Item 1. Business

Overview

Oncocyte is a molecular diagnostic company focused on developing and commercializing proprietary laboratory-developed tests (“LDTs”) to serve unmet medical needs across the cancer care continuum. Our tests aim to provide actionable information to physicians and patients at critical decision points to optimize diagnosis and treatment decisions, improve patient outcomes, and reduce overall cost of care. We have prioritized lung cancer as our first indication. Lung cancer remains the leading cause of cancer death in the United States, despite the availability of molecular testing and novel therapies to treat patients.

Through strategic asset and business acquisitions during 2019 and early 2020, Oncocyte has gone through a transformation from a single product company to a company with a wider battery of laboratory-developed tests that physicians may use at different critical decision points in cancer diagnosis and treatment to support their decision-making. We believe that our effort to provide particular tests for certain key decision points along the continuum of diagnosis shown below will mitigate the inherent risk of being a single product company and should lead to greater revenue opportunities in rapidly emerging markets in lung cancer and beyond.

Key Clinical Questions Our Product Offerings Will Address

Although we believe our approach may have utility across other solid tumors, we have prioritized lung cancer, which remains the leading cause of cancer death in the United States and the rest of the world, making it one of the largest molecular diagnostic market opportunities. Our proprietary diagnostic tests are focused on the interrogation of RNA signatures from diagnostic tissue or peripheral blood samples and target key clinical questions that are critical to better management of lung cancer, from detection through treatment of cancer. As we expand the scope of our offerings towards the goal of addressing several key clinical decision points in lung cancer, we remain technology agnostic, and aim to find the best approach that addresses the needs of patients and physicians in a manner consistent with good health economic outcomes.

Our diagnostic tests are novel and proprietary. We leverage our significant bioinformatics expertise in algorithm development and validation to analyze functional gene expression and other biological data, to develop tests that address significant clinical challenges that have not been successfully addressed by currently available technologies. At the same time our tests are run on instruments with a high global installed base enabling decentralization of testing to labs worldwide.

In development is DetermaDx™ (formerly known as DetermaVu™), a proprietary non-invasive blood-based test developed in our laboratory that measures biomarkers of the immune system’s response to cancer to help a physician determine whether lung nodules detected through imaging are likely benign. Our goal in developing DetermaDx^TM is to reduce the number of unnecessary, invasive, risky and expensive diagnostic biopsy procedures. A DetermaDx™ result suggesting that a patient’s lung nodule is likely benign, would give greater confidence to a physician deciding whether to manage a patient by “watch and wait”, radiologic follow-up for lung nodule change in size over time. DetermaDx™ was CLIA validated in the fourth quarter of 2019, and is currently undergoing a large clinical validation, which if successful will move the product towards commercial launch.

As part of the new strategy to become relevant in the broader diagnostic continuum of lung cancer, we made an investment in Razor Genomics, Inc. (“Razor”) during September 2019 and acquired a license to complete development and to commercialize Razor’s test for early stage lung cancer management. This test, which we call DetermaRx^TM, is the only test available that provides information to physicians to help identify patients with a high-risk for recurrence of early-stage, operable adenocarcinoma of the lung. By offering patients at high-risk of recurrence chemotherapy, published studies demonstrated that decision-making supported by DetermaRx^TM significantly impacted survival rates for patients with early stage lung cancer. DetermaRx^TM received a proposed positive coverage decision from the Centers for Medicare and Medicaid Services (“CMS”) in August 2019. While DetermaRx^TM is commercially available now, we expect to receive a final pricing decision for DetermaRx^TM from CMS during the first half of 2020, which will make Medicare reimbursement available and should enable us to become a revenue stage company.

In January 2020, we acquired Insight Genetics, Inc. (“Insight”) which significantly expanded our product pipeline by adding DetermaIO^TM, a proprietary gene expression assay with promising data supporting its potential to help identify patients likely to respond to checkpoint inhibitor drugs. This new class of drugs modulate the immune response and show activity in multiple solid tumor types including non-small cell lung cancer (NSCLC), and triple negative breast cancer (TNBC). Insight also has an existing revenue generating pharma service business that offers pharmaceutical companies comprehensive, multi-analyte test development and clinical trial services at its CLIA laboratory. The breadth of expertise at our Insight facility includes DNA and gene expression (RNA) test development, analysis and clinical testing for clinical studies and trials across multiple platforms including polymerase chain reaction (PCR) and next generation sequencing (NGS) including whole transcriptome analysis at the RNA level and whole exome analysis at the DNA level for tumor mutational burden (TMB) and genomic profiling for treatment selection.

On the pharmaceutical services side, there are approximately 3,000 PD-1/PD-L1 ongoing clinical trials that are expected to recruit over 500,000 patients. This represents a potential $1 billion market opportunity for immune-therapy clinical trial services alone. It is well established that multi-analyte testing is more sensitive than testing a single analyte. Our multi-analyte testing capabilities combining DNA and RNA should make us an attractive service provider to biopharmaceutical companies for biomarker discovery and companion diagnostic development compared to DNA based testing alone.

Business Strategy

Why Lung Cancer?

In the United States, approximately 1.8 million people were diagnosed with cancer in 2019. Lung cancer accounts for about 13% of all new cancer cases equating to approximately 228,000 patients being diagnosed each year. Around 142,000 people died from lung cancer in 2019 making it the leading cause of cancer death. There is a significant unmet need to reduce mortality from lung cancer through increasing awareness of screening opportunities, early diagnosis, and optimal and timely treatment and monitoring of diagnosed patients. By providing physicians and patients with actionable and timely information to help them make critical care decisions, Oncocyte aims to improve lung cancer outcomes through improved diagnosis, risk management, treatment, and monitoring.

We are building Oncocyte to be a “one stop lab” for lung cancer diagnosis and management. This allows for efficient commercialization with a sales team that can target lung cancer focused physicians including pulmonologists, thoracic surgeons and medical oncologists. This is becoming very important as patient management decisions are increasingly made in cross-specialty tumor boards. Today, the testing needs of physicians managing lung cancer are met by several specialty reference labs, meaning the provider must split the sample and send each one off to a different lab for the various tests they need to accurately diagnose and select a therapy. Not only does this process consume a large amount of sparse patient biopsy sample risking depletion of the sample before completing all testing, but also the process can take up to three weeks for the compilation of all the results to make it back to the treating physician to inform therapeutic decision making.

Oncocyte’s consolidation of testing modalities will allow the judicious use of limited patient biopsy samples, and return results to the ordering physician within ten days, on time for selecting the best treatment regimen. All too often in the existing paradigm, patients are committed to a therapeutic approach before all the information is returned from the different clinical labs. Our survey of cancer physicians indicates a significant demand for both attributes, consuming a minimal portion of patient biopsy sample and faster turnaround of testing results. We believe that the proprietary tests in our product pipeline will allow Oncocyte to be relevant in earlier stage decision making giving us unique access to the sample “tumor block” from the beginning of the diagnostic process, thus allowing us to offer other follow up tests without physicians needing to send patient samples to another laboratory.

Strategically Addressing Unmet Clinical Questions Across the Lung Cancer Care Continuum

We are developing molecular diagnostics that provide physicians information to enable the timely diagnosis and treatment of lung cancer with the ultimate goal of transforming this deadly cancer to a curable or chronic disease. Although we may refer to our tests as “diagnostic tests,” each test was developed in a CLIA-certified laboratory and will be performed in our CLIA-certified laboratories in Brisbane, California and Nashville, Tennessee. Our laboratory-developed tests are intended to support and help inform physician decision-making, but are not themselves diagnostic or prescriptive of treatment decisions.

DetermaDx^TM (formerly known as DetermaVu™) –Early diagnosis of lung cancer

Oncocyte is developing DetermaDx^TM, a proprietary non-invasive blood-based test that measures biomarkers of the immune system’s response to cancer to help determine whether lung nodules detected through imaging are likely benign. Our goal in developing DetermaDx^TM is to reduce the number of unnecessary invasive, risky and expensive diagnostic biopsy procedures.

