NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2019
1
.
Nature of Operations and Business Activities
Na
t
ure of Operations and Basis of Presentation
Sorrento Therapeutics, Inc. (Nasdaq: SRNE), together with its subsidiaries (collectively, the “Company”) is a clinical stage and commercial biopharma company focused on delivering innovative and clinically meaningful therapies to patients and their families, globally, to address unmet medical needs. The Company primarily focuses on therapeutics areas in Immune-Oncology and Non-Opioid Pain Management. The Company also has programs assessing the use of its technologies and products in auto-immune, inflammatory and neurodegenerative diseases.
At its core, the Company is an antibody-centric company and leverages its proprietary G-MAB™ library and targeted delivery modalities to generate the next generation of cancer therapeutics. The Company’s fully human antibodies include PD-1, PD-L1, CD38, CD123, CD47, c-MET, VEGFR2, CCR2 and CD137 among others.
The Company’s vision is to leverage these antibodies in conjunction with proprietary targeted delivery modalities to generate the next generation of cancer therapeutics. These modalities include proprietary chimeric antigen receptor T-cell therapy (“CAR-T”), dimeric antigen receptor T-cell therapy (“DAR-T”), antibody drug conjugates (“ADCs”) as well as bispecific antibody approaches. Additionally, the Company acquired Sofusa®, a revolutionary drug delivery system, in July 2018, which delivers biologics directly into the lymphatic system to potentially achieve improved efficacy and fewer adverse effects than standard parenteral immunotherapy.
With each of the Company’s clinical and pre-clinical programs, it aims to tailor its therapies to treat specific stages in the evolution of cancer, from elimination, to equilibrium and escape. In addition, the Company’s objective is to focus on tumors that are resistant to current treatments and where it can design focused trials based on a genetic signature or biomarker to ensure patients have the best chance of a durable and significant response. The Company has several immuno-oncology programs that are in or near to entering the clinic. These include cellular therapies, an oncolytic virus and a palliative care program targeted to treat intractable cancer pain.
Through
March 31, 2019
, the Company had devoted substantially all of its efforts to product development, raising capital and building infrastructure.
The accompanying consolidated financial statements include the accounts of the Company’s subsidiaries. For consolidated entities where the Company owns or is exposed to less than 100% of the economics, the Company records net income (loss) attributable to noncontrolling interests in its consolidated statements of operations equal to the percentage of the economic or ownership interest retained in such entities by the respective noncontrolling parties. All intercompany balances and transactions have been eliminated in consolidation.
In the opinion of management, the unaudited financial information for the interim periods presented reflects all adjustments, which are only normal, recurring and necessary for a fair statement of financial position, results of operations and cash flows. These consolidated financial statements should be read in conjunction with the consolidated financial statements included in the Company’s Annual Report on Form 10-K for the fiscal year ended
December 31, 2018
. Operating results for interim periods are not expected to be indicative of operating results for the Company’s
2019
fiscal year, or any subsequent period.
2. Liquidity and Going Concern
The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern which contemplates the realization of assets and satisfaction of liabilities in the normal course of business. The Company has recurring losses from operations, recurring negative cash flows from operations and substantial cumulative net losses to date and anticipates that it will continue to do so for the foreseeable future as it continues to identify and invest in advancing product candidates, as well as expanding corporate infrastructure.
The Company has plans in place to obtain sufficient additional fundraising to fulfill its operating and capital requirements for the next 12 months. The Company’s plans include continuing to fund its operating losses and capital funding needs through public or private equity or debt financings, strategic collaborations, licensing arrangements, asset sales, government grants or other arrangements. Although management believes such plans, if executed, should provide the Company
sufficient financing to meet its needs, successful completion of such plans is dependent on factors outside of the Company’s control. As such, management cannot conclude that such plans will be effectively implemented within one year after the date that the financial statements are issued. As a result, management has concluded that the aforementioned conditions, among others, raise substantial doubt about the Company’s ability to continue as a going concern within one year after the date the financial statements are issued.
As of
March 31, 2019
, the Company had
$353.9 million
of long term debt outstanding, comprised of convertible notes issued pursuant to the 2018 Securities Purchase Agreement (as defined below), the 2018 Purchase Agreements (as defined below) and the Indenture (as defined below) for Scilex Pharmaceuticals Inc. (“Scilex”) and the Loan Agreement (as defined below) (collectively, the “Debt Arrangements”) (See Note 12).
Each of the Debt Arrangements provides that, upon the occurrence of an event of default, the Purchasers or Lenders thereof (as applicable) may, by written notice to the Company, declare all of the outstanding principal and interest under such Debt Arrangement immediately due and payable. For purposes of the Debt Arrangements, an event of default includes, among other things, (i) the failure to pay outstanding indebtedness when due, (ii) the Company’s breach of certain representations, warranties, covenants or obligations under the documents relating to the Debt Arrangements, or (iii) the occurrence of certain insolvency events involving the Company. The Company believes that it is not probable that the material adverse event clause under the Debt Arrangements will be exercised.
If the Company is unable to raise additional capital in sufficient amounts or on terms acceptable, the Company may have to significantly delay, scale back or discontinue the development or commercialization of one or more of its product candidates. The Company may also seek collaborators for one or more of its current or future product candidates at an earlier stage than otherwise would be desirable or on terms that are less favorable than might otherwise be available. The consolidated financial statements do not reflect any adjustments that might be necessary if the Company is unable to continue as a going concern.
Universal Shelf Registration
In November 2017, the Company filed a universal shelf registration statement on Form S-3 (the “2017 Shelf Registration Statement”) with the Securities and Exchange Commission (the “SEC”), which was declared effective by the SEC in December 2017. The 2017 Shelf Registration Statement provides the Company with the ability to offer up to
$350.0 million
of securities, including equity and other securities as described in the registration statement. Included in the 2017 Shelf Registration Statement is a sales agreement prospectus (the “Initial Sales Prospectus”) covering the offering, issuance and sale by the Company of up to a maximum aggregate offering price of
$100.0 million
of the Company’s common stock that may be issued and sold under a sales agreement with B. Riley FBR, Inc. (the “ATM Agreement”). On March 15, 2019, the Company filed an additional prospectus supplement covering the offering, issuance and sale by the Company of up to an additional maximum aggregate offering price of
$100.0 million
of the Company’s common stock under the ATM Agreement (together with the offering covered under the Initial Sales Prospectus, the “ATM Facility”). During the twelve months ended December 31, 2018, the Company sold approximately
$83.6 million
of common stock under the ATM Facility. The Company sold
no
shares under the ATM Facility during the three months ended March 31, 2019. The Company can offer up to approximately
$116.4 million
of additional shares of common stock under the ATM Facility, subject to certain limitations.
Pursuant to the 2017 Shelf Registration Statement, the Company may offer such securities from time to time and through one or more methods of distribution, subject to market conditions and the Company’s capital needs. Specific terms and prices will be determined at the time of each offering under a separate prospectus supplement, which will be filed with the SEC at the time of any offering. However, the Company cannot be sure that such additional funds will be available on reasonable terms, or at all.
If the Company raises additional funds by issuing equity securities, substantial dilution to existing stockholders would result. If the Company raises additional funds by incurring debt financing, the terms of the debt may involve significant cash payment obligations as well as covenants and specific financial ratios that may restrict the Company’s ability to operate its business.
3. Significant Accounting Policies
Use of Estimates
The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America (“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 consolidated financial statements and
the reported amounts of expenses during the reporting period. Management believes that these estimates are reasonable; however, actual results may differ from these estimates.
Cash and Cash Equivalents
The Company considers all highly liquid investments purchased with original maturities of three months or less to be cash equivalents. The Company minimizes its credit risk associated with cash and cash equivalents by periodically evaluating the credit quality of its primary financial institution. The balance at times may exceed federally insured limits. The Company has not experienced any losses on such accounts.
Restricted Cash
Restricted cash in the Company’s consolidated balance sheet as of
March 31, 2019
, included approximately
$45.0 million
of restricted cash related to the Scilex Notes (as defined below) in the form of both the Reserve Account (as defined below) and the Collateral Account (as defined below) (See Note 12). Restricted cash in the Company’s consolidated balance sheet as of
March 31, 2019
also included approximately
$9.6 million
of restricted cash related to the Loan Agreement in the form of the Oaktree Reserve Account (as defined below) (See Note 12).
Fair Value of Financial Instruments
The Company follows accounting guidance on fair value measurements for financial instruments measured on a recurring basis, as well as for certain assets and liabilities that are initially recorded at their estimated fair values. Fair value is defined as the exit price, or the amount that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The Company uses the following three-level hierarchy that maximizes the use of observable inputs and minimizes the use of unobservable inputs to value its financial instruments:
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Level 1: Observable inputs such as unadjusted quoted prices in active markets for identical instruments.
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Level 2: Quoted prices for similar instruments that are directly or indirectly observable in the marketplace.
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Level 3: Significant unobservable inputs which are supported by little or no market activity and that are financial instruments whose values are determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant judgment or estimation.
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Financial instruments measured at fair value are classified in their entirety based on the lowest level of input that is significant to the fair value measurement. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires it to make judgments and consider factors specific to the asset or liability. The use of different assumptions and/or estimation methodologies may have a material effect on estimated fair values. Accordingly, the fair value estimates disclosed or initial amounts recorded may not be indicative of the amount that the Company or holders of the instruments could realize in a current market exchange.
The carrying amounts of cash equivalents and marketable securities approximate their fair value based upon quoted market prices. Certain of the Company’s financial instruments are not measured at fair value on a recurring basis, but are recorded at amounts that approximate their fair value due to their liquid or short-term nature, such as cash, accounts receivable and payable, and other financial instruments in current assets or current liabilities.
Marketable Securities
Marketable securities are designated either as trading or available-for-sale securities and are accounted for at fair value. Marketable securities are classified as short-term or long-term based on the nature of the securities and their availability to meet current operating requirements. Marketable securities that are readily available for use in current operations and are classified as short-term available-for-sale securities are reported as a component of current assets in the accompanying consolidated balance sheets. Marketable securities that are not trading securities and are not considered available for use in current operations are classified as long-term available-for-sale securities and are reported as a component of long-term assets in the accompanying consolidated balance sheets.
Securities that are classified as trading are carried at fair value, with changes to fair value reported as a component of income. Securities that are classified as available-for-sale are carried at fair value, with temporary unrealized gains and losses
reported as a component of stockholders' equity until their disposition. The cost of securities sold is based on the specific identification method.
All of the Company’s marketable securities are subject to a periodic impairment review. The Company recognizes an impairment charge when a decline in the fair value of its investments below the cost basis is judged to be other-than-temporary. For each of the
three
months ended
March 31, 2019
and
2018
,
no
other-than-temporary impairment charges were recorded for marketable securities.
Grants and Accounts Receivable
Grants receivable at
March 31, 2019
and
December 31, 2018
represent amounts due under several federal contracts with the National Institute of Allergy and Infectious Diseases (“NIAID”), a division of the National Institutes of Health (“NIH”) (collectively, the “NIH Grants”). The Company considers the grants receivable to be fully collectible; accordingly,
no
allowance for doubtful amounts has been established. If amounts become uncollectible, they are charged to operations.
Accounts receivable at
March 31, 2019
and
December 31, 2018
consists of trade receivables from sales and services provided to certain customers, which are generally unsecured and due within 30 days. Estimated credit losses related to trade accounts receivable are recorded as general and administrative expenses and as an allowance for doubtful accounts within grants and accounts receivable, net. The Company reviews reserves and makes adjustments based on historical experience and known collectability issues and disputes. When internal collection efforts on accounts have been exhausted, the accounts are written off by reducing the allowance for doubtful accounts. As of each of the periods ended
March 31, 2019
and
December 31, 2018
, the allowance for doubtful accounts was
$20,000
.
Inventory
The Company determines inventory cost on a first-in, first-out basis. The Company reduces the carrying value of inventories to a lower of cost or net realizable value for those items that are potentially excess, obsolete or slow-moving. The Company reserves for excess and obsolete inventory based upon historical experience, sales trends, and specific categories of inventory and age of on-hand inventory. As of
March 31, 2019
, the Company’s inventory is primarily comprised of finished goods.
Property and Equipment
Property and equipment are carried at cost less accumulated depreciation. Depreciation of property and equipment is computed using the straight-line method over the estimated useful lives of the assets, which are generally
three
to
five years
. Leasehold improvements are amortized over the lesser of the life of the lease or the life of the asset. Repairs and maintenance are charged to expense as incurred.
Acquisitions and Intangibles
The Company has engaged in business combination and asset acquisition activity. The accounting for business combinations and asset acquisitions requires management to make judgments and estimates of the fair value of assets acquired, including the identification and valuation of intangible assets, as well as liabilities assumed. Such judgments and estimates directly impact the amount of goodwill recognized in connection with business acquisitions, as goodwill represents the excess of the purchase price of an acquired business over the fair value of its net tangible and identifiable intangible assets.
Goodwill and Other Long-Lived Assets
Goodwill, which has an indefinite useful life, represents the excess of cost over fair value of net assets acquired. Goodwill is reviewed for impairment at least annually during the fourth quarter, or more frequently if events occur indicating the potential for impairment. During its goodwill impairment review, the Company may assess qualitative factors to determine whether it is more likely than not that the fair value of its reporting units are less than their carrying amounts, including goodwill. The qualitative factors include, but are not limited to, macroeconomic conditions, industry and market considerations, and the overall financial performance of the Company. If, after assessing the totality of these qualitative factors, the Company determines that it is not more likely than not that the fair value of its reporting units are less than their carrying amounts, then no additional assessment is deemed necessary. Otherwise, the Company proceeds to perform the two-step test for goodwill impairment. The first step involves comparing the estimated fair value of the reporting units with their carrying values, including goodwill. If the carrying amount of the reporting units exceed their fair values, the Company performs the second step of the goodwill impairment test to determine the amount of loss, which involves comparing the implied fair value of the goodwill to the carrying value of the goodwill. The Company may also elect to bypass the qualitative assessment in a period and elect to proceed to perform the first step of the goodwill impairment test. The Company performed its annual assessment
for goodwill impairment in the fourth quarter of 2018, noting
no
impairment and that the fair value of the goodwill exceeded the carrying value by a significant margin. With the exception of the re-segmentation of the Company’s segments, which did not result in impairment, during the quarter ended
March 31, 2019
, there have not been any other triggering events indicating the potential for impairment through
March 31, 2019
.
In determining the fair value utilized in the goodwill impairment assessment, the Company considers qualitative factors such as changes in strategy, cash flows and the regulatory environment as well as the market capitalization of the Company’s publicly traded common stock. The Company’s share price is highly volatile and although there was significant excess of fair value over book value at the annual impairment assessment date of December 31, 2018, subsequent declines in the market share price could pose risks of impairment in the future.
