange rate on cash and cash equivalents
|
|
|
90
|
|
|
|
138
|
|
Net change in cash and cash equivalents
|
|
$
|
(473,054
|
)
|
|
$
|
(3,804
|
)
|
During the three months ended March 31, 2020 and 2019, our operating
activities used net cash of $60.7 million and $4.7 million, respectively. The use of net cash in each of these periods primarily
resulted from our net losses. The increase in net loss from operations for the three months ended March 31, 2020 as compared to
the three months ended March 31, 2019 was mainly due to the $51.1 million income tax payment for 2019.
During the three months ended March 31, 2020 and 2019, our investing
activities used net cash of $389 thousand and $6 thousand, respectively. The use of cash was for the purchase of new research and
development equipment.
During the three months ended March 31, 2020 and 2019, our financing
activities used net cash of $412.1 million and provided net cash proceeds of $0.7 million, respectively. During the three months
ended March 31, 2020, employees exercised stock options to purchase a total of 1.3 million shares of our common stock for approximately
$7.9 million in net proceeds. On February 19, 2020, we used approximately $420 million to purchase 14,000,000 common shares at
a price of $30.00 per share, relating to the tender offer completed in February 2020. During the three months ended March
31, 2019, employees exercised stock options to purchase a total of 190 thousand shares of our common stock for approximately $0.5
million in net proceeds. In this period, the Company also collected $0.2 million of its subscription receivable balance.
We expect to continue to incur operating losses in the future. Although
we are currently receiving clinical manufacturing revenue and clinical trial service revenue from Janssen, we will not receive
any product revenue until a drug candidate has been approved by the FDA, EMA or similar regulatory agencies in other countries
and successfully commercialized. As of March 31, 2020, our principal sources of liquidity were our cash and cash equivalents, which
totaled approximately $241.5 million. The ongoing impact of COVID-19 may delay or reduce our expected revenues from the Janssen
Transaction. If we determine in the future that we require additional capital, we may face difficulties in conducting common stock
offerings, as a result of market volatility caused by continued effects of COVID-19 affecting the global
economy.
Off-Balance Sheet Arrangements
Since inception, we have not engaged in any off-balance sheet activities,
including the use of structured finance, special purpose entities or variable interest entities.