Early stage lung cancer may appear as suspicious nodules on a CT scan. The landmark National Lung Screening Trial (NLST) showed that screening with low dose CT (LDCT) scans resulted in a 20% reduction in lung cancer–related death. This resulted in the implementation of a screening program with regular LDCT scans for high-risk individuals, primarily heavy smokers. However, more than 75% of nodules detected in the NLST study were not malignant, i.e., benign. A study published in CHEST 2015 reported that in clinical practice even in patients with larger nodule sizes in the 8mm to 20mm range only one-quarter of the nodules biopsied were malignant. This shows that a significant population of patients with benign nodules undergo unnecessary invasive diagnostic procedures including a biopsy, such as a bronchoscopy or needle biopsy, or surgery. Lung biopsies are risky and dangerous, as some tumors in the lung are incredibly difficult to access without causing damage to the lung itself. The overall adverse event rate for biopsy and similar invasive procedures in patients with lung nodules was 22% for patients 55 to 65 years of age, and 24% for Medicare eligible patients who are 65 years of age or older. According to a recent JAMA publication, the cost of complications ranges from $6,000 to $56,000. So, while LDCT scans are beneficial in diagnosing lung cancer early, there is an unmet medical need for a non-invasive blood test to help identify patients whose nodules are likely benign and can be spared risky and invasive biopsy procedures. Our DetermaDx^TM test in development seeks to address this unmet need.

More than 1.6 million suspicious lung nodules are detected annually via screening or incidentally, a number that is expected to increase as the adoption of screening increases. Using current clinical practice guidelines, physicians are faced with the dilemma of how to manage these patients, as the majority of these nodules are benign, but there are no clinical imaging features that clearly identify the malignant nodules.

Nodule size is one predictor of malignancy along with other factors such as patient age, nodule shape, nodule location, and smoking status. The Mayo Clinic developed a risk model using these clinical factors to help to guide physicians in the treatment of lung nodules. Unfortunately, the majority of nodules fall in an intermediate risk category, leaving physicians without guidance on whether the nodules are benign or malignant. To help provide guidance, Lung-Rads and Fleishner guidelines were developed. These guidelines recommend surveillance when nodule size is less than 8mm. Nodule sizes greater than 30mm are considered to be “masses” and warrant a biopsy. Treatment of nodules measuring 8mm and 30mm remains the biggest diagnostic dilemma to physicians, as guidelines are not prescriptive in this size range. The initial intended use for DetermaDx^TM will be to help inform whether a nodule is likely benign in patients with a nodule size of 8mm to 22mm. Our survey of physicians and analysis of practice patterns in over 3,000 U.S. subjects show that the 8mm to 22mm nodule size range is the one in which the most unnecessary invasive biopsy procedures on a benign nodule are performed. This need is further supported by other surveys reporting a 54% biopsy rate, while only 24% of the biopsied nodules were malignant. The adverse consequence for patients who have a biopsy of a benign nodule is that more than 22% of all lung biopsy patients experience adverse events as a result of the procedure.

We announced the completion of R&D Validation of DetermaDx™ in early 2019, and we completed CLIA Validation in early 2020. CLIA Validation demonstrates that the full assay system utilized in our CLIA certified lab in Brisbane, California, run by our staff at that laboratory, and on the analytically validated instrumentation, provides the same results on clinical samples as those obtained in the R&D Validation stage of assay development. We are on plan with the Clinical Validation study of DetermaDx^TM, with an expected completion date at the end of the second quarter of 2020. In our Clinical Validation study, more than 400 patient samples are being assayed in a blinded manner in our CLIA lab and the performance of the full assay system will be assessed against clinical diagnosis to show how our laboratory-developed test is likely to perform in clinical practice. When completed, this clinical validation will be one of, if not the largest, validation cohort for a blood test for this intended use. In general, tests that have been validated on large patient populations are deemed more trustworthy by physicians for clinical use. If our Clinical Validation study of DetermaDx^TM confirms performance that is impactful to patient care, we plan to initiate marketing the test to oncologists and surgeons.

The clinical utility and economic impact of DetermaDx^TM stems from the its potential to provide information that could provide re-classification of a significant number of lung nodules in the 8mm to 22mm size range as likely benign. Those patients can avoid the risky and costly invasive biopsy procedure by being routed to surveillance with subsequent LDTC scans, which is the standard practice for nodules less than 8mm in size which are considered low risk nodules by guidelines today.

The 500,000 annual United States patient population with lung nodules in the 8mm to 22mm size range represents a potential $1.75 billion market opportunity based on our projected reimbursable pricing model for DetermaDx^TM. In our cohort we have observed invasive diagnostic procedures being performed on smaller nodules of 6mm to 7mm in size. Expansion of our clinical studies into this smaller nodule size range would add another 300,000 patients or a potential additional $1 billion to the market opportunity for this test.

Upon successful publication of the Clinical Validation results, we will prepare for test commercialization including seeking CMS approval of Medicare reimbursement for the test. We expect to primarily market DetermaDx^TM to pulmonologists, but patients with lung nodules sometimes may be routed directly to surgeons who will be a common target customer base for both DetermaRx™ and DetermaDx™.

DetermaRx^TM –Treatment selection in early stage lung cancer

Oncocyte’s first commercially available laboratory-developed test is DetermaRx^TM, the only predictive molecular test for early stage adenocarcinoma of the lung. This gene expression-based test provides information that a physician can use to help identify early-stage, surgically resected patients with Stage I and IIA lung cancer (NSCLC) who are at high-risk of recurrence and may benefit from chemotherapy.

NSCLC of the lung is the most common type of lung cancer accounting for 80-85% of incidence. Survival rates for patients diagnosed at an early stage are significantly higher than those for patients whose lung cancer is diagnosed at an advanced stage such as Stage III or Stage IV. Surgery is the standard of care for patients diagnosed with early stage (Stage I and Stage IIA) lung cancer. Yet even after complete surgical resection, between 30% to 50% of patients with early stage NSCLC have a recurrence of the disease. Trials of chemotherapy treatment in early-stage disease have been inconclusive as to whether they improve outcomes in un-stratified patients. Current guidelines suggest risk stratification and use of adjuvant (post-surgery) chemotherapy in “high-risk” patients. However, the recommendations for assessment of risk are subjective, and lack clinical studies that validate their usefulness in informing the use of chemotherapy.

DetermaRx^TM is a 14-gene molecular stratification test performed on surgically resected tissue and is indicated for patients with Stage I and Stage IIA NSCLC to help determine who may benefit from adjuvant chemotherapy. Typically, thoracic surgeons or medical oncologists order the test after surgical resection. These surgical samples are formalin fixed, and paraffin embedded (FFPE). We receive blocks or scrolls of FFPE samples for testing in our CLIA-certified laboratory. A test report is generated classifying patient risk of recurrence and returned to the ordering physician within 10 business days. This turnaround time enables the treating physician to have the report in time for discussion of a treatment plan with the patient, usually a month after surgery.

We believe that there is an annual U.S. market opportunity of 40,000 patients or $140 million for DetermaRx™ based on our projected reimbursable pricing model. This market is expected to grow as high-risk screening recommendations are adopted, resulting in more patients being screened through LDCT scans and diagnosed at an early stage.

DetermaRx^TM has been validated in two independent cohorts with close to 1,400 patients and test data has been published in top-tier peer reviewed publications including Lancet Oncology, JAMA, and the Journal of Thoracic Oncology. Importantly, the impact of the use of chemotherapy in high-risk patients was demonstrated in a paper published in Clinical Lung Cancer in 2017. CMS has delivered a proposed positive coverage decision for DetermaRx^TM, and we are awaiting a final coverage and pricing decision, which is important for commercialization because approximately 70% of patients for whom the test is indicated are eligible for Medicare coverage.

We are initiating a randomized prospective definitive clinical trial randomizing molecular high-risk patients to adjuvant chemotherapy or standard of care in order to gather the highest level of evidence supporting the inclusion of the DetermaRx test into national guidelines, which we believe will make the test the standard of care for all patients with Stage I and IIA non-squamous NSCLC.