It is not possible at this time to determine if an impairment charge would result from these factors, or, if it does, whether such charge would be material. The Company will continue to monitor the recoverability of its goodwill.
The Company evaluates its long-lived and intangible assets with definite lives, such as property and equipment, acquired technology, customer relationships, patent and license rights, for impairment by considering competition by products prescribed for the same indication, the likelihood and estimated future entry of non-generic and generic competition with the same or similar indication and other related factors. The factors that drive the estimate of useful life are often uncertain and are reviewed on a periodic basis or when events occur that warrant review. Recoverability is measured by comparison of the assets’ book value to future net undiscounted cash flows that the assets are expected to generate. There have not been any impairment losses of long-lived assets through
March 31, 2019
.
Acquisition Consideration Payable - Gain or Loss on Contingent Liabilities
Acquisition consideration payable relates to the Company’s acquisition of businesses and various other assets and is recorded on the Company’s consolidated balance sheets at fair value and is re-measured at each balance sheet date until such contingent liabilities have been settled, with changes in fair value recorded as gain or loss on contingent liabilities. The Company estimates the fair value of contingent consideration based on Level 3 inputs primarily driven by the probability of achieving certain financing or operating related milestones.
Debt, Including Debt with Detachable Warrants
Debt with detachable warrants is evaluated for the classification of warrants as either equity instruments, derivative liabilities, or liabilities depending on the specific terms of the warrant agreement. In circumstances in which debt is issued with equity-classified warrants, the proceeds from the issuance of convertible debt are first allocated to the debt and the warrants at their relative estimated fair values. The portion of the proceeds so allocated to the warrants are accounted for as paid-in capital and a debt discount. The remaining proceeds, as further reduced by discounts created by the bifurcation of embedded derivatives and beneficial conversion features, are allocated to the debt. The Company accounts for debt as liabilities measured at amortized cost and amortizes the resulting debt discount from the allocation of proceeds, to interest expense using the effective interest method over the expected term of the debt instrument. The Company considers whether there are any embedded features in debt instruments that require bifurcation and separate accounting as derivative financial instruments pursuant to ASC 815,
Derivatives and Hedging
.
If the amount allocated to the convertible debt results in an effective per share conversion price less than the fair value of the Company’s common stock on the commitment date, the intrinsic value of this beneficial conversion feature is recorded as a discount to the convertible debt with a corresponding increase to additional paid in capital. The beneficial conversion feature discount is equal to the difference between the effective conversion price and the fair value of the Company’s common stock at the commitment date, unless limited by the remaining proceeds allocated to the debt.
The Company may enter financing arrangements, the terms of which involve significant assumptions and estimates, including future net product sales, in determining interest expense, amortization period of the debt discount, as well as the classification between current and long-term portions. In estimating future net product sales, the Company assesses prevailing market conditions using various external market data against the Company’s anticipated sales and planned commercial activities. See Note 12 for discussion of the Scilex Notes, which include repayments based on a percentage of net sales of ZTlido® (lidocaine topical system 1.8%). Consequently, the Company imputes interest on the carrying value of the debt and record interest expense using an imputed effective interest rate. The Company reassesses the expected payments each reporting period and account for any changes through an adjustment to the effective interest rate on a prospective basis, with a corresponding impact to the classification of the Company’s current and long-term portions.
Derivative Liability
Derivative liabilities are recorded on the Company’s consolidated balance sheets at their fair value on the date of issuance and are revalued on each balance sheet date until such instruments are exercised or expire, with changes in the fair value between reporting periods recorded as other income or expense.
Investments in Other Entities
The Company holds a portfolio of investments in equity securities that are accounted for under either the equity method or cost method. Investments in entities over which the Company has significant influence but not a controlling interest are accounted for using the equity method, with the Company’s share of earnings or losses reported in loss on equity method investments.
All investments are reviewed on a regular basis for possible impairment. If an investment’s fair value is determined to be less than its net carrying value and the decline is determined to be other-than-temporary, the investment is written down to its fair value. Such an evaluation is judgmental and dependent on specific facts and circumstances. Factors considered in determining whether an other-than-temporary decline in value has occurred include: the magnitude of the impairment and length of time that the estimated market value was below the cost basis; financial condition and business prospects of the investee; the Company’s intent and ability to retain the investment for a sufficient period of time to allow for recovery in market value of the investment; issues that raise concerns about the investee’s ability to continue as a going concern; any other information that the Company may be aware of related to the investment.
Research and Development Costs
All research and development costs are charged to expense as incurred. Such costs primarily consist of lab supplies, contract services, stock-based compensation expense, salaries and related benefits.
Acquired In-Process Research and Development Expense
The Company has acquired and may continue to acquire the rights to develop and commercialize new drug candidates. The up-front payments to acquire a new drug compound or drug delivery devices, as well as future milestone payments associated with asset acquisitions that do not meet the definition of derivative and are deemed probable to achieve the milestones, are immediately expensed as acquired in-process research and development provided that the drug has not achieved regulatory approval for marketing and, absent obtaining such approval, have no alternative future use. The acquired in-process research and development related to the business combination of Virttu Biologics Limited (“Virttu”), for which certain products are under development and expected to be commercialized in the future, was capitalized and recorded within “Intangibles, net” on the accompanying consolidated balance sheet. The Company commenced amortization of acquired in-process research and development related to the business combination of Scilex upon commercialization of ZTlido® (lidocaine topical system 1.8%) in October 2018. Capitalized in-process research and development will be reviewed annually for impairment or more frequently as changes in circumstance or the occurrence of events suggest that the remaining value may not be recoverable. (See Note 4 for further discussion of acquired in-process research and development expense related to the acquisition of Semnur Pharmaceuticals, Inc.).
Income Taxes
The provisions of the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 740
“Income Taxes,”
addresses the determination of whether tax benefits claimed or expected to be claimed on a tax return should be recorded in the financial statements. Under ASC Topic 740-10, the Company may recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by taxing authorities, based on the technical merits of the position. The Company has determined that it has uncertain tax positions.
The Company accounts for income taxes using the asset and liability method to compute the differences between the tax basis of assets and liabilities and the related financial amounts, using currently enacted tax rates.
The Company has deferred tax assets, which are subject to periodic recoverability assessments. Valuation allowances are established, when necessary, to reduce deferred tax assets to the amount that more likely than not will be realized. As of each of
December 31, 2018
and
March 31, 2019
, the Company maintained a full valuation allowance against its deferred tax assets, with the exception of an amount equal to its deferred tax liabilities.
Revenue Recognition
The Company’s revenues are generated from various NIH grant awards, license fees, product sales, the sale of customized reagents and other materials, and the provision of contract manufacturing and other services. The Company does not have significant costs associated with costs to obtain contracts with its customers. Substantially all of the Company’s revenues and accounts receivable result from contracts with customers.
Grant Revenues
The revenue from the NIH grant awards is based upon subcontractor and internal costs incurred that are specifically covered by the grant, and where applicable, a facilities and administrative rate that provides funding for overhead expenses. These revenues are recognized when expenses have been incurred by subcontractors or when the Company incurs internal expenses that are related to the grant. Grant revenues were not material for the three months ended March 31, 2019.
Royalty and License Revenues
License fees for the licensing of product rights are recorded as deferred revenue upon receipt of cash and recognized as revenue on a straight-line basis over the license period, with the exception of license agreements with no remaining performance obligations or undelivered obligations. The Company applies judgment in determining the timing of revenue recognition related to contracts that include multiple performance obligations. The total transaction price of the contract is allocated to each performance obligation in an amount based on the estimated relative standalone selling prices of the promised goods or services underlying each performance obligation. For goods or services for which observable standalone selling prices are not available, the Company develops an estimated standalone selling price of each performance obligation.
As of March 31, 2019, the future performance obligations for royalty and license revenues relate to the license agreements with ImmuneOncia Therapeutics, LLC (“ImmuneOncia”) and NantCell, Inc. (“NantCell”).
The total consideration for the ImmuneOncia license performance obligation, effective September 1, 2016, represented
$9.6 million
. The estimated revenue expected to be recognized for future performance obligations, as of
March 31, 2019
, was approximately
$8.4 million
. The Company expects to recognize license revenue of approximately
$0.5 million
of the remaining performance obligation annually through the remaining term. The Company applied judgment in estimating the
20
-year contract term, analogous to the expected life of the patent, over which revenue is recognized over time given the ongoing performance obligation related to the Company’s participation on a steering committee for the technologies under the agreement.
As of
March 31, 2019
, the NantCell license agreement, effective April 21, 2015, represented
$110.0 million
of contract liabilities reflected in long-term deferred revenue. See Note 11 for additional information regarding the remaining performance obligation for the agreement.
Sales and Services Revenues
Sales and services revenues are comprised of Scilex product sales of ZTlido®
(lidocaine topical system 1.8%), contract manufacturing associated with sales of customized reagents at Concortis Biosystems Corp. (“Concortis”), materials and supply agreements, contract manufacturing services at BioServ Corporation, and the Company’s joint development agreement with Celularity Inc. (“Celularity”).
The Company does not disclose the value of unsatisfied performance obligations for (i) contracts with an original expected length of one year or less and (ii) contracts for which it recognizes revenue at the amount to which it has the right to invoice for services performed. The Company applied the practical expedient in ASC Topic 606-10-50-14 to the revenue contracts for Concortis sales and services and materials and supply agreements due to the general short-term length of such contracts.
The following table shows sales and service revenues disaggregated by product and services type for the
three
months ended
March 31, 2019
(in thousands):
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Three Months Ended March 31,
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March 31, 2019
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March 31, 2018
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Scilex product sales
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$
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2,859
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$
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—
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Concortis sales and services
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1,810
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1,463
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Materials and supply agreements
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500
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861
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Bioserv sales and services
|
854
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2,135
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Joint development agreement
|
—
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1,667
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$
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6,023
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$
|
6,126
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The Company is obligated to accept from customers the return of products sold that are damaged or do not meet certain specifications. The Company may authorize the return of products sold in accordance with the terms of its sales contracts, and estimates allowances for such amounts at the time of sale. The Company has not experienced any sales returns.
Scilex Pharmaceuticals Inc.
Revenues from Scilex product sales include sales of its ZTlido® (lidocaine topical system 1.8%). Scilex’s performance obligation with respect to Scilex product sales is satisfied at a point in time, which transfers control upon delivery of product to the customer. The Company considers control to have transferred upon delivery because the customer has legal title to the asset, physical possession of the asset has been transferred to the customer, the customer has significant risks and rewards of ownership of the asset, and the Company has a present right to payment at that time. The Company identified a single performance obligation. Invoicing typically occurs upon shipment and the length of time between invoicing and when payment is due is not significant. The aggregate dollar value of unfulfilled orders as of
March 31, 2019
was not material.
For Scilex product sales, the Company records gross-to-net sales adjustments for government and managed care rebates, chargebacks, wholesaler fees, sales returns and prompt payment discounts. Such variable consideration are estimated in the period of the sale and are estimated using a most likely amount approach based primarily upon provisions included in the Company’s customer contract, customary industry practices and current government regulations and was not significant for the three months ended
March 31, 2019
. There were no significant changes in variable consideration during the three months ended
March 31, 2019
.
Concortis Biosystems Corporation (“Concortis”)
Contract manufacturing associated with sales of customized reagents for Concortis operations relate to providing synthetic expertise to customers’ synthesis by delivering proprietary cytotoxins, linkers and linker-toxins and ADC service using industry standard toxin and antibodies provided by customers. Revenue associated with the sales of customized reagents is recognized at a point in time upon the transfer of control, which is generally upon shipment given the short contract terms which are generally three months or less.
Materials and Supply Agreements
Revenues from the sale of materials associated with the Company’s research and development arrangements are recognized upon the transfer of control, which is generally upon shipment. Outstanding performance obligations related to materials and supply agreements was
$0.4 million
as of
March 31, 2019
, and the Company expects to fulfill
$0.1 million
of such obligations during the remainder of 2019.
Bioserv Corporation (
“
Bioserv
”
)
Contract manufacturing services associated with the Company’s Bioserv operations related to finish and fill activities for drug products and reagents are recognized ratably over the contract term based on a time-based measure which reflects the transfer of services to the customer because the manufactured products are highly customized and do not have an alternative use to the Company. As of each of
December 31, 2018
and
March 31, 2019
, the Company had approximately
$0.4 million
of unbilled accounts receivable for which revenue has been recognized but not billed at the reporting date. As of
December 31, 2018
and
March 31, 2019
, the Company had approximately
$0.2 million
and
$0.1 million
of upfront payments related to its contract manufacturing services included in deferred revenue, respectively.
As of
December 31, 2018
and
March 31, 2019
, the estimated revenue expected to be recognized for future performance obligations associated with contract manufacturing services was approximately
$1.6 million
and
$1.2 million
, respectively.
The following table includes Bioserv sales and services revenue expected to be recognized in the future related to performance obligations that are undelivered or partially delivered at the end of the reporting period and do not include contracts with original durations of one year or less (in thousands):
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Remainder of 2019
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2020
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2021 and thereafter
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Contract manufacturing services
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$705
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$407
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$131
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Joint Development Agreement
On September 26, 2017, the Company entered into a joint development agreement with Celularity whereby the Company agreed to provide research services to Celularity through June 30, 2018 in exchange for an upfront payment of
$5.0 million
. The revenue related to the joint development agreement of
$5.0 million
was recognized over the length of the service agreement as services were performed. The Company recorded sales and services revenues under the joint development agreement of
$1.7 million
during the three months ended March 31, 2018. The Company recorded
no
sales and services revenues under the joint development agreement during the three months ended March 31, 2019.
Stock-Based Compensation
The Company accounts for stock-based compensation in accordance with FASB ASC Topic 718
“Compensation – Stock Compensation,”
which establishes accounting for equity instruments exchanged for employee services. Under such provisions, stock-based compensation cost is measured at the grant date, based on the calculated fair value of the award, and is recognized as an expense, under the straight-line method, over the employee’s requisite service period (generally the vesting period of the equity grant).
The Company accounts for equity instruments, including restricted stock or stock options, issued to non-employees in accordance with authoritative guidance for equity based payments to non-employees. Stock options issued to non-employees are accounted for at their estimated fair value determined using the Black-Scholes option-pricing model. The fair value of options and restricted stock granted to non-employees is re-measured over the vesting period, and the resulting changes in fair value are recognized as expense in the period of the change in proportion to the services rendered to date.
Comprehensive Income (Loss)
Comprehensive income (loss) is primarily comprised of net income (loss) and adjustments for the change in unrealized gains and losses on the Company’s investments in available-for-sale marketable securities, net of taxes and foreign currency translation adjustments. The Company displays comprehensive income (loss) and its components in its consolidated statements of comprehensive income (loss).