DetermaIO^TM –Immunotherapy treatment selection in advanced lung cancer

For patients diagnosed with advanced cancer, immunotherapies, particularly checkpoint inhibitors targeting PD-1 and PD-L1, have emerged as a novel drug class that helps recruit the body’s immune system to attack the growing tumor. Pharmaceutical companies are investing heavily in this space, with hundreds of clinical trials ongoing, and a number of drugs already approved for several indications, including NSCLC. A recent article published by the Journal of the American Medical Association estimated that in the United States 750,000 patients per year are eligible for immunotherapy. We believe, based on our projected reimbursable pricing model, that this represents over a potential $2 billion market opportunity for a test that can reliably predict which cancer patients are likely to respond to immunotherapies.

Through the acquisition of Insight in January 2020, Oncocyte has expanded its portfolio to include a novel gene expression-based test that we call DetermaIO™, developed to identify patients most likely to respond to immunotherapy drugs. Current predictive biomarkers, including PD-L1 and TMB, have shown only limited ability to accurately predict which patients who will respond to an immunotherapy. For example, according to published literature, more than half of PD-L1 positive patients do not respond to immune- checkpoint inhibitors, and 1 in 6 patients who will respond are missed (referred to as a “false negative”).

Given the potential benefit of immunotherapy, yet the high cost and toxicity associated with the treatment, it is very important to accurately identify both responders and non-responders to reduce overall morbidity and mortality. DetermaIO™ was developed for that purpose. The test measures the expression levels of 27 genes and algorithmically computes an immunomodulatory-positive (IM+) or immunomodulatory-negative (IM-) score. Patients who are IM+ have been shown to be much more likely to respond to immunotherapies, while patients who are IM- have been shown to be much less likely to respond. Initial data using DetermaIO™ that was presented at the 2019 Society for Immunotherapy of Cancer (SITC) conference suggested that our test may outperform both PD-L1 and TMB in identifying responders to checkpoint inhibitors.

The ability to accurately determine response to immunotherapies has important implications for both the patients themselves and the healthcare economy as a whole. For the patients that are likely to respond to immunotherapies, these drugs can be a much more effective and less toxic treatment option than standard chemotherapy. For the patients who are unlikely to respond, opting for a different course of treatment would eliminate exposure to potentially serious side effects of immunotherapies such as auto-immune diseases, and could save payers in the healthcare industry use of extremely costly therapy regimens.

DetermaIO^TM –Immunotherapy treatment selection in breast cancer care

The origin of the gene expression dataset used in DetermaIO™ was work done to better classify triple negative breast cancer (TNBC) into five subtypes all of which can be modified by the DetermaIO™ immune response classifier. These subtypes are advancing in studies elucidating their association with different targeted or cytotoxic chemotherapy treatment regimens. In addition to continuing development of DetermaIO™ for prediction of patients likely or unlikely to respond to lung cancer immunotherapies, Oncocyte is planning validation studies for DetermaIO™ as a predictor for immunotherapy response in the treatment of TNBC and may work towards clinical validation of this broader subtyping test for selection of other therapy classes in TNBC.

Significant Global Market Opportunities

The global opportunity for our tests is significant, representing an annual testing opportunity of over 2.5 million samples and close to a potential $9 billion total addressable market as follows: DetermaRx™ — more than 80,000 potential patients: DetermaDx™ — more than 1 million potential patients; DetermaIO™ — more than 1.5 million patients. Each of these tests is performed as a multi-gene expression test using standard FFPE tissue samples for DetermaRx™ and DetermaIO™, or a simple blood draw for DetermaDx™. Although these have been developed as LDTs for the U.S. market to be performed in our CLIA laboratories, one of our goals is to establish a relationship with a global instrument platform company to develop and commercialize a kitted product in foreign markets for each of our tests.

Pharma Services

Our acquisition of Insight expanded our laboratory offerings to include a CLIA-certified laboratory that has been accredited by the College of American Pathologists (CAP). The lab is ISO 9001 201 and 21 CFR Part 820 compliant which allows it to support the key delivery of services to the pharmaceutical and biotechnology industry for biomarker discovery, clinical trials, and product development. We currently provide the following services:

Pharmaceutical companies investing millions of dollars in clinical trials may benefit from developing predictive biomarkers that can help identify the subset of patients most likely to respond to their drugs. This patient stratification approach may enhance the success rates of their clinical trials by allowing the pharmaceutical company to identify which patients to include in the trials. We believe that it is now well understood that a multi-analyte approach combining DNA, RNA, and protein expression and epigenomic markers will deliver the highest level of treatment response prediction compared to DNA based testing alone.

With the Insight acquisition, we now have a differentiated offering to biopharma that includes a full suite of diagnostically relevant offerings analyzing DNA and RNA level including real time PCR, multiplex PCR, and next generation sequencing (NGS).

The quality credentialing and the multi-analyte capabilities described above enable our laboratory to provide end-to-end services to biopharmaceutical companies from discovery of a predictive biomarker, to its validation in clinical trials, and finally to Federal Food and Drug Administration (“FDA”) approval of the biomarker as a “companion diagnostic” to be utilized in conjunction with the therapy to identify patients eligible for the drug.

Commercialization of our Diagnostic Tests

Our first commercial diagnostic test is DetermaRx™. Since we acquired rights to commercialize DetermaRx™ in September 2019, we have been receiving clinical samples and reporting patient results through the Razor CLIA certified laboratory in Brisbane, California. We are receiving patient samples from, and we are providing test results to, a select group of cancer care centers.

The strategy we are pursuing to market DetermaRx™ is likely to be replicated in large measure for the market launch of our other cancer tests as we complete development and the tests become ready for commercialization. To expand our customer base for DetermaRx™, we have hired a limited sales force in focused regions of the country to identify and target hospitals and physicians that perform a high volume of surgical resections, as well as National Comprehensive Cancer Network (NCCN) cancer centers. The call points for our sales force are thoracic surgeons who perform resections of early stage lung cancer, and medical oncologists who make chemotherapy treatment decisions for patients identified high-risk by the test.

We are investing in physician education to drive demand for DetermaRx™. A central pillar of our physician education efforts is our Key Opinion Leader-led speaker program that is focused on peer-to-peer engagement. Several community and academic speakers have already been enrolled as speakers. Our marketing and physician education efforts also include participation in lung cancer focused national and regional medical meetings and symposia, and grant support of accredited continuing medical education (CME) events.

We have also initiated a patient education program in partnership with physicians. We are working with the Go2 Foundation (formerly the Addario Foundation) to drive patient awareness, and to make the test accessible and available for physicians to order at the community level throughout their Centers of Community COE network of more than 50 cancer care hospitals.

Market Access – Reimbursement

Billing, Coverage, and Reimbursement for our Diagnostic Tests

Currently DetermaRx^TM is Oncocyte’s only commercialized test. We expect that revenues from our clinical laboratory for this test will be derived from several different sources:

We estimate that approximately 70% of DetermaRx™ patients will have Medicare coverage. However, in the absence of reimbursement by a health insurance plan or Medicare, patients who would be candidates for the use of our tests may decline to use our tests, and physicians may be reluctant to prescribe our tests, due to the cost of the test to the patients. Because of this patient cost factor, revenues from any new cancer test that we market may experience slow growth until the test is approved for reimbursement by larger payer plans which cover many patients.

Medicare

For lung cancer diagnostics, Medicare or CMS reimbursement approval is critical. CMS relies on a network of Medicare Administrative Contractors (“MACs”) to make Local Coverage Decisions approving a test for reimbursement. The Molecular Diagnostics Services (“MolDx”) Program was developed by Palmetto GBA (the previous MAC for California) to identify and establish coverage and reimbursement for molecular diagnostics tests. The program has developed guidelines for the level of evidence of efficacy required to be obtained through clinical trials. Palmetto, which contracted with CMS to administer the MolDx, issues Local Coverage Determinations that affect coverage, coding, and billing of many molecular tests and the current MAC for California, Noridian Healthcare Solutions, LLC, has adopted the coverage policies from Palmetto. MACs also serve as the primary operational contact between the Medicare Fee-For-Service program, for paying Medicare claims, and approximately 1.5 million health care providers enrolled in the program. Palmetto issued a proposed positive local coverage determination (“LCD”) for the DetermaRx™ decision in August 2019. The comment period following this decision ended in November 2019. We expect to submit claims to CMS upon receiving the final local coverage decision. The pricing for the test is also anticipated to be finalized at the same time as the final LCD.

Private Third-Party Payers

In addition to seeking Medicare reimbursement approval, we will seek reimbursement approval from private payers such as health insurance companies and HMOs. Private payers generally will determine whether to approve a diagnostic test for reimbursement based on the published results of clinical validity and clinical utility studies, and may base their decision on whether to cover a test, and at what level to reimburse, on the MAC’s local coverage determination. We have shown our published clinical evidence to ten payers that represent over 100 million covered lives, and we received favorable feedback from several of the payers on the clinical evidence. Obtaining private payer medical coverage generally takes twelve to twenty-four months from the time that sufficient evidence is demonstrated. In the interim we will bill commercial payers and appeal any denials using the published clinical evidence supporting the utility of the test.

Reimbursement rates paid by private third-party payers can vary based on whether the provider is considered to be an “in-network” provider, a participating provider, a covered provider, an “out-of-network” provider or a non-participating provider. Currently, we are out-of-network with all commercial payers. These definitions can vary among payers. An in-network provider usually has a contract with the payer or benefits provider. This contract governs, among other things, service-level agreements and reimbursement rates. In certain instances, an insurance company may negotiate an in-network rate for our testing. An in-network provider may have rates that are lower per test than those that are out-of-network, and that rate can vary widely. Rates vary based on the payer, the testing type and often the specifics of the patient’s insurance plan. If a laboratory agrees to contract as an in-network provider, it generally expects to receive quicker payment and access to additional covered patients. However, it is likely that we will initially be considered an “out-of-network” or non-participating provider by payers who cover the vast majority of patients until we can negotiate contracts with the payers.

We cannot predict whether, or under what circumstances, payers will reimburse for patients for our tests. Full or partial denial of coverage by payers, or reimbursement at inadequate levels, would have a material adverse impact on our business and on market acceptance of our tests.

Billing and Collection

Where there is a private or governmental third-party payer coverage policy in place, we will bill the payer and the patient in accordance with the established policy. Our efforts in obtaining reimbursement based on individual claims, including pursuing appeals or reconsiderations of claims denials, could take a substantial amount of time, and bills may not be paid for many months, if at all. Furthermore, if a third-party payer denies coverage after final appeal, payment may not be received at all.

Where there is no coverage policy in place, we will pursue reimbursement on a case-by-case basis. In some cases, if not prohibited by law or regulation, we may bill physicians, hospitals and other laboratories directly for the services that they order. However, laws and regulations in certain states prohibit laboratories from billing physicians or other purchasers for testing that they order. Some states may allow laboratories to bill physicians directly but may prohibit the physician and, in some cases, other purchasers from charging more than the purchase price for the services, or may allow only for the recovery of acquisition costs, or may require disclosure of certain information on the invoice. An increase in the number of states that impose similar restrictions could adversely affect us by encouraging physicians to perform laboratory services in-house or by causing physicians to refer services to other laboratories that are not subject to the same restrictions.

Under U.S. generally accepted accounting principles, we may not be able to recognize revenues, even if we have performed and delivered the tests we discussed above, until we have contracts for reimbursement from payers and a history of experience of cash collections for the tests we perform. Until we develop that experience or have the contracts in place with payers, or both, we expect to recognize revenue on a cash basis for the tests that we perform. Accordingly, we will accrue cost of revenues and other operating expenses related to our diagnostic tests before any revenues may be recognized until we receive payment for the tests performed. If this were to occur, it may result in costs of revenues and other operating expenses to be incurred and recognized in our consolidated statements of operations without any corresponding revenues for the period reported.

Corporate Information

We were incorporated in September 2009 in the state of California. Our principal executive offices are located at 15 Cushing, Irvine, California 92618. Our telephone number is (949) 409-7600. Our website is www.Oncocyte.com. Information contained on, or that can be accessed through, our website, is not, and shall not be deemed to be, incorporated into or be considered a party of this Report.

DetermaDx™, DetermaRx™, and DetermaIO™ are trademarks of OncoCyte Corporation.

We are an “emerging growth company” as defined in the Jumpstart Our Business Startups Act of 2012. We will remain an “emerging growth company” until the earliest of (i) the last day of the fiscal year in which we have total annual gross revenues of $1.0 billion or more; (ii) the last day of our fiscal year following the fifth anniversary of the first sale of our common equity securities pursuant to an effective registration statement under the Securities Act of 1933, as amended (the “Securities Act”); (iii) the date on which we have issued more than $1.0 billion in nonconvertible debt during the previous three years; or (iv) the date on which we are deemed to be a large accelerated filer under the rules of the Securities and Exchange Commission, or the SEC. We refer to the Jumpstart Our Business Startups Act of 2012 herein as the “JOBS Act,” and references herein to “emerging growth company” shall have the meaning associated with it in the JOBS Act.

As an emerging growth company, we may take advantage of specified reduced disclosure and other requirements that are otherwise applicable, in general, to public companies that are not emerging growth companies. These provisions include:

We may take advantage of these exemptions for up to five years or such earlier time that we are no longer an emerging growth company.

Competition

Our industry is highly competitive and characterized by rapid technological change. Key competitive factors in our industry include, among others, the ability to successfully complete clinical studies, the ability to obtain any required regulatory approval, average selling prices of competing tests, CLIA laboratory capacity and costs, intellectual property and patent rights, and sales and marketing capabilities. We are an early stage company with a limited operating history and many of our competitors have substantially more resources than we do, including financial, technical and sales resources. In addition, many of our competitors have more experience than we have in the development and commercialization of diagnostics. We are also competing with academic institutions, governmental agencies and private organizations that are conducting research in the field of diagnostics. Our competition will be determined in part by the potential indications for which our lead test candidates are developed and ultimately marketed. Additionally, the timing of market introduction of our diagnostic tests or of competitors’ tests may be an important competitive factor. Accordingly, we expect that important competitive factors will include the speed with which we can complete pivotal validation and utility studies of DetermaDx™ and commercialize the test, including obtaining Medicare reimbursement approval.

For the DetermaDx™ test, Oncocyte is aware of one major direct competitor, Biodesix, Inc. (“Biodesix”), that has a commercially available blood-based lung cancer diagnostic test that competes in the nodule management market. According to publicly available information provided by Biodesix, it has two products, Nodify-XL2 to identify likely benign nodules, and the Early CDT^® test to identify nodules at high risk for cancer. Because the Early CDT^® test result may potentially route the patient to an invasive procedure, we believe the Early CDT^® test does not offer a similar value proposition as DetermaDx™. However, the Nodify-XL2 test appears to be a direct competitor to DetermaDx™, as it claims to help identify likely benign nodules in an effort to avoid unnecessary and risky lung biopsies. In addition, another company called Veracyte, Inc., (“Veracyte”) has developed Percepta^®, a tissue-based product for indeterminate bronchoscopies for lung nodules. Based on our understanding and publicly available information, Percepta^® is performed on tissue samples collected via an invasive surgical procedure and therefore, we believe Percepta^® does not address the unmet need of avoiding unnecessary invasive and risky lung diagnostic procedures.

For the DetermaRx™ test, Oncocyte is not aware of any other diagnostic test currently on the market for the treatment stratification of patients with surgically resected Stage I and IIA NSCLC, therefore we do not believe there is a direct competitor to our DetermaRx™ test. Guidelines established by the NCCN include criteria for identifying patients at high risk of recurrence for resected Stage I and IIA NSCLC, but these criteria, to our knowledge, have not been validated to demonstrate accuracy or clinical benefit.

The DetermaIO™ test competes with multiple biomarkers already in clinical use or in development for predicting response to immunotherapy. The most commonly used clinical tests employed in the immunotherapy response market are PD-L1 expression testing and TMB. We believe, however, the current standard of care for PD-L1 testing has important limitations. According to published literature, more than half of PD-L1 positive patients do not respond to immune- checkpoint inhibitors, and 1 in 6 patients who will respond are missed (referred to as a “false negative”). Furthermore, data presented at recent oncology medical conferences suggests that TMB is not a reliable predictor of immunotherapy response. Further, data presented at SITC (discussed previously), suggested that DetermaIO™ outperformed both PD-L1 and TMB in predicting response to checkpoint inhibitors in patients with NSCLC. We are planning additional studies to confirm these results in a larger patient population for clinical use and reimbursement.