Net Loss per Share
Basic net loss per share is computed by dividing net loss for the period by the weighted average number of shares of common stock outstanding during the period. Diluted net loss per share reflects the additional dilution from potential issuances of common stock, such as stock issuable pursuant to the exercise of stock options or the exercise of outstanding warrants. The treasury stock method and if-converted method are used to calculate the potential dilutive effect of these common stock equivalents. Potentially dilutive shares are excluded from the computation of diluted net loss per share when their effect is anti-dilutive. In periods where a net loss is presented, all potentially dilutive securities are anti-dilutive and are excluded from the computation of diluted net loss per share.
Reorganization of Segments
Beginning in the quarter ended March 31, 2019, the Company re-segmented its business into
two
new operating segments: the Sorrento Therapeutics segment and the Scilex segment.
Leases
The Company determines if an arrangement is a lease at inception. Operating leases are included in operating lease right-of-use (“ROU”) assets,
current portion of operating lease liabilities
, and operating lease liabilities in the Company’s consolidated balance sheets. ROU assets represent the Company’s right to use an underlying asset for the lease term and lease liabilities represent the Company’s obligation to make lease payments arising from the lease. Operating lease ROU assets and liabilities are recognized at the commencement date based on the present value of lease payments over the lease term. As the Company’s leases do not provide an implicit rate, the Company uses its incremental borrowing rate based on the information
available at the commencement date in determining the present value of lease payments. The operating lease ROU asset also includes any lease payments made and is reduced by lease incentives. The Company’s lease terms may include options to extend or terminate the lease when it is reasonably certain that the Company will exercise that option. Lease expense for lease payments is recognized on a straight-line basis over the lease term. As of March 31, 2019, the Company has no finance leases.
Recent Accounting Pronouncements
In February 2016, the FASB issued Accounting Standards Update (“ASU”) No. 2016-02,
Leases
. ASU No. 2016-02 is aimed at making leasing activities more transparent and comparable, and requires substantially all leases be recognized by lessees on their balance sheet as a right-of-use asset and corresponding lease liability, including leases currently accounted for as operating leases. ASU No. 2016-2 is effective for financial statements issued for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. In July 2018, the FASB issued ASU No. 2018-11, which allows for an alternative method to adopt the lease standard by recognizing a cumulative-effect adjustment to the opening balance sheet of retained earnings in the period of adoption, with no adjustment to prior comparative periods. In March 2019, the FASB issued ASU No. 2019-01, which clarifies that entities are not subject to the transition disclosure requirements in ASC 250-10-50-3 related to the effect of an accounting change on certain interim period financial information. ASU No. 2016-02 and all subsequent amendments (collectively, “ASC 842”) were effective for public entities for annual reporting periods beginning after December 15, 2018, including interim periods therein. The Company adopted ASC 842 during the first quarter of 2019 and elected to apply the cumulative-effect adjustment to the opening balance sheet and optional transition method to not present comparable prior periods as allowed under ASU No. 2018-11. The Company made the following practical expedients elections: (1) elected the short-term lease exception, (2) did not elect hindsight and (3) elected to not separate its non-lease components from lease components. The Company also adopted the transitional practical expedients, which allowed the Company to carry forward its historical assessment of whether existing agreements contained a lease and the classification of the Company’s existing operating leases. The adoption of ASC 842 resulted in the recording of
$44.9 million
in operating ROU assets and
$2.6 million
and
$47.8 million
in current portion of operating lease liabilities and non-current operating lease liabilities, respectively. Deferred rent, recorded in other current liabilities and other non-current liabilities, was derecognized. There were no adjustments to retained earnings. The Company will continue to report financial information for fiscal years ending before December 31, 2018 under the previous lease accounting standard.
In June 2016, the FASB issued ASU No. 2016-13,
Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments,
to improve financial reporting by requiring timelier recording of credit losses on loans and other financial instruments held by financial institutions and other organizations. The ASU requires the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions and reasonable and supportable forecasts. The ASU also requires enhanced disclosures to help investors and other financial statement users better understand significant estimates and judgments used in estimating credit losses, as well as the credit quality and underwriting standards of an organization’s portfolio. The ASU is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Early application will be permitted for all organizations for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The Company is currently evaluating the impact that the adoption of ASU No. 2016-13 will have on the Company’s consolidated financial position, results of operations or cash flows.
In January 2017, the FASB issued ASU No. 2017-04,
Simplifying the Test for Goodwill Impairment (Topic 350)
. This standard eliminates Step 2 from the goodwill impairment test, instead requiring an entity to recognize a goodwill impairment charge for the amount by which the goodwill carrying amount exceeds the reporting unit’s fair value. This guidance is effective for interim and annual goodwill impairment tests in fiscal years beginning after December 15, 2019 with early adoption permitted. This guidance must be applied on a prospective basis. The Company is currently evaluating the impact that the adoption of ASU No. 2017-04 will have on the Company’s consolidated financial position, results of operations or cash flows.
In June 2018, the FASB issued ASU No. 2018-07,
Compensation - Stock Compensation (Topic 718): Improvements to Nonemployee Share-Based Payment Accounting
, to include share-based payment transactions for acquiring goods and services from nonemployees. The ASU is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The adoption of this standard did not have a material impact on the Company’s consolidated financial position, results of operations or cash flows.
In August 2018, the FASB issued ASU No. 2018-13,
Disclosure Framework-Changes to the Disclosure Requirements for Fair Value Measurement,
to improve the effectiveness of the disclosure requirements for fair value measurements. The ASU is effective for fiscal years and interim periods beginning after December 15, 2019. Amendments on changes in unrealized gains and losses, the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements and the narrative description of measurement uncertainty will be applied prospectively as of the beginning of the fiscal year of adoption with all other amendments being applied retrospectively to all periods presented upon their effective
date. Early adoption is permitted. The Company is evaluating the impact that adopting this standard will have on its consolidated financial statements.
In August 2018, the FASB issued ASU No. 2018-15,
Intangibles-Goodwill and Other-Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract.
The amendments in this update align the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). The amendments in this update are effective for interim and annual periods for the Company beginning on January 1, 2020, with early adoption permitted. The amendments in this update may be applied either retrospectively or prospectively. The Company is evaluating the impact the standard will have on its consolidated financial statements.
In November 2018, the FASB issued ASU No. 2018-18,
Collaborative Arrangements (Topic 808): Clarifying the Interaction Between Topic 808 and Topic 606.
The amendments in this update provide guidance on how to assess whether certain transactions between collaborative arrangement participants should be accounted for within the revenue recognition standard. The amendments in this update are effective for interim and annual periods for the Company beginning on January 1, 2020, with early adoption permitted. The Company is in the process of evaluating the impact the standard will have on its consolidated financial statements.
4. Acquisitions
Acquisition of Semnur Pharmaceuticals, Inc.
On March 18, 2019, the Company, for limited purposes, entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Semnur Pharmaceuticals, Inc., a Delaware corporation (“Semnur”), Scilex Holding Company, a Delaware corporation (“HoldCo”), Sigma Merger Sub, Inc., a Delaware corporation and wholly owned subsidiary of HoldCo (“Merger Sub”), and Fortis Advisors LLC, solely as representative of the holders of Semnur equity (the “Equityholders’ Representative”). Pursuant to the Merger Agreement, Merger Sub merged with and into Semnur (the “Merger”), with Semnur surviving as a wholly owned subsidiary of HoldCo.
Concurrently with the execution of the Merger Agreement, the Company and each of the other holders of outstanding shares of capital stock of Scilex, the Company’s majority-owned subsidiary, contributed each share of Scilex capital stock that the Company or it owned to HoldCo in exchange for one share of HoldCo common stock (the “Contribution”). As a result of the Contribution, and prior to the consummation of the Merger, Scilex became a wholly-owned subsidiary of HoldCo and the Company became the owner of approximately
77%
of HoldCo’s issued and outstanding capital stock.
At the closing of the Semnur acquisition, HoldCo issued to the holders of Semnur’s capital stock and options to purchase Semnur’s common stock (collectively, the “Semnur Equityholders”) upfront consideration with a value of approximately
$70.0 million
plus the aggregate exercise price of outstanding options to purchase Semnur’s common stock (which amount was subsequently deducted from the amounts otherwise payable to the holders of such options), consisting of the following: (a) a cash payment of approximately
$12.4 million
, and (b)
47,392,287
shares of HoldCo common stock (the “Stock Consideration”). A portion of the cash consideration otherwise payable to the Semnur Equityholders was set aside for expenses incurred by the Equityholders’ Representative, and
4,749,095
shares of HoldCo common stock otherwise issuable to Semnur Equityholders were placed in escrow with a third party as security for the indemnification obligations of the Semnur Equityholders under the Merger Agreement, including in respect of breaches of representations and warranties of Semnur included in the Merger Agreement. The Semnur Equityholders that receive the Stock Consideration were required to sign an exchange and registration rights agreement with the Company (the “Exchange Agreement”), which is further described below.
Following the issuance of the Stock Consideration, the Company is the owner of approximately
58%
of HoldCo’s issued and outstanding capital stock. Pursuant to the Merger Agreement, and upon the terms and subject to the conditions contained therein, HoldCo also agreed to pay the Semnur Equityholders up to
$280.0 million
in aggregate contingent cash consideration based on the achievement of certain milestones, including obtaining the first approval of a New Drug Application of a Semnur product by the U.S. Food and Drug Administration (“FDA”) and the achievement of certain amounts of net sales of Semnur products.
Pursuant to the Exchange Agreement, and upon the terms and subject to the conditions contained therein, if within 18 months following the closing of the Merger (the “Closing”),
100%
of the outstanding equity of HoldCo has not been acquired by a third party and HoldCo has not entered into a definitive agreement with respect to, or otherwise consummated, a firmly underwritten offering of HoldCo capital stock on a major stock exchange that meets certain requirements and includes the Stock Consideration, then holders of the Stock Consideration may collectively elect to exchange, during the 60-day period
commencing the date that is the 18 month anniversary of the Closing (the “Share Exchange”), the Stock Consideration for shares of the Company’s common stock with a value of
$55.0 million
based on a price per share of the Company’s common stock equal to the greater of (a) the 30-day trailing volume weighted average price of one share of the Company’s common stock as reported on The Nasdaq Stock Market LLC as of the consummation of the Share Exchange and (b)
$5.55
(subject to adjustment for any stock dividend, stock split, stock combination, reclassification or similar transaction).
Pursuant to the terms of the Exchange Agreement, and subject to the limitations contained therein, within 30 days following consummation of the Share Exchange (if it occurs at all), the Company agreed to prepare and file with the SEC a registration statement to enable the public resale on a delayed or continuous basis of the shares of the Company’s common stock issued in the Share Exchange (the “Registration Statement”) and use its commercially reasonable efforts to maintain the effectiveness of such Registration Statement for up to three years thereafter. In the Exchange Agreement, the Company has also agreed to indemnify the applicable Semnur Equityholders and their affiliates for certain liabilities related to such Registration Statement, including certain liabilities arising under the Securities Act of 1933, as amended, and the Securities Exchange Act of 1934, as amended.
Jaisim Shah, a member of the Company’s Board of Directors, was Semnur’s Chief Executive Officer, a member of its Board of Directors and a stockholder of Semnur prior to the acquisition transaction.
The transaction was accounted for as an asset acquisition since substantially all the value of the gross assets was concentrated in a single asset. Under the Merger Agreement, HoldCo acquired the Semnur SP-102 technology for consideration valued at approximately
$70.0 million
, excluding contingent consideration, transaction costs of
$2.5 million
, and liabilities assumed of
$4.2 million
, which was allocated based on the relative fair value of the assets acquired. The
$70.0 million
of consideration consisted of
$15.0 million
in cash and shares of HoldCo valued at
$55.0 million
. No contingent consideration was recorded as of March 31, 2019 since the related regulatory approval milestones are not deemed probable until they actually occur. As a result, approximately
$75.3 million
was expensed as a component of acquired in-process research and development.
5. Fair Value Measurements
Fair value measurement is defined as the price that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. A fair value hierarchy is established, which prioritizes the inputs used in measuring fair value into three broad levels as follows:
Level 1—Quoted prices in active markets for identical assets or liabilities.
Level 2—Inputs, other than quoted prices in active markets, that are observable either directly or indirectly.
Level 3—Unobservable inputs based on the Company’s own assumptions.
The following table presents the Company’s financial assets and liabilities that are measured at fair value on a recurring basis (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value Measurements at March 31, 2019
|
|
|
Balance
|
|
Quoted Prices in Active Markets (Level 1)
|
|
Significant Other Observable Inputs (Level 2)
|
|
Significant Unobservable Inputs (Level 3)
|
|
Assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
$
|
90,971
|
|
|
$
|
90,971
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
Restricted cash
|
54,742
|
|
|
54,742
|
|
|
—
|
|
|
—
|
|
|
Marketable securities
|
391
|
|
|
316
|
|
|
—
|
|
|
75
|
|
|
Total assets
|
$
|
146,104
|
|
|
$
|
146,029
|
|
|
$
|
—
|
|
|
$
|
75
|
|
|
Liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Derivative liability
|
$
|
14,501
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
14,501
|
|
|
Acquisition consideration payable
|
11,312
|
|
|
—
|
|
|
—
|
|
|
11,312
|
|
|
Acquisition consideration payable - Non-current
|
757
|
|
|
—
|
|
|
—
|
|
|
757
|
|
|
Total liabilities
|
$
|
26,570
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
26,570
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value Measurements at December 31, 2018
|
|
|
Balance
|
|
Quoted Prices in Active Markets (Level 1)
|
|
Significant Other Observable Inputs (Level 2)
|
|
Significant Unobservable Inputs (Level 3)
|
|
Assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
$
|
158,738
|
|
|
$
|
158,738
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
Restricted cash
|
54,592
|
|
|
54,592
|
|
|
—
|
|
|
—
|
|
|
Marketable securities
|
297
|
|
|
247
|
|
|
—
|
|
|
50
|
|
|
Total assets
|
$
|
213,627
|
|
|
$
|
213,577
|
|
|
$
|
—
|
|
|
$
|
50
|
|
|
Liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Acquisition consideration payable
|
$
|
11,312
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
11,312
|
|
|
Acquisition consideration payable - Non-current
|
725
|
|
|
—
|
|
|
—
|
|
|
725
|
|
|
Total liabilities
|
$
|
12,037
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
12,037
|
|
The Company’s financial assets and liabilities carried at fair value are comprised of cash, cash equivalents, restricted cash, marketable securities and acquisition consideration payable. Cash and cash equivalents consist of money market accounts and bank deposits which are highly liquid and readily tradable. These investments are valued using inputs observable in active markets for identical securities. Marketable securities are valued using inputs observable in active markets for identical securities. The fair value of the contingent consideration is measured on a recurring basis using significant unobservable inputs (Level 3). Contingent consideration is measured using the income approach and discounting to present value the contingent payments expected to be made based on assessment of the probability that the company would be required to make such future payment.
The following table includes a summary of the Company’s contingent consideration liabilities and acquisition consideration payables associated with acquisitions.