Licensed Technology from Wistar

We have entered into a License Agreement that entitles us to use certain patents, know-how and data belonging to The Wistar Institute of Anatomy and Biology (“Wistar”).

Licenses Granted

Under the License Agreement, we have obtained an exclusive, sublicensable, worldwide license under certain patents (“Licensed Patents”), and under certain know-how and data (“Technical Information”) belonging to Wistar, for use in the field of molecular diagnostics for lung cancer, including but not limited to confirmatory, companion and recurrence diagnostics for any type of lung cancer with detection through whole blood, fractionated blood, plasma, serum and/or other biological samples (the “Licensed Field”). We have the right to grant sublicenses of the licensed patents and Technical Information subject to certain conditions.

Royalties, License Fees and Other Payment Obligations

We have paid Wistar an initial license fee and will pay Wistar royalties on “net sales” of licensed products,” as those terms are defined in the License Agreement. The royalty rates will range from 3% to 5% depending upon the amount of cumulative net sales. The amount of royalties payable to Wistar will be reduced by the amount of any royalties that we must pay to any third parties on the sale of the licensed products, but subject to a maximum reduction of 50%. Our obligation to pay royalties to Wistar will terminate on a licensed product-by-licensed product and country-by-country basis until the later of (i) the date a valid claim of a licensed patent covering the licensed product no longer exists, or (ii) the tenth (10th) anniversary of the first commercial sale of the licensed product in each country.

We have agreed to pay Wistar a minimum annual royalty each year, which in each case will be credited against total royalties due on net sales of licensed products during the year in which the minimum royalty is paid. We will also be obligated to pay Wistar an annual license maintenance fee in the mid-five figures.

We have agreed to pay Wistar a portion of any non-royalty sublicensing income that we may receive from the sub-licensee. Non-royalty sublicensing income will include any consideration received from a sub-licensee for granting the sublicense, but excluding royalties, the fair market value of any equity or debt securities sold to a sub-licensee, and any payments received from a sub-licensee for any related research we conduct for the sub-licensee.

We also have agreed to pay Wistar (a) milestone payments upon the occurrence of certain milestone events in the development and commercialization of a licensed product, and (b) all past or ongoing costs incurred or to be incurred by Wistar, including government fees and attorneys’ fees, in the course of prosecuting the licensed patents.

Other Obligations

We have agreed to use commercially reasonable diligent efforts, directly or through sub-licensees, to develop and commercialize licensed products. We have agreed that we or a sub-licensee will commence commercial sale of a licensed product by a specified date. If sales of a licensed product do not commence by the specified date, we may purchase up to three one-year extensions of the deadline by paying Wistar a designated fee for the applicable extension. Oncocyte has agreed to purchase additional extensions.

We have agreed to indemnify Wistar and its trustees, managers, officers, agents, employees, faculty, affiliated investigators, personnel and staff, from and against certain claims and liabilities related to the License Agreement and the development, manufacture and sale of licensed products, excluding liabilities that result from or arise out of an indemnified party’s gross negligence or willful misconduct.

Termination of the License Agreement

Wistar has the right to terminate the License Agreement, subject to certain notice and cure periods and force majeure delays in certain cases, if any of the following occur: (a) we fail to pay any amount payable to Wistar, subject to certain exceptions; (b) we materially breach any covenant or agreement or any continuing representation or warranty contained in the License Agreement, subject to certain exceptions; (c) we become subject to certain bankruptcy or insolvency events, (d) we dissolve or cease operations, (e) we or any of our affiliates or sub-licensees or affiliates of any our sub-licensees challenges the validity, patentability, scope, construction, enforceability, non-infringement, or Wistar’s ownership of any issued patent comprising the licensed patents, or assists any third party in any such challenge; or (f) we fail to fulfill our product development and commercialization diligence obligations and related performance milestones.

We have the right to terminate the License Agreement with or without cause, upon the passage of a specified period of time after giving Wistar written notice of termination.

Wistar’s Retained Rights to Certain Proposed Products

Wistar has reserved the right to (i) make, use, practice and further develop the licensed patents and Technical Information for educational, research, and other internal purposes; (ii) grant to any academic, government, research or non-profit institution or organization the right to make, use and practice the licensed patents or Technical Information for non-commercial research and educational purposes; and (iii) grant licenses under the Licensed Patents or Technical Information to any party for any field, product, service or territory other than the licensed products in the Licensed Field.

In addition, if Wistar determines to develop or has developed an actual or potential licensed product that is for an application, product, sub-field or indication in the Licensed Field, but for which Wistar reasonably believes a licensed product is not being actively developed or commercialized by us or by our affiliates or sub-licensees, Wistar may give us notice of the proposed product. If we timely inform Wistar of our election to develop the proposed product, and if we successfully negotiate a development plan and milestones for the proposed product, we will be entitled to develop the proposed product as a licensed product under the License Agreement. If we do not elect to develop the proposed product or do not reach agreement with Wistar for a development plan and milestones for the proposed product, Wistar may exclude the proposed product from our license under the License Agreement and may develop the proposed product itself or grant licenses to third parties under the licensed patents and Technical Information for the development and commercialization of the proposed product.

Razor Sublicense Agreement

We have entered into a Sublicense and Distribution Agreement (“Razor Sublicense Agreement”) with Razor and its principal shareholder Encore Clinical, Inc. (“Encore”) pursuant to which Razor has granted us: (i) an exclusive worldwide sublicense under certain patent rights applicable to DetermaRx™ in the field of use covered by the applicable license held by Razor for purposes of commercialization and development of DetermaRx™, and (ii) an exclusive sublicense under certain co-owned patent rights applicable to DetermaRx™ in the United States and in other countries where Razor may lawfully grant such licenses in the field of use for purposes of commercialization and development of DetermaRx™ . We have the exclusive rights to commercialize and collect revenues derived from the commercialization of DetermaRx™. The key terms of the Razor Sublicense Agreement are summarized below.

Royalty, License, and Revenue Sharing Payments

Oncocyte will make royalty payments to Encore and the other shareholders of Razor based on the net cash revenues actually collected from commercialization of DetermaRx™, less certain related costs including certain payments to third parties as royalties and revenue share payments owed by Razor to third parties with respect to revenues from the commercialization of DetermaRx™. The initial royalty rate payable to the Razor shareholders will be a low double-digit percentage and will decline as certain cumulative net revenue benchmarks are reached, with a single digit royalty rate payable to them as the benchmarks are attained. Royalties will be payable to the Razor shareholders on a quarterly basis.

Oncocyte will pay all royalties and all revenue sharing and earnout payments owed by Razor to certain third parties with respect to DetermaRx™ revenues, but those payments will be deducted from gross revenues to determine net revenues for the purpose of paying royalties to the Razor shareholders.

Termination of Sublicense Agreement

The Razor Sublicense Agreement will terminate upon the expiration or termination of Razor’s license agreement with the licensor of the test technology, and may be terminated at an earlier date (i) by mutual written consent of the parties, (ii) by Oncocyte upon an uncured material breach of the representations, warranties, covenants, or agreements under the Razor Sublicense Agreement or under certain other agreements by Encore, or any such uncured material breach by Razor before the date on which we acquire all of the shares of Razor common stock held by Encore and the other Razor shareholders (the “Second Closing Date”), (iii) by Encore upon an uncured material breach of the representations, warranties, covenants, or agreements under the Razor Sublicense Agreement or under certain other agreements by Oncocyte, or (iv) by Oncocyte if there has been any event, fact, condition, change, circumstance, occurrence or effect, which, either individually or in the aggregate, adversely affects, in any material respects, DetermaRx™, it prospects or its ability to be commercialized.

Intellectual Property

Oncocyte will have the right to control any third-party infringement, invalidation of rights, or other claims with respect to DetermaRx™ to the extent permitted by the Razor’s license agreement with its licensor. Prior to the Second Closing, any intellectual property rights developed by Oncocyte, Razor or Encore with respect to DetermaRx™ will be owned jointly by Oncocyte, Razor, and Encore, to the extent permitted by the license agreement between Razor and its licensor, but after the Second Closing, Razor and Encore will assign their rights to Oncocyte.

Facilities

Oncocyte leases a building located at 15 Cushing in Irvine, California that serves as Oncocyte’s principal executive and administrative offices and laboratory facility. Oncocyte plans to construct a clinical diagnostic laboratory and a research laboratory in the building and to seek CLIA certification for the laboratory. Oncocyte also operates CLIA certified laboratories in Brisbane, California and Nashville, Tennessee.

Materials

There is a limited number of manufacturers of molecular diagnostic testing equipment and related chemical reagents necessary for the provision of our diagnostic tests. Additionally, the chemical reagents used with the diagnostic testing equipment we chose are available only from the equipment manufacturer. This situation poses a risk to us. After encountering inconsistent results using diagnostic testing equipment and reagents from one manufacturer, we switched to diagnostic testing equipment from a different manufacturer. If issues were to arise with the diagnostic testing equipment or reagents we are using causing us to acquire different diagnostic testing equipment again, we would need to conduct additional R&D Validation studies, Analytic Validation, and CLIA Laboratory Validation studies to determine whether our previous test results can be reproduced using the new equipment. If similar issues were to arise after commercialization of a diagnostic test, we could experience a disruption for a period of time in providing the diagnostic tests to patients and we would lose revenues and potentially market share as a result.

Patents and Trade Secrets

We rely primarily on patents and contractual obligations with employees and third parties to protect our proprietary rights. We have sought, and intend to continue to seek, appropriate patent protection for important and strategic components of our proprietary technologies by filing patent applications in the U.S. and certain foreign countries. There can be no assurance that any of our patents will guarantee protection or market exclusivity for our diagnostic tests and diagnostic test candidates. We may also use license agreements both to access technologies developed by other companies and universities and to convey certain intellectual property rights to others. Our financial success will be dependent in part on our ability to obtain commercially valuable patent claims and to protect our intellectual property rights and to operate without infringing upon the proprietary rights of others.

Our patent portfolio includes certain patent families owned by us with claims directed to compositions of matter and methods useful for detection of breast and lung cancers using specific biomarkers or a panel of specific biomarkers. Patents are pending in the United States, with projected expiration dates ranging from 2033 to 2039.

We have also obtained an exclusive license from Wistar to certain pending patent applications in the field of molecular diagnostics for lung cancer. The pending claims are directed to compositions of matter and methods useful for detection of lung cancer using specific biomarkers or a panel of specific biomarkers, with projected expiration dates ranging from 2027 to 2038. Patents covered by the exclusive license have issued in the United States, Europe, Australia, Canada and India and are pending in the United States, Australia, Brazil. Canada, China, Europe, India, Israel, Japan, Mexico, New Zealand, Russia, Saudi Arabia, Singapore, South Korea, and the United Arab Emirates. Those patents are projected to expire in 2028 - 2029.

We have also obtained certain exclusive rights to patents and patent applications co-owned by Razor and The University of California San Francisco. The claims are directed to compositions of matter and methods useful for treating and detection of lung cancer using specific biomarkers or a panel of specific biomarkers. Patents covered by the exclusive rights have issued in the United States, Australia, Europe, and Hong Kong with projected expiration dates in 2032.

We have also obtained an exclusive sublicense to certain patents and patent applications owned by The University of California San Francisco and licensed to Razor. The claims are directed to compositions of matter and methods useful for treating and detection of lung cancer using specific biomarkers or a panel of specific biomarkers. Patents covered by the exclusive rights have issued in the United States, Australia, Europe, New Zealand, Japan, China, and Hong Kong and are pending in Canada with projected expiration dates between 2024 and 2032.

Through our acquisition of Insight Genetics in January of 2020, we obtained exclusive rights to additional intellectual property, including trade secrets, registered trademarks, domain names, copyrights, issued and reissued patents and pending applications, and software material to the business of Insight Genetics was assigned to Oncocyte.

In addition to relying on patents, we will rely on trade secrets, know-how, and continuing technological advancement to maintain our competitive position. The molecular diagnostics that we are developing use gene expression classifiers or algorithms, which are mathematical models that weight the biomarkers to produce a score. We will treat the mathematical models as trade secrets. We have entered into intellectual property, invention, and non-disclosure agreements with our employees, and it is our practice to enter into confidentiality agreements with our consultants. There can be no assurance, however, that these measures will prevent the unauthorized disclosure or use of our trade secrets and know-how, or that others may not independently develop similar trade secrets and know-how or obtain access to our trade secrets, know-how, or proprietary technology.

General Risks Related to Obtaining and Enforcing Patent Protection

Our patents and patent applications are directed to compositions of matter, formulations, methods of use and/or methods of manufacturing. The patent positions of pharmaceutical and biotechnology companies, including ours, are generally uncertain and involve complex legal and factual questions. Our business could be negatively impacted by any of the following:

In addition, others may independently develop similar or alternative technologies, duplicate any of our technologies and, if patents are licensed or issued to us, design around the patented technologies licensed to or developed by us. Moreover, we could incur substantial costs in litigation if we have to defend ourselves in patent lawsuits brought by third parties or if we initiate such lawsuits.

The United States Supreme Court’s decisions in Mayo Collaborative Services v. Prometheus Laboratories, Inc. and Association for Molecular Pathology v. Myriad Genetics may limit our ability to obtain patent protection on diagnostic methods that merely recite a correlation between a naturally occurring event and a diagnostic outcome associated with that event. Our cancer diagnostic tests are based on the presence of certain genetic markers for a variety of cancers. In Mayo Collaborative Services v. Prometheus Laboratories, Inc., the Supreme Court ruled that patent protection is not available for the use of a mathematical correlation of the presence of a well-known naturally occurring metabolite as a means of determining proper drug dosage. The claims in the contested patents that were the subject of that decision were directed to measuring the serum level of a drug metabolite and adjusting the dosing regimen of the drug based on the metabolite level. The Supreme Court said that a patent claim that merely claimed a correlation between the blood levels of a drug metabolite and the best dosage of the drug was not patentable subject matter because it did no more than recite a correlation that occurs in nature.

In Association for Molecular Pathology v. Myriad Genetics, the Supreme Court ruled that the discovery of the precise location and sequence of certain genes, mutations of which can dramatically increase the risk of breast and ovarian cancer, was not patentable. Knowledge of the gene location and sequences was used to determine the genes’ typical nucleotide sequence, which, in turn, enabled the development of medical tests useful for detecting mutations in these genes in a particular patient to assess the patient’s cancer risk. But the mere discovery of an important and useful gene did not render the genes patentable as a new composition of matter.

Also, in Ariosa Diagnostics, Inc. v. Sequenom, Inc., the Federal Circuit ruled that a method for detecting a paternally inherited nucleic acid of fetal origin performed on a maternal serum or plasma sample from a pregnant female was not patent eligible subject matter under the framework set forth in Mayo Collaborative Services v. Prometheus Laboratories, Inc. The court examined the elements of the claim to determine whether the claim contained an inventive concept sufficient to transform the claimed naturally occurring phenomenon into a patent eligible application and found that the method steps did not support patentability because they used conventional amplification and detection techniques. Although the claims can be distinguished from the claims at issue in Mayo Collaborative Services v. Prometheus Laboratories, Inc., the court was bound by the language of the Supreme Court decision to hold Sequenom’s claims unpatentable.

While the cases discussed above are instructive, the United States Patent and Trademark Office (the “USPTO”) has issued interim guidelines in light of the Supreme Court decisions indicating that process claims having a natural principle as a limiting step will be evaluated to determine if the claim includes additional steps that practically apply the natural principle such that the claim amounts to significantly more than the natural principle itself. Because the diagnostic tests that we are developing combine an innovative methodology with newly discovered compositions of matter, we are hopeful that this Supreme Court decision will not preclude the availability of patent protection for our diagnostic tests.