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
Fair Value
|
|
Beginning Balance at December 31, 2018
|
|
$
|
12,037
|
|
|
Re-measurement of Fair Value
|
|
32
|
|
|
Ending Balance at March 31, 2019
|
|
$
|
12,069
|
|
As of
March 31, 2019
,
$9.9 million
of the Virttu contingent liability remains to be paid in cash.
The following table includes a summary of the Company’s contingent and financing liabilities, related inputs used to determine fair value, and the valuation methodologies used for the fair value measurements using significant unobservable inputs (Level 3) at
March 31, 2019
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
Fair Value Measurements at March 31, 2019
|
|
Valuation Methodology
|
|
Significant Unobservable Input
|
|
Weighted Average
(range, if applicable)
|
|
Virttu Contingent Consideration (Non-current)
|
|
$
|
757
|
|
|
Multiple outcome
discounted cash flow
|
|
Discount Rate
Probability of Regulatory Milestone
|
|
19.2%
16%
|
|
Concortis Contingent Consideration
|
|
$
|
511
|
|
|
Multiple outcome
discounted cash flow
|
|
Discount Rate
Percent probabilities assigned to scenarios
|
|
19.2%
20%
|
|
Shanghai Three Contingent Consideration
|
|
$
|
336
|
|
|
Multiple outcome
discounted cash flow
|
|
Discount Rate
Percent probabilities assigned to scenarios
|
|
19.2%
10%
|
|
RWMC Contingent Consideration
|
|
$
|
503
|
|
|
Multiple outcome
discounted cash flow
|
|
Discount Rate,
Percent probabilities assigned to scenarios
|
|
19.2%
10%
|
The principal significant unobservable inputs used in the valuations of the contingent considerations are the discount rates, and probabilities assigned to scenario outcomes. An increase in the discount rate will cause a decrease in the fair value of the contingent consideration. Conversely, a decrease in the discount rate will cause an increase in the fair value of the contingent consideration. An increase in the probabilities assigned to certain scenarios will cause the fair value of contingent consideration to increase. Conversely, a decrease in the probabilities assigned to certain scenarios will cause the fair value of contingent considerations to decrease.
During the three months ended
March 31, 2019
, the Company recorded a
$14.5 million
loss on derivative liability attributed to revised probabilities related to the marketing approval for ZTlido®
(lidocaine topical system 5.4%) and revised sales forecasts. The fair value of the derivative liability is estimated using the discounted cash flow method under the income approach combined with a Monte Carlo simulation model, which involves significant Level 3 inputs and assumptions including a discount rate of
18%
, net sales forecasts and an estimated probability of
90%
of not meeting marketing approval before a predetermined date. Due to changes in market approval probabilities for ZTlido®
(lidocaine topical system 5.4%) and a revised forecast of cumulative net sales of ZTlido®
(lidocaine topical system 1.8%), the fair value of the derivative liability changed, resulting in a loss in the Company's consolidated statement of operations during the three months ended
March 31, 2019
and a corresponding derivative liability in the Company's consolidated balance sheets at March 31, 2019.
The following table includes a summary of the derivative liabilities measured at fair value using significant unobservable inputs (Level 3) during the three months ended March 31, 2019:
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
Fair Value
|
|
Beginning Balance at December 31, 2018
|
|
$
|
—
|
|
|
Re-measurement of Fair Value
|
|
14,501
|
|
|
Ending Balance at March 31, 2019
|
|
$
|
14,501
|
|
6. Marketable Securities
Marketable securities consisted of the following as of
March 31, 2019
and
December 31, 2018
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2019
|
|
|
Cost
|
|
Gross Realized Gains (Losses)
|
|
Fair Value
|
|
Trading securities:
|
|
|
|
|
|
|
|
|
|
MedoveX common shares and warrants
|
$
|
750
|
|
|
$
|
(359
|
)
|
|
$
|
391
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2018
|
|
|
Cost
|
|
Gross Realized Gains (Losses)
|
|
Fair Value
|
|
Trading securities:
|
|
|
|
|
|
|
|
|
|
MedoveX common shares and warrants
|
$
|
750
|
|
|
$
|
(453
|
)
|
|
$
|
297
|
|
Trading Securities
On August 5, 2016, the Company entered into a Unit Purchase Agreement (the “Unit Purchase Agreement”) with MedoveX Corporation (“MedoveX”). Pursuant to the terms of the Unit Purchase Agreement, the Company purchased
three
Units for
$750,000
. Each Unit had a purchase price of
$250,000
and consisted of (i)
208,333
shares of MedoveX common stock (the “MedoveX Common Stock”), and (ii) a warrant to purchase
104,167
shares of MedoveX Common Stock (the “MedoveX Warrant”). The MedoveX Warrant has an initial exercise price of
$1.52
per share, subject to adjustment, and is initially exercisable six months following the date of issuance for a period of
five years
from the date of issuance. In addition, the Company entered into a Registration Rights Agreement with MedoveX pursuant to which MedoveX was required to file a registration statement registering for resale all shares of MedoveX Common Stock and shares of MedoveX Common Stock issuable pursuant to the MedoveX Warrant issued as part of the Units.
For the three months ended
March 31, 2019
and
2018
, the Company recorded a gain of
$0.1 million
and a gain of
$3.0 thousand
, respectively, on trading securities. The Company’s investment in MedoveX will be revalued on each balance sheet date. The fair value of the Company’s holding in MedoveX Common Stock at
March 31, 2019
is a Level 1 measurement. The fair value of the Company’s holdings in the MedoveX Warrant was estimated using the Black-Scholes option-pricing method. The risk-free rate was derived from the U.S. Treasury yield curve, matching the MedoveX Warrant’s term, in effect at the measurement date. The volatility factor was determined based on MedoveX’s historical stock prices. The warrant valuation is a Level 3 measurement.
The following table includes a summary of the warrant measured at fair value using significant unobservable inputs (Level 3) during the
three
months ended
March 31, 2019
(in thousands):
|
|
|
|
|
|
|
|
|
Total
|
|
Beginning balance at December 31, 2018
|
$
|
50
|
|
|
Change in fair value of warrant
|
25
|
|
|
Ending balance at March 31, 2019
|
$
|
75
|
|
7. Property and Equipment
Property and equipment consisted of the following as of
March 31, 2019
and
December 31, 2018
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2019
|
|
December 31, 2018
|
|
Furniture and fixtures
|
$
|
1,239
|
|
|
$
|
1,127
|
|
|
Office equipment
|
665
|
|
|
632
|
|
|
Machinery and lab equipment
|
28,766
|
|
|
27,690
|
|
|
Leasehold improvements
|
9,101
|
|
|
9,001
|
|
|
Construction in progress
|
6,488
|
|
|
1,221
|
|
|
|
46,259
|
|
|
39,671
|
|
|
Less accumulated depreciation
|
(17,359
|
)
|
|
(15,287
|
)
|
|
|
$
|
28,900
|
|
|
$
|
24,384
|
|
Depreciation expense for the three months ended
March 31, 2019
and
2018
was
$2.1 million
and
$1.3 million
, respectively.
8. Cost Method Investments
As of
March 31, 2019
and
December 31, 2018
, the aggregate carrying amount of the Company’s cost-method investments in non-publicly traded companies was
$237.0 million
and included an ownership interest in NantCell, Inc. (“NantCell”), NantBioScience, Inc. (“NantBioScience”), Globavir Biosciences, Inc., Brink Biologics, Inc., Coneksis, Inc., and Celularity.
The Company’s cost-method investments are assessed for impairment quarterly. The Company has determined that it is not practicable to estimate the fair value of its cost-method investments on a regular basis and does not reassess the fair value of cost-method investments if there are no identified events or changes in circumstances that may have a significant adverse effect on the fair value of the investments.
No
impairment losses were recorded during the
three
months ended
March 31, 2019
.
9. Equity Method Investments
NANTibody
In 2013, the Company acquired IgDraSol Inc. (“IgDraSol”), a private company focused on the development of oncologic agents for the treatment of cancer, from a third party unrelated to the NantWorks, LLC (“NantWorks”) affiliated entities for
3.0 million
shares of the Company’s common stock and
$380,000
of cash for a total purchase price of
$29.1 million
. This transaction included the acquisition of IgDraSol’s lead compound, CynviloqTM, a micellar diblock copolymeric paclitaxel formulation drug product.
In May 2015, the Company entered into an agreement with NantPharma, LLC (“NantPharma”), a NantWorks company, pursuant to which the Company sold to NantPharma all of its equity interests in IgDraSol, which continued to hold the rights to CynviloqTM. Pursuant to the agreement, NantPharma paid the Company an upfront fee of
$90.1 million
, of which
$60.0 million
was required to be used by the Company to fund
two
joint ventures, as described below.
In April 2015, the Company and NantCell, a subsidiary of NantWorks, LLC (“NantWorks”), a private company owned by Dr. Patrick Soon-Shiong, established a new entity called Immunotherapy NANTibody, LLC (“NANTibody”) as a stand-alone biotechnology company with
$100.0 million
initial joint funding. NantCell owns
60%
of the equity interest of NANTibody and agreed to contribute
$60.0 million
to NANTibody. The Company owns
40%
of NANTibody and in July 2015, the Company had NantPharma, LLC (“NantPharma”) contribute its portion of the initial joint funding of
$40.0 million
to NANTibody from the proceeds of the sale of IgDraSol. Additionally, the Company and NantCell were allowed to appoint
two
and
three
representatives, respectively, to NANTibody’s
five
-member Board of Directors. NANTibody will focus on accelerating the development of multiple immuno-oncology mAbs for the treatment of cancer, including but not limited to anti-PD-1, anti-PD-L1, anti-CTLA4mAbs, and other immune-check point antibodies as well as ADCs and bispecific antibodies.
NANTibody had been formed to advance pre-clinical and clinical immunology assets contributed by the Company and NantCell. The Company continues to hold
40%
of the outstanding equity of NANTibody and NantCell holds the remaining
60%
. Until July 2, 2017, NANTibody held approximately
$100.0 million
of cash and cash equivalents, and the Company recorded its investment in NANTibody at approximately
$40.0 million
. As an equity method investment, the Company’s ratable portion of
40%
of money expended for the development of intellectual property assets held by NANTibody would be reflected within income (loss) on equity method investments in its statement of operations. As a result of limited spending at NANTibody, the cash on hand at NANTibody remained at approximately
$100.0 million
since the inception of the NANTibody joint venture until July 2, 2017. Further, the Company’s equity method investment in NANTibody remained at approximately
$40.0 million
until July 2, 2017.
The financial statements of NANTibody are not received sufficiently timely for the Company to record its portion of earnings or loss in the current financial statements and therefore the Company reports its portion of earnings or loss on a quarter lag.
In February 2018, NANTibody notified the Company that on July 2, 2017, NANTibody acquired all of the outstanding equity of IgDraSol in exchange for
$90.1 million
in cash. NANTibody purchased IgDraSol from NantPharma, which is controlled by NantWorks, an entity with a controlling interest in NantCell and NantPharma.
Although the Company has had a designee serving on the Board of Directors of NANTibody since the formation of NANTibody in April 2015, and although the Company has held
40%
of the outstanding equity of NANTibody since NANTibody’s formation, neither the Company nor its director designee was given any advance notice of NANTibody’s purchase of IgDraSol or of any board meeting or action to approve such purchase. As such, the Company’s designee on NANTibody’s Board of Directors was not given an opportunity to consider or vote on the transaction as a director and the Company was not given an opportunity to consider or vote on the transaction in its position as a significant (
40%
) equity holder of NANTibody.
As a result of the July 2, 2017 purchase of IgDraSol, NANTibody’s cash and cash equivalents were reduced from
$99.6 million
as of June 30, 2017 to
$9.5 million
as of September 30, 2017, and NANTibody’s contributed capital was reduced from
$100.0 million
as of June 30, 2017 to
$10.0 million
as of September 30, 2017, to effect the transfer of IgDraSol from NantPharma to NANTibody. No additional information was provided to the Company to explain why NANTibody’s total assets as of September 30, 2017 were reduced by approximately
$90.1 million
. The Company requested, but did not receive, additional information from NANTibody for purposes of supporting the value of IgDraSol, including any information regarding clinical advancements in the entity since the sale of IgDraSol by the Company in May 2015.
Prior to the communication of the transfer of IgDraSol from NantPharma to NANTibody, the Company relied on the cash and cash equivalents of NANTibody for purposes of determining the value of its investment in NANTibody, which capital was expended by NANTibody to acquire IgDraSol on July 2, 2017. As a result of the transfer of IgDraSol, the Company reassessed the recoverability of its equity method investment in NANTibody as of July 2, 2017. In doing so, the Company considered the expected outcomes for the intellectual property assets held by NANTibody as of July 2, 2017. As a result of the lack of evidence of any development activity associated with any of the assets held in NANTibody, given the passage of time since the formation of the joint venture, many competitive products from other drug developers worldwide have advanced and/or commercialized for the targeted disease indications of the assets held in NANTibody, and given the Company’s minority interest in NANTibody (the investee), the Company concluded that it does not have the ability to recover the carrying amount of the investment and an other-than-temporary decline in the value of the investment had occurred. Accordingly, an impairment was recorded to the Company’s equity method investment in NANTibody for the three and nine months ended September 30, 2017. The fair value of the Company’s investment in NANTibody was measured at fair value on July 2, 2017 using significant unobservable inputs (Level 3) due to the determination of fair value requiring significant judgment, including the potential outcomes of the intellectual property assets held by NANTibody. For these reasons, fair value was determined by applying the Company’s
40%
equity interest in NANTibody to the remaining cash and cash equivalents, which resulted in an impairment of
$36.0 million
. The impairment resulted in a revised carrying value of the Company’s investment in NANTibody of
$3.7 million
which approximated its ratable
40%
ownership of the cash maintained by NANTibody expected to be used for future research and development. As of
March 31, 2019
and 2018, the carrying value of the Company’s investment in NANTibody was approximately
$3.3 million
and
$3.5 million
, respectively.
NANTibody recorded a net loss of
$362 thousand
and a net loss of
$484 thousand
for the three months ended December 31, 2018 and 2017, respectively. The Company recorded its portion of loss from NANTibody in loss on equity method investments on its consolidated statements of operations for the
three
months ended
March 31, 2019
and
2018
. As of December 31, 2018, NANTibody had
$9.5 million
in current assets and
$1.0 million
in current liabilities and
no
noncurrent assets or noncurrent liabilities. As of December 31, 2017, NANTibody had
$9.8 million
in current assets and
$1.7 million
in current liabilities and
no
noncurrent assets or noncurrent liabilities.
NantStem
In July 2015, the Company and NantBioScience established a new entity called NantCancerStemCell, LLC (“NantStem”) as a stand-alone biotechnology company with
$100.0 million
initial joint funding. As initially organized, NantBioScience was obligated to make a
$60.0 million
cash contribution to NantStem for a
60%
equity interest in NantStem, and the Company was obligated to make a
$40.0 million
cash contribution to NantStem for a
40%
equity interest in NantStem.