The USPTO has also issued multiple Subject Matter Eligibility Updates to provide further guidance in determining subject matter eligibility. The Subject Matter Eligibility Updates include new Subject Matter Eligibility Examples for the Life Sciences. These examples provide favorable exemplary subject matter eligibility analysis of hypothetical claims covering diagnostic tests and claims drawn from case law. This update from the USPTO does not change our opinion on our ability to obtain meaningful patent protection.

There is a risk that any patent applications that we file and any patents that we hold or later obtain could be challenged by third parties and declared invalid or infringing of third-party claims. A patent interference proceeding may be instituted with the USPTO when more than one person files a patent application covering the same technology, or if someone wishes to challenge the validity of an issued patent filed before March 16, 2013. At the completion of the interference proceeding, the USPTO will determine which competing applicant is entitled to the patent, or whether an issued patent is valid. Patent interference proceedings are complex, highly contested legal proceedings, and the USPTO’s decision is subject to appeal. This means that if an interference proceeding arises with respect to any of our patent applications, we may experience significant expenses and delay in obtaining a patent, and if the outcome of the proceeding is unfavorable to us, the patent could be issued to a competitor rather than to us. In addition to interference proceedings, the USPTO can reexamine issued patents at the request of a third party seeking to have the patent invalidated. Currently an inter partes review proceeding will allow third parties to challenge the validity of an issued patent where there is a reasonable likelihood of invalidity. This means that patents owned or licensed by us may be subject to re-examination and may be lost if the outcome of the re-examination is unfavorable to us.

Post Grant Review under the America Invents Act makes available opposition-like proceedings in the United States. As with the USPTO interference proceedings, Post Grant Review proceedings will be very expensive to contest and can result in significant delays in obtaining patent protection or can result in a denial of a patent application. Also, a derivation proceeding may be instituted by the USPTO or an inventor alleging that a patent or application was derived from the work of another inventor.

Oppositions to the issuance of patents may be filed under European patent law and the patent laws of certain other countries. As with the USPTO interference proceedings, these foreign proceedings can be very expensive to contest and can result in significant delays in obtaining a patent or can result in a denial of a patent application.

The enforcement of patent rights often requires litigation against third party infringers, and such litigation can be costly to pursue. Even if we succeed in having new patents issued or in defending any challenge to issued patents, there is no assurance that our patents will be comprehensive enough to provide us with meaningful patent protection against our competitors.

Government Regulation

CLIA—Clinical Laboratory Improvement Amendments of 1988 and State Regulation

We expect that DetermaDx™, DetermaRx™, and DetermaIO™ will be regulated under the Clinical Laboratory Improvements Amendment (“CLIA”) as laboratory diagnostic tests or “LDTs” and will not be regulated as in vitro diagnostic test or IVDs” that will be subject to approval by the FDA and through the European Directive on in vitro diagnostics in the European Union. See “Government Regulation” below. In 1988, Congress enacted CLIA, which established quality standards for all laboratories that provide testing services to ensure the accuracy, reliability and timeliness of patient test results regardless of where the test is performed.

Under CLIA, a laboratory is defined as any facility that performs laboratory testing on specimens derived from humans for the purpose of providing information for the diagnosis, prevention or treatment of disease, or the impairment of, or assessment of health of human beings. Because we meet this definition, CLIA requires that we hold a certificate applicable to the complexity of the categories of testing we perform and that we comply with certain standards. Laboratories performing high complexity testing are required to meet more stringent requirements than laboratories performing less complex tests. CLIA regulations require clinical laboratories like our laboratory to comply with various operational, personnel, facilities administration, quality, and proficiency testing requirements intended to ensure that testing services are accurate, reliable and timely. CLIA certification is a prerequisite for reimbursement eligibility for services provided to state and federal health care program beneficiaries. CLIA is user-fee funded. Therefore, all costs of administering the program must be covered by the regulated facilities, including certification and survey costs.

FDA Regulation of Diagnostic Tests

We have designed, developed, and are validating our tests as LDTs and consequently believe our tests are governed under the CLIA regulations, as administered by CMS, as well as by applicable state laws.

Historically, the FDA has exercised enforcement restraint with respect to most LDTs and has not required laboratories that offer LDTs to comply with FDA requirements for medical devices, such as registration, device listing, quality systems regulations, premarket clearance or premarket approval, and post-market controls.

In recent years, however, the FDA has stated it intends to end its policy of enforcement restraint and begin regulating certain LDTs as medical devices. In October 2014, the FDA issued two draft guidance documents, entitled “Framework for Regulatory Oversight of Laboratory Developed Tests (LDTs)” and “FDA Notification and Medical Device Reporting for Laboratory Developed Tests (LDTs)”, respectively, that set forth a proposed risk-based regulatory framework that would apply varying levels of FDA oversight to LDTs.

In January 2017, the FDA issued a Discussion Paper on LDTs (“Discussion Paper”), which proposes a risk-based approach to LDT oversight focusing on new and significantly modified high and moderate risk LDTs. However, low risk LDTs, LDTs for rare diseases, traditional LDTs, LDTs intended solely for public health surveillance, certain LDTs used in CLIA certified labs, and LDTs intended solely for forensic use would not be expected to comply with premarket review, quality systems, and registration and listing requirements unless necessary to protect public health. With respect to the post-market surveillance of LDTs, the FDA’s Discussion Paper recommends that laboratories initially report serious adverse events for all tests except the exempted categories of tests, which include LDTs intended for public health surveillance, some stem cell/tissue/organ transplantation LDTs, and LDTs intended solely for forensic use. The Discussion Paper notes that while the report neither represents the formal position of the FDA and nor is it a final version of the LDT guidance documents published in 2014, it is hoped that its publication will continue to advance further public disclosure. The FDA has indicated that it does not intend to modify its policy of enforcement restraint until the draft guidance documents are finalized.

Based on guidance set forth in the Discussion Paper, the proposed legislation, and the FDA’s comments on such legislation, FDA premarket review of new and significantly modified LDTs could be phased-in in the near future, however, to date no firm time commitments have been set. Nonetheless, the FDA may decide to regulate certain LDTs on a case-by-case basis at any time.

FDA regulations could also require, among other things, additional clinical studies and submission of a premarket notification or filing a Premarket Approval (“PMA”) application with the FDA. For example, LDTs with the same intended use as a cleared or approved companion diagnostic are defined in the FDA’s draft guidance as “high-risk LDTs (Class III medical devices)” for which premarket review would be required. This may include the use of our LDTs for screening patients for cancer.

Since 2017, legislators have been working to advance a draft of the Diagnostic Accuracy and Innovation Act (“DAIA”) to serve as a basis for creating new regulatory framework for LDTs. In August 2018, the FDA suggested changes to DAIA and addressed the need for a new regulatory framework that would require new tests to undergo FDA review to demonstrate they are analytically and clinically valid. The FDA’s changes to the bill included proposals related to premarket approval, provisional approval, and a precertification program, and made explicit its authority to revoke approval, request raw data, and take corrective action against test developers in order to protect the public health. In December 2018 the FDA Commissioner and the Director of the Center for Devices and Radiological Health (CDRH) expressed significant concerns regarding disparities between some LDTs and in vitro diagnostics that have been reviewed and cleared or approved by the FDA.

Responding to the FDA’s DAIA comments, in December 2018 legislators released a draft bill called the Verifying Accurate, Leading-edge IVCT Development (“VALID”) Act, which features a precertification program. The term IVCT refers to in vitro clinical tests, a new category that was introduced in DAIA, and comprises both test kits and lab-developed tests. Following years of discussion, on March 5, 2020, identical versions of the VALID Act were introduced in both chambers of Congress. As introduced, the VALID Act includes precertification proposed by the FDA, a process through which diagnostic developers could receive premarket approval or clearance for one test representative of a group of tests using the same technology and have other elements in common. Approval of that representative test would precertify other tests in the group and allow the lab to launch them without premarket review. The VALID Act would also create a new system for labs and hospitals to use to submit their tests electronically to the FDA for approval, which is aimed at reducing the amount of time it takes for the agency to approve such tests, and establish a new program to expedite the development of diagnostic tests that can be used to address a current unmet need for patients. The introduced Valid Act also includes specific language designed to address public health emergencies, including COVID-19. The FDA estimates that between 40% and 50% of tests would qualify for precertification. If enacted, the impact of the VALID Act will be minimal for IVD manufacturers because of the alignment between the VALID Act and existing medical device statutory and regulatory requirements and the fact that such requirements have been enforced for IVD manufacturers for decades; however, it will have a significant impact on clinical laboratories as laboratories will need to comply with many new requirements, including: registration and listing with the FDA; quality requirements; investigational studies; premarket review and approval; adverse event reporting; and corrections and removals (recalls). While the VALID Act outlines a framework for these elements (among others), the law, if enacted, would direct the FDA to promulgate regulations and issue guidance documents, giving clinical laboratories and others ample opportunity to participate in shaping the new IVCT regulatory program.