Fifty
percent of these contributions were funded in July 2015 and the remaining amounts were to be made by no later than September 30, 2015. The Company had NantPharma contribute its portion of the initial joint funding of
$20.0 million
to NantStem from the proceeds of the sale of IgDraSol. Pursuant to a Side Letter dated October 13, 2015, the NantStem joint venture agreement was amended to relieve the Company of the obligation to contribute the second
$20.0 million
payment, and its ownership interest in NantStem was reduced to
20%
. NantBioScience’s funding obligations were unchanged. The Side Letter was negotiated at the same time the Company issued a call option on shares of NantKwest that it owned to Cambridge Equities, L.P. (“Cambridge”), a related party to NantBioScience.
A loss related to other-than-temporary impairment of
$0.5 million
was recognized for the equity investment in NantStem for the year ended December 31, 2018. There was
no
loss related to other-than-temporary impairment recognized for the equity investment for the three months ended March 31, 2019 and 2018.
The Company is accounting for its interest in NantStem as an equity method investment, due to the significant influence the Company has over the operations of NantStem through its board representation and
20%
voting interest. The Company’s investment in NantStem is reported in equity method investments on its consolidated balance sheets and its share of NantStem’s loss is recorded in loss on equity method investments on its consolidated statement of operations. As of
March 31, 2019
and 2018, the carrying value of the Company’s investment in NantStem was approximately
$17.8 million
and
$18.7 million
, respectively.
The financial statements of NantStem are not received sufficiently timely for the Company to record its portion of earnings or loss in the current financial statements and therefore the Company reports its portion of earnings or loss on a quarter lag.
NantStem recorded a net loss of
$985 thousand
and net income of
$190 thousand
for the three months ended December 31, 2018 and 2017, respectively. The Company recorded its portion of income (loss) from NantStem in income (loss) on equity method investments on its consolidated statements of operations for the
three
months ended
March 31, 2019
and
2018
. As of December 31, 2018, NantStem had
$74.5 million
in current assets and
$133 thousand
in current liabilities and
$5.9 million
in noncurrent assets and
no
noncurrent liabilities. As of December 31, 2017, NantStem had
$82.7 million
in current assets and
$90 thousand
in current liabilities and
no
noncurrent assets or noncurrent liabilities.
Yuhan Agreement
In March 2016, the Company and Yuhan Corporation, a South Korean company (“Yuhan”), entered into an agreement to form a joint venture company called ImmuneOncia Therapeutics, LLC (“ImmuneOncia”) to develop and commercialize a number of immune checkpoint antibodies against undisclosed targets for both hematological malignancies and solid tumors. Under the terms of the joint venture agreement, Yuhan contributed an initial investment of
$10.0 million
to ImmuneOncia, and the Company granted ImmuneOncia an exclusive license to one of its immune checkpoint antibodies for specified countries while retaining the rights for the U.S., European and Japanese markets, as well as global rights for ImmuneOncia to
two
additional antibodies that will be selected by ImmuneOncia from a group of pre-specified antibodies from the Company’s immuno-oncology antibody portfolio. During October 2016, funding and operations of ImmuneOncia commenced. Yuhan owns
51%
of ImmuneOncia, while the Company owns
49%
.
The Company is accounting for its interest in ImmuneOncia as an equity method investment, due to the significant influence the Company has over the operations of ImmuneOncia through its board representation and
49%
voting interest while not sharing joint control with Yuhan. The Company’s investment in ImmuneOncia is reported in equity method investments on its consolidated balance sheets and its share of ImmuneOncia’s loss is recorded in loss on equity method investments on its consolidated statement of operations. As of
March 31, 2019
and 2018, the carrying value of the Company’s investment in ImmuneOncia was approximately
$2.1 million
and
$6.1 million
, respectively. The difference between the Company’s investment in ImmuneOncia and the Company’s
49%
interest in the net assets of ImmuneOncia was approximately
$4.5 million
at
March 31, 2019
.
ImmuneOncia recorded a net loss of
$1.6 million
for each of the three months ended
March 31, 2019
and 2018. The Company recorded its portion (
49%
equity interest) of loss from ImmuneOncia in loss on equity method investments on its consolidated statement of operations for each of the
three
months ended
March 31, 2019
and 2018, respectively. As of
March 31, 2019
, ImmuneOncia had
$36.8 million
in current assets,
$1.2 million
in current liabilities,
$7.7 million
in noncurrent assets and
$29.8 million
in noncurrent liabilities. As of March 31, 2018, ImmuneOncia had
$6.3 million
in current assets,
$270 thousand
in current liabilities,
$8.5 million
in noncurrent assets, and
$33 thousand
noncurrent liabilities.
Shanghai Three
On March 7, 2016, TNK agreed to issue to SiniWest Holdings, Inc. (“SiniWest Holdings”)
$4.0 million
in shares of TNK Class A Stock, subject to certain circumstances, to be issued upon a financing resulting in gross proceeds (individually or in the aggregate) to TNK of at least
$10.0 million
and a
$1.0 million
upfront cash payment in exchange for SiniWest Holdings transferring certain assets to TNK, including SiniWest Holdings’
25%
interest in Shanghai Three-Alliance Biotech Co. LTD, a China based company (“Shanghai Three”). The Company is accounting for its interest in Shanghai Three as an equity method investment, due to the significant influence the Company has over the operations of Shanghai Three through its
25%
voting interest. The Company’s investment in Shanghai Three is reported in equity method investments on the consolidated balance sheets and its share of Shanghai Three’s income or loss is recorded in income (loss) on equity method investments on the consolidated statement of operations. As of each of the three months ended
March 31, 2019
and 2018, the carrying value of the Company’s investment in Shanghai Three was approximately
$3.8 million
.
The financial statements of Shanghai Three are not received sufficiently timely for the Company to record its portion of earnings or loss in the current financial statements and therefore the Company reports its portion of earnings or loss on a quarter lag.
Shanghai Three incurred
no
operating expenses or net loss for the
three
months ended December 31, 2018 and 2017. As of December 31, 2018, Shanghai Three had
$0.3 million
in current assets,
$2.6 million
in current liabilities,
$5.1 million
in noncurrent assets and
$2.0 million
in noncurrent liabilities. As of December 31, 2017, Shanghai Three had approximately
$0.4 million
in current assets,
$5.3 million
in noncurrent assets,
$2.8 million
in current liabilities and
$2.0 million
in noncurrent liabilities. As of
March 31, 2019
, no material activity had occurred subsequent to the Company’s initial investment.
Fair Value of Equity Method Investment
The Company periodically evaluates the carrying value of the Company’s equity method investments, when events and circumstances indicate that the carrying amount of an asset may not be recovered. The Company determines the fair value of its equity method investments to evaluate whether impairment losses shall be recorded using Level 3 inputs. These investments include the Company’s holdings in privately held biotechnology companies that are not exchange traded and therefore not supported with observable market prices. However, these investments are valued by reference to their net asset values and unobservable inputs including future cash flows if available.
10. Goodwill and Intangible Assets
At each of
March 31, 2019
and
December 31, 2018
, the Company had recorded goodwill of
$38.3 million
. The Company performed a qualitative test for goodwill impairment during the quarter ended
December 31, 2018
. Based upon the results of the qualitative testing the Company concluded that it is more-likely-than-not that the fair values of the Company’s goodwill was in excess of its carrying value and therefore performing the first step of the two-step impairment test was unnecessary.
No
goodwill impairment was recognized for the
three
months ended
March 31, 2019
and
2018
. A summary of the Company’s goodwill as of
March 31, 2019
is as follows (in thousands):
|
|
|
|
|
|
|
|
|
Total
|
|
Balance at December 31, 2018
|
$
|
38,298
|
|
|
Goodwill Acquired from Acquisitions
|
—
|
|
|
Balance at March 31, 2019
|
$
|
38,298
|
|
Beginning in the quarter ended March 31, 2019, the Company re-segmented its business into
two
new operating segments: the Sorrento Therapeutics segment and the Scilex segment. These segments are the Company’s reporting units, and are the level at which the Company conducts its goodwill impairment evaluations. Goodwill was allocated to the Sorrento Therapeutics and the Scilex operating segments on a relative fair value basis. Goodwill for the Sorrento Therapeutics segment and Scilex segment was
$31.6 million
and
$6.7 million
, respectively, as of March 31, 2019.
The Company’s intangible assets, excluding goodwill, include acquired license and patent rights, core technologies, customer relationships and acquired in-process research and development. Amortization for the intangible assets that have finite useful lives is generally recorded on a straight-line basis over their useful lives. Intangible assets with indefinite useful lives totaling
$13.9 million
are included in acquired in-process research and development in the table below. A summary of the Company’s identifiable intangible assets as of
March 31, 2019
and
December 31, 2018
is as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2019
|
|
|
Gross Carrying Amount
|
|
Accumulated Amortization
|
|
Intangibles, net
|
|
Customer relationships
|
$
|
1,585
|
|
|
$
|
1,380
|
|
|
$
|
205
|
|
|
Acquired technology
|
3,410
|
|
|
929
|
|
|
2,481
|
|
|
Acquired in-process research and development
|
35,834
|
|
|
731
|
|
|
35,103
|
|
|
Patent rights
|
32,720
|
|
|
5,287
|
|
|
27,433
|
|
|
Assembled workforce
|
$
|
605
|
|
|
$
|
10
|
|
|
$
|
595
|
|
|
Total intangible assets
|
$
|
74,154
|
|
|
$
|
8,337
|
|
|
$
|
65,817
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2018
|
|
|
Gross Carrying Amount
|
|
Accumulated Amortization
|
|
Intangibles, net
|
|
Customer relationships
|
$
|
1,585
|
|
|
$
|
1,373
|
|
|
$
|
212
|
|
|
Acquired technology
|
3,410
|
|
|
885
|
|
|
2,525
|
|
|
Acquired in-process research and development
|
35,834
|
|
|
366
|
|
|
35,468
|
|
|
Patent rights
|
32,720
|
|
|
4,742
|
|
|
27,978
|
|
|
Assembled workforce
|
105
|
|
|
5
|
|
|
100
|
|
|
Total intangible assets
|
$
|
73,654
|
|
|
$
|
7,371
|
|
|
$
|
66,283
|
|
As of
March 31, 2019
, the weighted average remaining life for identifiable intangible assets is
14.9 years
. Aggregate amortization expense was
$1.0 million
and
$0.7 million
for the three months ended
March 31, 2019
and
2018
, respectively.
Estimated future amortization expense related to intangible assets at
March 31, 2019
is as follows (in thousands):
|
|
|
|
|
|
|
|
|
Years Ending December 31,
|
|
Amount
|
|
2019 (Remaining nine months)
|
|
$
|
2,152
|
|
|
2020
|
|
2,869
|
|
|
2021
|
|
3,923
|
|
|
2022
|
|
3,923
|
|
|
2023
|
|
3,918
|
|
|
2024
|
|
3,827
|
|
|
Thereafter
|
|
45,205
|
|
|
Total expected future amortization
|
|
$
|
65,817
|
|
11. Significant Agreements and Contracts
License Agreement with NantCell
In April 2015, the Company and NantCell entered into a license agreement. Under the terms of the agreement, the Company granted an exclusive license to NantCell covering patent rights, know-how, and materials related to certain antibodies, ADCs and
two
CAR-TNK products. NantCell agreed to pay a royalty not to exceed five percent (
5%
) to the Company on any net sales of products (as defined) from the assets licensed by the Company to NantCell. In addition to the future royalties payable under this agreement, NantCell paid an upfront payment of
$10.0 million
to the Company and issued
10 million
shares of NantCell common stock to the Company valued at
$100.0 million
based on a recent equity sale of NantCell common stock to a third party. As of
March 31, 2019
, the Company had not yet provided all of the items noted in the agreement, including research services for and on behalf of NantCell, and therefore has recorded the entire upfront payment and value of the equity interest received as deferred revenue. Specifically, only a portion of the materials associated with the licensed assets have been delivered while the majority of the licensed assets remain undelivered and the related research activities are still to be performed. The Company will recognize the upfront payment and the value of the equity interest received over the period beginning with the commencement of the last item delivered. The Company’s ownership interest in NantCell does not provide the Company with control or the ability to exercise significant influence; therefore the
$100.0 million
investment is carried at cost in the consolidated balance sheets and evaluated for other-than-temporary impairment on a quarterly basis.
12. Loan and Security Agreement and Convertible Notes
2018 Chinese Yuan (“RMB”) Loan
In March 2018, the Company entered into a revolving credit line in the aggregate principal amount of
$1.6 million
(“RMB
10.0 million
”) with the Bank of China and the Agricultural Bank of China, which was guaranteed by Levena Suzhou Biopharma, Co. Ltd. This bank facility was used for working capital purposes. In January 2019, the Company repaid part of the remaining principal amount of
$0.7 million
(“RMB
5.0 million
”).
2018 Securities Purchase Agreement in Private Placement and Amendment to Warrants
On March 26, 2018, the Company entered into a Securities Purchase Agreement (the “March 2018 Securities Purchase Agreement”) with certain accredited investors (the “March 2018 Purchasers”). Pursuant to the March 2018 Securities Purchase Agreement, the Company agreed to issue and sell to the March 2018 Purchasers, in a Private Placement (the “March 2018 Private Placement”), (1) convertible promissory notes in an aggregate principal amount of
$120,500,000
(the “Notes”), and (2) warrants to purchase
8,591,794
shares of the common stock of the Company (the “Warrants”). On June 13, 2018, the Company entered into an amendment (the “June 2018 Amendment”) to the March 2018 Securities Purchase Agreement. Under the terms of the June 2018 Amendment, the Company and the March 2018 Purchasers agreed that the aggregate principal amount of the Notes was reduced to
$37,848,750
and that the aggregate number of shares of Common Stock issuable upon exercise of the Warrants was reduced to
2,698,662
, and also agreed to certain other adjustments to the threshold principal amount of the Notes required to remain outstanding in order for certain rights and obligations to apply to the Notes.
On June 13, 2018, pursuant to the March 2018 Securities Purchase Agreement, as amended by the June 2018 Amendment, the Company issued and sold to the March 2018 Purchasers, in the March 2018 Private Placement (1) Notes in an aggregate principal amount of
$37,848,750
, and (2) Warrants to purchase an aggregate of
2,698,662
shares of Common Stock. The Notes accrue interest at a rate equal to
5.0%
per annum and mature upon the earlier to occur of June 13, 2023 and the date of the closing of a change of control (the “Maturity Date”). At any time and from time to time before the Maturity Date, each March 2018 Purchaser shall have the option to convert any portion of the outstanding principal amount of such March 2018 Purchaser’s Note that is equal to or greater than the lesser of: (1)
$4,000,000
, and (2) the then-outstanding principal amount of such March 2018 Purchaser’s Note into shares of common stock at a price per share of
$7.0125
, subject to adjustment for stock splits, reverse stock splits, stock dividends and similar transactions. Accrued but unpaid interest on the Notes shall be paid in cash semi-annually in arrears on or prior to the 30th day of June and 31st day of December of each calendar year commencing with December 31, 2018. Each Warrant has an exercise price of
$3.28
per share, subject to adjustment for stock splits, reverse stock splits, stock dividends and similar transactions, became exercisable on December 11, 2018, has a term of five and a half years from the date of issuance and will be exercisable on a cash basis, unless there is not an effective registration statement covering the resale of the shares issuable upon exercise of the Warrants, in which case the Warrants shall also be exercisable on a cashless exercise basis. See Note 3 for discussion of the Company’s policies for accounting for debt with detachable warrants. In connection with the issuance of the Notes and the Warrants, the Company recorded a debt discount of approximately
$21.6 million
based on an allocation of proceeds to the Warrants of approximately
$9.6 million
and a beneficial conversion feature of approximately
$12.0 million
, before issuance costs. The Company accounts for the debt at amortized cost and amortizes the debt discount to interest expense using the effective interest method over the expected term of the Notes. The fair value of the Notes was estimated using a lattice model with Level 3 inputs including the historical stock price volatility, risk-free interest rate, and debt yield.
On November 7, 2018, the Company entered into an Agreement and Consent (the “Agreement and Consent”) with the March 2018 Purchasers. Pursuant to the Agreement and Consent, in consideration for certain of the March 2018 Purchasers, in their capacity as holders of the Notes, providing a waiver and consent on behalf of all holders of the Notes, pursuant to which the March 2018 Purchasers provided the Company with certain waivers of their rights and certain of the Company’s covenants under the Securities Purchase Agreement, as amended by Amendment No. 1 thereto, with respect to the Loan Agreement (as defined below) and the transactions contemplated thereby, the Company and the March 2018 Purchasers agreed to amend the Warrants to reduce the exercise price per share of its common stock thereunder from
$8.77
to
$3.28
. The amendment of the Warrants resulted in a loss on debt extinguishment of
$1.9 million
representing the incremental fair value of the modified Warrants along with the difference between the fair value and carrying value of the Notes at the modification date of November 7, 2018.
The Company determined that the amendment of the Warrants resulted in an extinguishment at the modification date. As a result, the Company recorded a loss on debt extinguishment for the difference between the fair value of
$23.1 million
and the carrying value of
$17.0 million
, or
$6.1 million
. The Company recorded the loss as of the date of modification, or November 7,
2018. As of
March 31, 2019
, the estimated Level 3 fair value of the Notes was approximately
$26.5 million
, compared to the carrying value of
$24.1 million
.
Borrowings under the Notes consisted of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2019
|
|
December 31, 2018
|
|
Face value of loan
|
$
|
37,849
|
|
|
$
|
37,849
|
|
|
Unamortized debt discount
|
(14,289
|
)
|
|
(14,804
|
)
|
|
Accretion of debt discount
|
538
|
|
|
515
|
|
|
Ending balance
|
$
|
24,098
|
|
|
$
|
23,560
|
|
Interest expense recognized on the Notes for the three months ended
March 31, 2019
totaled
$0.5 million
for the stated interest. Debt discount and debt issuance costs, which are presented as a direct reduction of the Notes in the consolidated balance sheets, are amortized as interest expense using the effective interest method. The amount of debt discount and debt issuance costs included in interest expense for the three months ended
March 31, 2019
was approximately
$0.5 million
.
The Company performed a Level 3 based assessment and identified a number of embedded derivatives that require bifurcation from the Notes and separate accounting as a single compound derivative. As the current fair value attributed to the bifurcated compound derivative is immaterial, the Company has not recorded this derivative within its consolidated financial statements. The Company will re-evaluate this assessment each reporting period.
2018 Purchase Agreements and Indenture for Scilex
On September 7, 2018, Scilex entered into Purchase Agreements (the “2018 Purchase Agreements”) with certain investors (collectively, the “Scilex Note Purchasers”) and the Company. Pursuant to the 2018 Purchase Agreements, on September 7, 2018, Scilex, among other things, issued and sold to the Scilex Note Purchasers senior secured notes due 2026 in an aggregate principal amount of
$224,000,000
(the “Scilex Notes”) for an aggregate purchase price of
$140,000,000
(the “Offering”). In connection with the Offering, Scilex also entered into the Indenture governing the Scilex Notes with U.S. Bank National Association, a national banking association, as trustee (the “Trustee”) and collateral agent (the “Collateral Agent”), and the Company. Pursuant to the Indenture, the Company agreed to irrevocably and unconditionally guarantee, on a senior unsecured basis, the punctual performance and payment when due of all obligations of Scilex under the Indenture (the “Guarantee”).
The net proceeds of the Offering were approximately
$89.3 million
, after deducting the Offering expenses payable by Scilex and funding a segregated reserve account with
$20.0 million
(the “Reserve Account”) and a segregated collateral account with
$25.0 million
(the “Collateral Account”) pursuant to the terms of the Indenture. The net proceeds of the Offering will be used by Scilex to support the commercialization of ZTlido® (lidocaine topical system 1.8%), for working capital and general corporate purposes in respect of the commercialization of ZTlido® (lidocaine topical system 1.8%). Funds in the Reserve Account will be released to Scilex upon receipt by the Trustee of an officer’s certificate under the Indenture from Scilex confirming receipt of a marketing approval letter from the FDA with respect to ZTlido® (lidocaine topical system 5.4%) or a similar product with a concentration of not less than 5% (the “Marketing Approval Letter”) on or prior to July 1, 2023. Funds in the Collateral Account will be released upon receipt of a written consent authorizing such release from the holders of a majority in principal amount of the Scilex Notes issued, upon the occurrence and during the continuance of an event of default at the direction of the holders of a majority in principal amount of the Scilex Notes issued or upon the repayment in full of all amounts owed under the Scilex Notes.
The holders of the Scilex Notes will be entitled to receive quarterly payments of principal of the Scilex Notes equal to a percentage, in the range of
10%
to
20%
of the net sales of ZTlido® (lidocaine topical system 1.8%) for the prior fiscal quarter, beginning on February 15, 2019. If Scilex has not received the Marketing Approval Letter by March 31, 2021, the percentage of net sales payable shall be increased to be in the range of
15%
to
25%
. If actual cumulative net sales of ZTlido® (lidocaine topical system 1.8%) from October 1, 2022 through September 30, 2023 are less than
60%
of a predetermined target sales threshold for such period, then Scilex will be obligated to pay an additional installment of principal of the Scilex Notes each quarter in an amount equal to an amount to be determined by reference to the amount of such deficiency.
The aggregate principal amount due under the Scilex Notes shall be increased by
$28,000,000
on February 15, 2022 if actual cumulative net sales of ZTlido® (lidocaine topical system 1.8%) from the issue date of the Scilex Notes through December 31, 2021 do not equal or exceed
95%
of a predetermined target sales threshold for such period. If actual cumulative net sales of ZTlido® (lidocaine topical system 1.8%) for the period from October 1, 2022 through September 30, 2023 do not
equal or exceed
80%
of a predetermined target sales threshold for such period, the aggregate principal amount shall also be increased on November 15, 2023 by an amount equal to an amount to be determined by reference to the amount of such deficiency.
The final maturity date of the Scilex Notes will be August 15, 2026. The Scilex Notes may be redeemed in whole at any time upon
30
days’ written notice at Scilex’s option prior to August 15, 2026 at a redemption price equal to
100%
of the then-outstanding principal amount of the Scilex Notes. In addition, upon a change of control of Scilex (as defined in the Indenture), each holder of a Scilex Note shall have the right to require Scilex to repurchase all or any part of such holder’s Scilex Note at a repurchase price in cash equal to
101%
of the then-outstanding principal amount thereof.
The 2018 Purchase Agreements include the terms and conditions of the offer and sale of the Scilex Notes, representations and warranties of the parties, indemnification and contribution obligations and other terms and conditions customary in agreements of this type.
The Indenture governing the Scilex Notes contains customary events of default with respect to the Scilex Notes (including a failure to make any payment of principal on the Scilex Notes when due and payable), and, upon certain events of default occurring and continuing, the Trustee by notice to Scilex, or the holders of at least
25%
in principal amount of the outstanding Scilex Notes by notice to Scilex and the Trustee, may (subject to the provisions of the Indenture) declare
100%
of the then-outstanding principal amount of the Scilex Notes to be due and payable. Upon such a declaration of acceleration, such principal will be due and payable immediately. In the case of certain events, including bankruptcy, insolvency or reorganization involving the Company or Scilex, the Scilex Notes will automatically become due and payable.
Pursuant to the Indenture, the Company and Scilex must also comply with certain covenants with respect to the commercialization of ZTlido® (lidocaine topical system 1.8%), as well as customary additional affirmative covenants, such as furnishing financial statements to the holders of the Scilex Notes, minimum cash requirements and net sales reports; and negative covenants, including limitations on the following: the incurrence of debt; the payment of dividends, the repurchase of shares and under certain conditions making certain other restricted payments; the prepayment, redemption or repurchase of subordinated debt; a merger, amalgamation or consolidation involving Scilex; engaging in certain transactions with affiliates; and the making of investments other than those permitted by the Indenture.
The Scilex Notes and related Guarantee have not been, and will not be, registered under the Securities Act of 1933, as amended, or the securities laws of any other jurisdiction and may not be offered or sold in the United States without registration or an applicable exemption from registration requirements. The holders of the Scilex Notes do not have any registration rights.
Pursuant to a Collateral Agreement by and among Scilex, the Trustee and the Collateral Agent (the “Collateral Agreement”), the Scilex Notes will be secured by ZTlido® (lidocaine topical system 1.8%) and all of the existing and future property and assets of Scilex necessary for, or otherwise relevant to, now or in the future, the manufacture and sale of ZTlido® (lidocaine topical system 1.8%), on a worldwide basis (exclusive of Japan), including, but not limited to, the intellectual property related to ZTlido® (lidocaine topical system 1.8%), the marketing or similar regulatory approvals related to ZTlido® (lidocaine topical system 1.8%), any licenses, agreements and other contracts related to ZTlido® (lidocaine topical system 1.8%), and the current assets related to ZTlido® (lidocaine topical system 1.8%) such as inventory, accounts receivable and cash and any and all future iterations, improvements or modifications of such product made, developed or licensed (or sub-licensed) by Scilex or any of its affiliates or licensees (or sub-licensees) (including ZTlido® (lidocaine topical system 5.4%)).
Pursuant to the terms of the Indenture, the Company issued an irrevocable standby letter of credit to Scilex (the “Letter of Credit”), which provides that, in the event that (1) Scilex does not hold at least
$35,000,000
in unrestricted cash as of the end of any calendar month during the term of the Scilex Notes, (2) actual cumulative net sales of ZTlido® (lidocaine topical system 1.8%) from the issue date of the Scilex Notes through December 31, 2021 are less than a specified sales threshold for such period, or (3) actual cumulative net sales of ZTlido® (lidocaine topical system 1.8%) for any calendar year during the term of the Scilex Notes, beginning with the 2022 calendar year, are less than a specified sales threshold for such calendar year, Scilex, as beneficiary of the Letter of Credit, will draw, and the Company will pay to Scilex,
$35,000,000
in a single lump-sum amount as a subordinated loan. The Letter of Credit will terminate upon the earliest to occur of: (a) the repayment of the Scilex Notes in full, (b) the actual net sales of ZTlido® (lidocaine topical system 1.8%) for any calendar year during the term of the Scilex Notes exceeding a certain threshold, (c) the consummation of an initial public offering on a major international stock exchange by Scilex that satisfies certain valuation thresholds, and (d) the replacement of the Letter of Credit with another letter of credit in form and substance, including as to the identity and creditworthiness of issuer, reasonably acceptable to the holders of at least
80%
in principal amount of outstanding Scilex Notes. As of March 31, 2019, the estimated fair value of the Notes was approximately
$142.2 million
compared to the carrying value of
$145.3 million
. The Company uses the discounted cash flow method under the income approach, which involves significant Level 3 inputs and assumptions, combined with a Monte Carlo
simulation, as appropriate. The value of the debt instrument is based on the present value of future interest and principal payments, discounted a rate of return reflective the Company’s credit risk.
Borrowings of the 2018 Purchase Agreements and Indenture for Scilex consisted of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2019
|
|
December 31, 2018
|
|
Face value of loan
|
$
|
224,000
|
|
|
$
|
224,000
|
|
|
Unamortized debt discount
|
(77,624
|
)
|
|
(84,000
|
)
|
|
Capitalized debt issuance costs
|
(5,313
|
)
|
|
(5,748
|
)
|
|
Accretion of debt discount
|
4,326
|
|
|
6,376
|
|
|
Amortization of debt issuance cost
|
299
|
|
|
435
|
|
|
Payments
|
(438
|
)
|
|
—
|
|
|
Ending balance
|
$
|
145,250
|
|
|
$
|
141,063
|
|
Future minimum payments under the Notes, based on a percentage of projected net sales of ZTlido® (lidocaine topical system 1.8%) are as follows (in thousands):
|
|
|
|
|
|
|
|
Year Ending December 31,
|
|
|
2019 (Remaining nine months)
|
$
|
3,912
|
|
|
2020
|
17,770
|
|
|
2021
|
31,283
|
|
|
2022
|
73,007
|
|
|
2023
|
97,590
|
|
|
Total future minimum payments
|
223,562
|
|
|
Unamortized debt discount
|
(73,298
|
)
|
|
Unamortized capitalized debt issuance costs
|
(5,014
|
)
|
|
Total minimum payment
|
145,250
|
|
|
Current portion
|
(7,933
|
)
|
|
Long-term portion of Scilex Notes
|
$
|
137,317
|
|
Debt discount and debt issuance costs, which are presented as a direct reduction of the Scilex Notes in the consolidated balance sheets, are amortized as interest expense using the effective interest method. As principal repayments on the Scilex Notes are based on a percentage of net sales of ZTlido® (lidocaine topical system 1.8% and lidocaine topical system 5.4%, if a Marketing Approval Letter is received), the Company has elected to account for changes in estimated cash flows from future net sales prospectively. Specifically, a new effective interest rate will be determined based on revised estimates of remaining cash flows and changes in expected cash flows will be recognized prospectively. The amount of debt discount and debt issuance costs included in interest expense for the three months ended
March 31, 2019
was approximately
$4.6 million
.
The Company identified a number of embedded derivatives that require bifurcation from the Scilex Notes and separate accounting as a single compound derivative. The Company recorded this derivative within its consolidated financial statements (See Note 5). The Company re-evaluates this assessment each reporting period.
2018 Oaktree Term Loan Agreement
On November 7, 2018, the Company and certain of its domestic subsidiaries (the “Guarantors”) entered into a Term Loan Agreement (the “Loan Agreement”) with certain funds and accounts managed by Oaktree Capital Management, L.P. (collectively, the “Lenders”) and Oaktree Fund Administration, LLC, as administrative and collateral agent (the “Agent”), for an initial term loan of
$100.0 million
(the “Initial Loan”) and a second tranche of
$50.0 million
, subject to the achievement of certain commercial and financial milestones between August 7, 2019 and November 7, 2019, and the satisfaction of certain customary conditions (the “Conditional Loan” and, together with the Initial Loan, the “Term Loan”). The Initial Loan matures on November 7, 2023 (the “Maturity Date”) and bears interest at a rate equal to the London Interbank Offered Rate (“LIBOR”) plus the applicable margin, or
7%
. The Initial Loan was funded on November 7, 2018. The net proceeds of the Initial Loan were approximately
$91.3 million
, after deducting estimated loan costs, commissions, fees and expenses and funding a debt service reserve account with approximately
$9.6 million
(the “Debt Service Reserve Account”), and will be used for general corporate purposes. In connection with the Loan Agreement, the Company and the Guarantors entered into a Collateral Agreement with the Agent (the “Collateral Agreement”). The Collateral Agreement provides that the Term Loan is secured by
substantially all of the Company’s and the Guarantors’ assets, and a pledge of
100%
of the equity interests in other entities each of the Company and the Guarantors holds (subject to certain exceptions and other than equity interests held by the Company or a Guarantor in certain foreign subsidiaries, which is limited to
65%
of such voting equity interests). In connection with the Loan Agreement, on November 7, 2018, the Company issued to the Lenders warrants to purchase
6,288,985
shares of the Company’s common stock (the “Initial Warrants”). The Initial Warrants have an exercise price per share of
$3.28
, subject to adjustment for stock splits, reverse stock splits, stock dividends and similar transactions, will be exercisable from May 7, 2019 through May 7, 2029 and will be exercisable on a cash basis, unless there is not an effective registration statement covering the resale of the shares issuable upon exercise of the Initial Warrants (the “Initial Warrant Shares”), in which case the Initial Warrants shall also be exercisable on a cashless exercise basis. In connection with the Loan Agreement, on November 7, 2018, the Company and the Lenders entered into a Registration Rights Agreement (the “Registration Rights Agreement”) pursuant to which, among other things, the Company agreed to file one or more registration statements with the SEC for the purpose of registering for resale the Initial Warrant Shares and the shares of common stock issuable upon exercise of warrants that may be issued in connection with the Conditional Loan (the “Conditional Warrants”). Under the Registration Rights Agreement, the Company agreed to file a registration statement with the SEC registering all of the Initial Warrant Shares and the shares of common stock issuable upon exercise of the Conditional Warrants for resale by no later than the 45th day following the issuance of the Initial Warrants and the Conditional Warrants, respectively.
As of March 31, 2019, the estimated fair value of the Initial Loan was approximately
$67.9 million
compared to the carrying value of
$68.2 million
.
Borrowings under the Initial Loan consisted of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2019
|
|
December 31, 2018
|
|
Face value of loan
|
$
|
100,000
|
|
|
$
|
100,000
|
|
|
Debt discount - warrant
|
(26,248
|
)
|
|
(26,659
|
)
|
|
Capitalized debt issuance costs
|
(6,543
|
)
|
|
(6,658
|
)
|
|
Accretion of debt discount and amortization of issuance costs
|
1,039
|
|
|
526
|
|
|
Ending balance
|
$
|
68,248
|
|
|
$
|
67,209
|
|
Interest expense recognized on the Initial Loan for the three months ended
March 31, 2019
totaled
$2.4 million
for the stated interest. Debt discount and debt issuance costs, which are presented as a direct reduction of the Loan Agreement in the consolidated balance sheets, are amortized as interest expense using the effective interest method. The amount of debt discount and debt issuance costs included in interest expense for the three months ended
March 31, 2019
was approximately
$1.0 million
.
The Company performed a Level 3 based assessment and identified a number of embedded derivatives that require bifurcation from the Initial Loan and separate accounting as a single compound derivative. Certain of these embedded features include default interest due to non-credit-related events of default, mandatory prepayment upon a change of control, mandatory prepayment upon an asset disposition, mandatory prepayment upon non-permitted debt issuance, indemnified taxes, increased costs upon a change in law and automatic acceleration upon a non-bankruptcy event of default. As the current fair value attributed to the bifurcated compound derivative is immaterial, the Company has not recorded this derivative within its consolidated financial statements. The Company will re-evaluate this assessment each reporting period.
13. Stock Incentive Plans
2009 Stock Incentive Plan
The following table summarizes stock option activity as of
March 31, 2019
and the changes for the period then ended (dollar values in thousands, other than weighted-average exercise price):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options
Outstanding
|
|
Weighted-
Average
Exercise Price
|
|
Aggregate
Intrinsic
Value
|
|
Outstanding at December 31, 2018
|
10,523,075
|
|
|
$
|
4.91
|
|
|
$
|
1,723
|
|
|
Options Granted
|
—
|
|
|
$
|
—
|
|
|
|
|
|
Options Canceled
|
(302,675
|
)
|
|
$
|
2.03
|
|
|
|
|
|
Options Exercised
|
(34,950
|
)
|
|
$
|
6.46
|
|
|
|
|
|
Outstanding at March 31, 2019
|
10,185,450
|
|
|
|
|
|
$
|
10,253
|
|
The aggregate intrinsic value of options exercised during the three months ended
March 31, 2019
and
2018
was
$125 thousand
and
$0
, respectively. The Company uses the Black-Scholes valuation model to calculate the fair value of stock options. The fair value of employee stock options was estimated at the grant date using the following assumptions:
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended March 31,
|
|
|
2019
|
|
2018
|
|
Weighted-average grant date fair value
|
$
|
—
|
|
|
$
|
7.25
|
|
|
Dividend yield
|
—
|
%
|
|
—
|
%
|
|
Volatility
|
100
|
%
|
|
81
|
%
|
|
Risk-free interest rate
|
2.42
|
%
|
|
2.49
|
%
|
|
Expected life of options
|
6.1 years
|
|
|
6.1 years
|
|
The assumed dividend yield was based on the Company’s expectation of not paying dividends in the foreseeable future. Due to the Company’s limited historical data, the estimated volatility incorporates the historical and implied volatility of comparable companies whose share prices are publicly available. The risk-free interest rate assumption was based on the U.S. Treasury’s rates for U.S. Treasury zero-coupon bonds with maturities similar to those of the expected term of the award being valued. The weighted average expected life of options was estimated using the average of the contractual term and the weighted average vesting term of the options.
The total employee and director stock-based compensation recorded as operating expenses was
$1.7 million
and
$1.3 million
for the three months ended
March 31, 2019
and
2018
, respectively.
The total unrecognized compensation cost related to unvested employee and director stock option grants as of
March 31, 2019
was
$15.1 million
and the weighted average period over which these grants are expected to vest is
2.3 years
.
Stock-based compensation expense related to non-employee consultants recorded as operating expenses was
$283 thousand
and
$74 thousand
for the three months ended
March 31, 2019
and
2018
, respectively.
Common Stock Reserved for Future Issuance
Common stock reserved for future issuance consists of the following at
March 31, 2019
:
|
|
|
|
|
|
|
Common stock warrants outstanding under the loan and security agreements
|
6,354,877
|
|
|
Common stock warrants outstanding under the Hercules securities agreement
|
306,748
|
|
|
Common stock warrants outstanding under the convertible notes
|
14,819,872
|
|
|
Common stock warrants outstanding under private placements
|
4,153,620
|
|
|
Common stock options outstanding under the Non-Employee Director Plan
|
3,200
|
|
|
Authorized for future grant or issuance under the 2009 Stock Incentive Plan
|
18,289,456
|
|
|
Shares issuable upon the conversion of the 2018 Notes
|
5,397,325
|
|
|
Issuable under assignment agreement based upon achievement of certain milestones
|
80,000
|
|
|
|
49,405,098
|
|
2017 Equity Incentive Plan
In June 2017, the Company’s subsidiary, Scilex, adopted the Scilex 2017 Equity Incentive Plan, reserved
4.0 million
shares of Scilex common stock and awarded
1.0 million
options to certain Company personnel, directors and consultants under such plan. Stock options granted under this plan typically vest 1/4th of the shares on the first anniversary of the vesting commencement date and 1/48th of the remaining options vest each month thereafter.
Upon closing of the Company’s acquisition of Semnur, the Scilex Amended and Restated 2017 Equity Incentive Plan was terminated, and each option to purchase Scilex common stock outstanding and unexercised immediately prior to the Closing were cancelled and substituted for that number of options to acquire common stock of HoldCo, as further described in Note 4.
14. Commitments and Contingencies
Litigation
In the normal course of business, the Company may be named as a defendant in one or more lawsuits. The Company is not a party to any outstanding material litigation and management is currently not aware of any legal proceedings that, individually or in the aggregate, are deemed to be material to the Company’s financial condition or results of operations.
On April 3, 2019, the Company filed two legal actions against, among others, Patrick Soon-Shiong and entities controlled by him, asserting claims for, among other things, fraud and breach of contract, arising out of Soon-Shiong’s purchase of the drug Cynviloq™ from the Company in May 2015. The actions allege that Soon-Shiong and the other defendants, among other things, acquired the drug Cynviloq™ for the purpose of halting its progression to the market. Specifically, the Company has filed:
|
|
|
|
•
|
An arbitration demand with the American Arbitration Association in Los Angeles, California against NantPharma, LLC and Chief Executive Officer Patrick Soon-Shiong, seeking damages in excess of
$1 billion
, as well as additional punitive damages, related to alleged fraud and breaches of the Stock Sale and Purchase Agreement, dated May 14, 2015, entered into between NantPharma LLC and the Company, included as Exhibit 10.2 to the Company’s Quarterly Report on Form 10-Q filed with the SEC on August 7, 2015. The Company makes no representations as to the likely success or outcome of such arbitration; and
|
|
|
|
|
•
|
An action in the Los Angeles Superior Court derivatively on behalf of Immunotherapy NANTibody LLC (“NANTibody”) against NantCell, Inc., NANTibody Board Member and NantCell, Inc. Chief Executive Officer Patrick Soon-Shiong, and NANTibody officer Charles Kim, related to several breaches of the June 11, 2015 Limited Liability Company Agreement for NANTibody entered into between the Company and NantCell, Inc. The suit also alleges breaches of fiduciary duties and seeks, inter alia, a declaration that the Assignment Agreement entered into on July 2, 2017, between NantPharma, LLC and NANTibody is void and an equitable unwinding of the Assignment Agreement. The suit calls for the restoration of
$90.05 million
to the NANTibody capital account, thereby restoring the Company’s equity method investment in NANTibody to its invested amount as of June 30, 2017 amount of
$40 million
. The Company makes no representations as to the likely success or outcome of such lawsuit.
|
Operating Leases
During the first quarter of 2019, the Company adopted guidance codified in ASU 2016-02, ASU 2018-11 and ASU 2019-01 (collectively “ASC 842”). ASC 842 aims to increase transparency and comparability among organizations by recognizing lease assets and liabilities on the balance sheet and disclosing key information about leasing arrangements. In adopting the new guidance, the Company elected to apply the cumulative-effect adjustment to the opening balance sheet and optional transition method to not present comparable prior periods. Prior comparative periods will not be adjusted. The cumulative effect of applying ASC 842 to all existing leases did not result in an adjustment to retained earnings.
The Company elected the package of practical expedients which, among other things, allows the Company to carry forward its historical lease classifications. The Company has also elected to adopt the short-term leases practical expedient to exclude short-term leases from the calculation of the right-of-use assets and lease liabilities in the consolidated balance sheet. Additionally, the Company does not allocate lease payments to non-lease components; therefore, fixed payments for common-area-maintenance and administrative services are included in the Company's operating lease right-of-use assets and liabilities.
Many of the Company’s leases are subject to variable lease payments. Variable lease payments are recognized in the period in which the obligation for those payments are incurred and are not included in the measurement of the right-of-use assets or lease liabilities. Additionally, certain leases may be subject to annual changes in the consumer price index (“CPI”). Changes in the CPI are treated as variable lease payments and do not result in a remeasurement of the right-of-use assets or lease liabilities.
The Company leases administrative, research and development, sales and marketing and manufacturing facilities under various non-cancelable lease agreements. Facility leases generally provide for periodic rent increases, and many contain escalation clauses and renewal options. As of
March 31, 2019
, the Company’s leases have remaining lease terms of approximately
1.2
to
10.6
years, some of which include options to extend the lease terms for up to
five years
, and some of which allow for early termination. In calculating the lease liability, lease terms may include options to extend or terminate the lease when it is reasonably certain that the Company will exercise such options.
The following table summarizes our facility leases by segment as of
March 31, 2019
:
|
|
|
|
|
|
|
|
|
|
|
|
Location
(1)
|
|
Lease term
|
|
Square footage
|
|
Primary use
|
|
Sorrento Therapeutics
|
|
|
|
|
|
San Diego, CA
|
|
2029 - option to extend for one additional 5-year period
|
|
77,000
|
|
|
Principal executive offices, research and development
|
|
San Diego, CA
|
|
2029 - option to extend for one additional 5-year period
|
|
61,000
|
|
|
Administrative, research and development
|
|
San Diego, CA
|
|
2029 - option to extend for one additional 5-year period
|
|
43,000
|
|
|
Research and development
|
|
San Diego, CA
|
|
2022 - option to extend for one additional 5-year period
|
|
36,000
|
|
|
Administrative and cGMP fill and finish and storage
|
|
San Diego, CA
|
|
2020
|
|
11,000
|
|
|
Research and development
|
|
Suzhou, China
|
|
2022
|
|
25,000
|
|
|
Administrative, research and development
|
|
New York, NY
|
|
2020
|
|
4,600
|
|
|
Administrative
|
|
Atlanta, GA
|
|
2024 - option to extend for one additional 5-year period
|
|
3,400
|
|
|
Administrative, research and development
|
|
Newhouse, Scotland
|
|
2021
|
|
2,300
|
|
|
Administrative, research and development
|
|
|
|
|
|
|
|
|
|
Scilex
(2)
|
|
|
|
|
|
Berwyn, PA
|
|
2020
|
|
2,700
|
|
|
Not in use
|
|
Mission Viejo, CA
|
|
2020
|
|
1,400
|
|
|
Administrative
|
|
Mountain View, CA (3)
|
|
2020
|
|
4,500
|
|
|
Administrative
|
(1) Certain of these facilities are utilized by more than one segment.
(2) In December 2018, Scilex entered into a new lease in Broomfield, Colorado, for approximately
4,500
square feet of additional office space. The lease has not commenced as of March 31, 2019 and has an expected lease term through 2024.
(3) The Company acquired the Mountain View lease as part of the Semnur acquisition during the first quarter of 2019.
The components of lease expense were as follows (in thousands):
|
|
|
|
|
|
|
|
Operating leases
|
Three months ended March 31, 2019
|
|
Long term operating lease costs
|
$
|
2,300
|
|
|
Short term operating lease costs
|
4
|
|
|
Total operating leases costs
|
$
|
2,304
|
|
Supplemental quantitative information related to leases includes the following (in thousands):
|
|
|
|
|
|
|
|
Three months ended March 31, 2019
|
|
Cash paid for amounts included in the measurement of lease liabilities:
|
|
|
Operating cash flows from operating leases
|
1,533
|
|
|
|
|
|
Right-of-use assets obtained in exchange for new operating lease liabilities
|
300
|
|
|
|
|
|
Weighted average remaining lease term in years - operating leases
|
9.9 years
|
|
|
Weighted average discount rate - operating leases
|
12.1
|
%
|
Maturities of lease liabilities were as follows (in thousands):
|
|
|
|
|
|
|
|
Years ending December 31,
|
Operating leases
|
|
2019 (Remaining nine months)
|
$
|
5,319
|
|
|
2020
|
9,153
|
|
|
2021
|
8,448
|
|
|
2022
|
8,496
|
|
|
2023
|
8,186
|
|
|
2024
|
8,374
|
|
|
Thereafter
|
42,117
|
|
|
Total lease payments
|
90,093
|
|
|
Less imputed interest
|
(39,931
|
)
|
|
Total lease liabilities as of March 31, 2019
|
$
|
50,162
|
|
Rent expense for operating leases totaled approximately
$6.1 million
,
$3.2 million
and
$2.1 million
, for the years ended December 31, 2018, December 31, 2017 and December 31, 2016, respectively.
Under ASC 840, minimum future non-cancelable annual operating lease obligations are as follows for the years ending December 31 (in thousands):
|
|
|
|
|
|
|
|
2019
|
$
|
6,396
|
|
|
2020
|
8,733
|
|
|
2021
|
8,011
|
|
|
2022
|
7,959
|
|
|
2023
|
8,186
|
|
|
Thereafter
|
52,425
|
|
|
|
$
|
91,710
|
|
15. Income Taxes
The Company maintains deferred tax assets that reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. These deferred tax assets include net operating loss carryforwards, research credits and temporary differences. In assessing the Company’s ability to realize deferred tax assets, management considers, on a periodic basis, whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. As such, management has determined that it is appropriate to maintain a valuation allowance against the Company’s U.S. federal and state deferred tax assets, with the exception of an amount equal to its deferred tax liabilities.
The Company’s income tax benefit of
$0.2 million
and
$0.9 million
reflect effective tax rates of
0.12%
and
2.8%
for the
three
months ended
March 31, 2019
and
2018
, respectively.
The difference between the expected statutory federal tax expense of
21%
and the
0.12%
effective tax expense for the
three
months ended
March 31, 2019
was primarily attributable to the valuation allowance against most of the Company’s deferred tax assets. For the
three
months ended
March 31, 2019
, when compared to the same period in 2018, the decrease in the tax benefit and change in effective income tax rate was primarily attributable to the increased valuation allowance in 2019.
The Company is subject to taxation in the U.S. and various state and foreign jurisdictions. The Company’s tax years for 2007 and later are subject to examination by the U.S. and state tax authorities due to the existence of the NOL carryforwards.
As of
March 31, 2019
, the Company had approximately
$4.4 million
of unrecognized tax benefits that, if recognized, would impact the effective income tax rate for continuing operations, subject to possible offset by an increase in the deferred tax asset valuation allowance. As of
March 31, 2018
, the Company had approximately
$3.9 million
of unrecognized tax benefits that, if recognized, would impact the effective income tax rate for continuing operations, subject to possible offset by an increase in the deferred tax asset valuation allowance.
The Company recognizes interest and penalties related to unrecognized tax benefits in its provision for income taxes. For the
three
months ended
March 31, 2019
and
2018
,
no
expense was recorded related to interest and penalties. The Company
believes that
no
significant amount of the liabilities for uncertain tax positions will expire within twelve months of
March 31, 2019
.
16. Related Party Agreements
During the year ended December 31, 2015, the Company entered into a joint venture called Immunotherapy NANTibody, LLC, with NantCell, a subsidiary of NantWorks. In July 2015, the Company contributed its portion of the initial joint funding of
$40.0 million
to the NANTibody joint venture. The Company and NantCell have also entered into a license agreement pursuant to which the Company received a
$10.0 million
upfront license payment and
$100.0 million
of vested NantCell common stock.
During the year ended December 31, 2015, the Company entered into a joint venture called NantCancerStemCell, LLC, with NantBioScience, a wholly-owned subsidiary of NantWorks. In connection with negotiated changes to the structure of NantStem the Company issued a call option on shares of NantKwest that it owned to Cambridge, a related party to the Company and to NantBioScience. In April 2015, the Company purchased
1.0 million
shares of NantBioScience common stock for
$10.0 million
.
In March 2016, the Company and Yuhan entered into an agreement to form a joint venture company called ImmuneOncia Therapeutics, LLC, to develop and commercialize a number of immune checkpoint antibodies against undisclosed targets for both hematological malignancies and solid tumors. As of
March 31, 2019
, the carrying value of the Company’s investment in ImmuneOncia Therapeutics, LLC was approximately
$2.1 million
. During the three months ended June 30, 2016, Yuhan purchased
$10.0 million
of common stock and warrants.
On August 15, 2017, the transactions contemplated by that certain Contribution Agreement, dated June 12, 2017, by and among the Company, TNK and Celularity, pursuant to which, among other things, the Company and TNK agreed to contribute certain intellectual property rights related to their proprietary chimeric antigen receptor constructs and related chimeric antigen receptors to Celularity in exchange for shares of Celularity’s Series A Preferred Stock equal to
25%
of Celularity’s outstanding shares of capital stock, calculated on a fully-diluted basis closed. Dr. Henry Ji, the Company’s Chairman of the Board, President and Chief Executive Officer, Jaisim Shah, a member of the Company’s Board of Directors and David Deming, a member of the Company’s Board of Directors, were previously appointed as members of the board of directors of Celularity.
On November 8, 2016, the Company entered into the Scilex Purchase Agreement, pursuant to which the Company acquired from the Scilex Stockholders approximately
72%
of the outstanding capital stock of Scilex. Dr. Henry Ji, the Company’s President and Chief Executive Officer and a member of the Company’s Board of Directors, and George K. Ng, the Company’s former Vice President, Chief Administrative Officer and Chief Legal Officer, were stockholders of Scilex prior to the acquisition transaction.
As further discussed in Note 4, on March 18, 2019, the Company entered into a Merger Agreement with Semnur, HoldCo, Merger Sub, and Fortis Advisors LLC, solely as representative of the Equityholders’ Representative. Pursuant to the Merger Agreement, Merger Sub merged with and into Semnur, with Semnur surviving as a wholly owned subsidiary of HoldCo. Jaisim Shah, a member of the Company’s Board of Directors, was Semnur’s Chief Executive Officer, a member of its Board of Directors and a stockholder of Semnur prior to the acquisition transaction. Following the issuance of the Stock Consideration as discussed in Note 4, the Company is the owner of approximately
58%
of HoldCo’s issued and outstanding capital stock.
As of
March 31, 2019
, approximately
15%
of the outstanding capital stock of Holdco represents a noncontrolling interest and continues to be held by ITOCHU CHEMICAL FRONTIER Corporation. Scilex has entered into a product development agreement with ITOCHU CHEMICAL FRONTIER Corporation, which serves as the sole manufacturer and supplier to Scilex for the ZTlido® product.
17. Loss Per Share
For the
three
months ended
March 31, 2019
and
2018
, basic loss per common share is computed by dividing net loss by the weighted average number of common shares outstanding during the period. Diluted loss per common share is calculated to give effect to all dilutive securities, using the treasury stock method.
The following table sets forth the reconciliation of basic and diluted loss per share for the
three
months ended
March 31, 2019
and
2018
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended March 31,
|
|
|
2019
|
|
2018
|
|
Basic and Diluted
|
|
|
|
|
|
|
Net loss attributable to Sorrento
|
$
|
(108,071
|
)
|
|
$
|
(32,574
|
)
|
|
|
|
|
|
|
Denominator for Basic Loss Per Share
|
122,281
|
|
|
84,941
|
|
|
Denominator for Diluted Loss Per Share
|
122,281
|
|
|
84,941
|
|
|
Basic Loss Per Share
|
$
|
(0.88
|
)
|
|
$
|
(0.38
|
)
|
|
Diluted Loss Per Share
|
$
|
(0.88
|
)
|
|
$
|
(0.38
|
)
|
The potentially dilutive stock options that would have been excluded because the effect would have been antidilutive for the
three
months ended
March 31, 2019
and
2018
were
3.9 million
and
3.3 million
, respectively. The potentially dilutive warrants that would have been excluded because the effect would have been antidilutive for the
three
months ended
March 31, 2019
and
2018
were
4.5 million
and
2.0 million
, respectively.
Basic and diluted per share amounts are computed independently in the consolidated statements of operations. Therefore, the sum of per share components may not equal the per share amounts presented.
18. Segment Information
During the quarter ended March 31, 2019, the Company realigned its businesses into
two
operating and reportable segments, Sorrento Therapeutics and Scilex. The Company reports segment information based on the management approach. The management approach designates the internal reporting used by the Chief Operating Decision Maker (“CODM”), which is the Company’s Chief Executive Officer, for making decisions and assessing performance as the source of the Company’s reportable segments. The CODM allocates resources and assesses the performance of each operating segment based on licensing, sales and services revenue, operating expenses, and operating income (loss) before interest and taxes. The Company has determined its reportable segments to be Sorrento Therapeutics and Scilex based on the information used by the CODM.
Sorrento Therapeutics
. The Sorrento Therapeutics segment is organized around the Company’s Immune-Oncology therapeutic area, leveraging its proprietary G-MAB™ antibody library and targeted delivery modalities to generate the next generation of cancer therapeutics. These modalities include proprietary chimeric antigen receptor T-cell therapy (“CAR-T”), dimeric antigen receptor T-cell therapy (“DAR-T”), antibody drug conjugates (“ADCs”) as well as bispecific antibody approaches. Additionally, this segment also includes Sofusa®, a revolutionary drug delivery system that delivers biologics directly into the lymphatic system to potentially achieve improved efficacy and fewer adverse effects than standard parenteral immunotherapy, and resiniferatoxin (“RTX”), which is a non-opioid-based neurotoxin and is currently in clinical trials for late stage cancer pain and osteoarthritis.
Scilex
. The Scilex segment is largely organized around the Company’s non-opioid pain management operations and includes the operations of Scilex and Semnur. As of March 31, 2019, revenues from the Scilex segment are exclusively derived from the sale of ZTlido® (lidocaine topical system 1.8%).
|
|
|
|
•
|
In October 2018, Scilex commercially launched its ZTlido® (lidocaine topical system 1.8%) product and began recognizing revenue in the fourth quarter of 2018.
|
|
|
|
|
•
|
Semnur’s SP-102 compound is the first non-opioid corticosteroid formulated as a viscous gel injection in development for the treatment of lumbar radicular pain/sciatica, containing no neurotoxic preservatives, surfactants, solvents or particulates. SP-102 has been awarded fast track status by the FDA. See Note 4 for further detail on the Semnur acquisition.
|
The Company manages its assets on a company basis, not by segments, as many of its assets are shared or commingled. The Company’s CODM does not regularly review asset information by reportable segment and, therefore, it does not report asset information by reportable segment. The majority of long-lived assets for both segments are located in the United States.
The following table presents information about the Company’s reportable segments for the
three
months ended
March 31, 2019
and
2018
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended March 31,
|
|
|
2019
|
|
2018
|
|
(in thousands)
|
Sorrento Therapeutics
|
Scilex
|
Total
|
|
Sorrento Therapeutics
|
Scilex
|
Total
|
|
External revenues
|
$
|
3,284
|
|
$
|
2,859
|
|
$
|
6,143
|
|
|
$
|
6,246
|
|
$
|
—
|
|
$
|
6,246
|
|
|
Operating expenses
|
35,131
|
|
94,182
|
|
129,313
|
|
|
35,702
|
|
3,090
|
|
38,792
|
|
|
Operating loss before interest and taxes
|
(31,847
|
)
|
(91,323
|
)
|
(123,170
|
)
|
|
(29,456
|
)
|
(3,090
|
)
|
(32,546
|
)
|
19. Subsequent Events
On May 3, 2019, the Company, the Guarantors and the Lenders and the Agent entered into an amendment (the “Amendment”) to the Loan Agreement.
Under the terms of the Amendment, among other things, the Lenders agreed to make available to the Company
$20.0 million
of the Conditional Loan, notwithstanding that the commercial and financial milestones had not occurred (the “Early Conditional Loan”). The Lenders also agreed to loan the Company the remaining
$30.0 million
of the Conditional Loan upon the satisfaction of the commercial and financial milestones between August 7, 2019 and November 7, 2019 (the “Remaining Conditional Loan” and, together with the Initial Loan and the Early Conditional Loan, the “Term Loans”). The Term Loans, other than the Early Conditional Loan, will mature on November 7, 2023. The Early Conditional Loan will mature on May 3, 2020; however, if the commercial and financial milestones have not occurred on or prior to such date, the Early Conditional Loan will mature on November 7, 2023. The Term Loans may be prepaid by the Company, in whole or in part at any time, subject to a prepayment fee. Upon any prepayment or repayment of all or a portion of the Term Loans (including the Early Conditional Loan and the Remaining Conditional Loan), the Company has agreed to pay the Lenders an exit fee equal to
1.25%
of the principal amount paid or prepaid. The Early Conditional Loan was funded on May 3, 2019.
In connection with the Amendment, on May 3, 2019, the Company issued to the Lenders warrants to purchase an aggregate of
1,333,304
shares of the Company’s common stock (the “2019 Warrants”). The 2019 Warrants have an exercise price per share of
$3.94
, subject to adjustment for stock splits, reverse stock splits, stock dividends and similar transactions, will be exercisable from November 3, 2019 through November 3, 2029 and will be exercisable on a cash basis, unless there is not an effective registration statement covering the resale of the shares issuable upon exercise of the 2019 Warrants (the “2019 Warrant Shares”), in which case the 2019 Warrants shall also be exercisable on a cashless exercise basis.
In connection with the Amendment, on May 3, 2019, the Company and the Lenders entered into an amendment (the “RRA Amendment” and, together with the Amendment and the 2019 Warrants, the “Transaction Documents”) to the Registration Rights Agreement. Under the terms of the RRA Amendment, the Company agreed to file one or more registration statements with the SEC for the purpose of registering for resale the 2019 Warrant Shares by no later than the 45th day following the issuance of the 2019 Warrants.