On March 18, 2020, Senator Rand Paul introduced a bill, called the Verified Innovative Testing in American Laboratories (“VITAL”) Act, which strikes a counterpoint to the proposed VALID Act. VITAL seeks to update existing federal lab standards under the CLIA, specifically stating that all aspects of lab-developed testing procedures would be regulated by the US Health and Human Services Secretary under the Public Health Services Act, and that no aspects of lab-developed testing procedures would be regulated under the Federal Food, Drug, and Cosmetic Act, including during a public health emergency.

While we cannot predict whether the either VALID Act or the VITAL Act as proposed, or any modified version of either act will be enacted into law, it is expected that some form of the acts will be incorporated into a broader health care legislative package widely anticipated to be enacted in 2020. Until the FDA finalizes its regulatory position regarding LDTs, or the VALID Act or other legislation is passed reforming the federal government’s regulation of LDTs, it is unknown how the FDA may regulate our tests in the future and what testing and data may be required to support any required clearance or approval.

California State Laboratory Licensing

In addition to federal certification requirements of laboratories under CLIA, we are required to maintain licensure under California law for our laboratory in Brisbane, California. The California law includes standards for the day-to-day operation of a clinical reference laboratory, including the training and skills required of personnel and quality control. In addition, California laws mandate proficiency testing, which involves testing of specimens that have been specifically prepared for the laboratory. Our clinical laboratory was certified by the state of California in 2017. If we do not meet the requirements of California laws, the California Department of Health Services (“DHS”) may suspend, restrict or revoke our license to operate our laboratory, assess substantial civil money penalties, or impose specific corrective action plans.

Other State Laboratory Licensing

Some states require licensure of out-of-state laboratories that accept specimens from those states. Our laboratories will need to pass various state inspections in order to get licensed to provide LDTs in each of state that requires licensure. CLIA provides that a state may adopt laboratory regulations that are more stringent than those under federal law, and two states, New York and Washington, have met that standard and therefore substitute for the federal CLIA program. In addition, some, but not all, states require a separate state license or permit, which must be obtained in addition to a CLIA certificate, and some states require a laboratory doing business in that state to be licensed even if the laboratory is located in another state.

Our laboratory is licensed by the appropriate state agencies in the states in which we do business, if such licensure is required. If a laboratory is out of compliance with state laws or regulations governing licensed laboratories, a state may impose penalties, which penalties vary from state to state but may include suspension, limitation, revocation or annulment of the license, assessment of financial penalties or fines, or imprisonment. We believe that we are in material compliance with all applicable licensing laws and regulations.

We may become aware from time to time of other states that require out-of-state laboratories to obtain licensure to accept specimens from patients within the state, and other states may impose such requirements in the future. If we identify any other state with such requirements, or if we are contacted by any other state advising us of such requirements, we intend to follow all instructions from the state regulators regarding compliance with such requirements.

In Vitro Diagnostics

In the future, we may elect to develop IVDs, which are regulated by the FDA as medical devices. Medical devices marketed in the United States are subject to the regulatory controls under CLIA, the Federal Food, Drug, and Cosmetic Act, and regulations adopted by the FDA. Some requirements, known as premarket requirements, apply to medical devices before they are marketed, and other requirements, known as post-market requirements, apply to medical devices after they are marketed.

The particular premarket requirements that must be met to market a medical device in the United States will depend on the classification of the device under FDA regulations. Medical devices are categorized into one of three classes, based on the degree of risk they present. Devices that pose the lowest risk are designated as Class I devices; devices that pose moderate risk are designated as Class II devices and are subject to general controls and special controls; and the devices that pose the highest risk are designated as Class III devices and are subject to general controls and premarket approval.

A premarket submission to the FDA will be required for some Class I devices, most Class II devices; and all Class III devices. Most Class I and some Class II devices are exempt from premarket submission requirements. Some Class I and most Class II devices may be marketed after a 510(k) premarket notification, while a more extensive PMA is required to market Class III devices.

Until regulatory requirements suggested by the FDA or required by any new legislation are phased in, our initial confirmatory diagnostics will not require FDA filing before launch. Since the tests we are developing are being developed as LDTs, the regulatory pathway that we will be following is the CLIA certification and inspection pathway.

If the new requirements are phased in or if we elect to develop IVDs, our future screenings diagnostics may require a 510(k) submission or a PMA. In a 510(k) submission, the device sponsor must demonstrate that the new device is “substantially equivalent” to a predicate device in terms of intended use, technological characteristics, and performance testing. A 510(k) requires demonstration of substantial equivalence to another device that is legally marketed in the United States. Substantial equivalence means that the new device is at least as safe and effective as the predicate. A device is substantially equivalent if, in comparison to a predicate it (a) has the same intended use as the predicate and has the same technological characteristics as the predicate; or (b) has the same intended use as the predicate, has different technological characteristics, and the information submitted to the FDA does not raise new questions of safety and effectiveness, and is demonstrated to be at least as safe and effective as the legally marketed predicate device.

A claim of substantial equivalence does not mean the new and predicate devices must be identical. Substantial equivalence is established with respect to intended use, design, energy used or delivered, materials, chemical composition, manufacturing process, performance, safety, effectiveness, labeling, biocompatibility, standards, and other characteristics. A device may not be marketed in the United States until the submitter receives a letter declaring the device substantially equivalent. If the FDA determines that a device is not substantially equivalent, the applicant may resubmit another 510(k) with new data, or request a Class I or II designation through the FDA’s de novo process that allows a new device without a valid predicate to be classified into Class I or II if it meets certain criteria, or file a reclassification petition, or submit a PMA.

A new 510(k) submission is required for changes or modifications to an existing approved device, where the modifications could significantly affect the safety or effectiveness of the device or the device is to be marketed for a new or different indication for use.

A PMA for Class III devices is the most stringent type of premarket submission. Before the FDA approves a PMA, the sponsor must provide valid scientific evidence demonstrating reasonable assurance of safety and effectiveness for the device’s intended use.

Health Insurance Portability and Accountability Act and Other Data Privacy and Security Laws

Under the Health Insurance Portability and Accountability Act (“HIPAA”), the Department of Health and Human Services (“HHS”) has issued regulations to protect the privacy and security of protected health information. HIPAA also regulates standardization of data content, codes and formats used in health care transactions and standardization of identifiers for health plans and providers. Penalties for violations of HIPAA regulations include civil and criminal penalties.

CMS and the Office of Civil Rights issued a final rule in February 2014 to amend both the HIPAA and CLIA regulations. The final rule amended the HIPAA privacy rule to remove the CLIA laboratory exceptions, and as a result, HIPAA-covered laboratories are now required to provide individuals, upon request, with access to their completed test reports. Under the 2014 rule, CLIA laboratories and CLIA-exempt laboratories may provide copies of a patient’s completed test reports that, using the laboratory’s authentication process, can be identified as belonging to that patient. These changes to the CLIA regulations and the HIPAA Privacy Rule are intended to provide individuals with a greater ability to access their health information. CLIA laboratories must create and maintain policies, procedures, and other documentation necessary to inform patients of the right to access laboratory test reports and how to exercise that right.

In addition to the federal privacy regulations, there are a number of state laws regarding the privacy and security of health information and personal data that are applicable to clinical laboratories. The compliance requirements of these laws, including additional breach reporting requirements, and the penalties for violation vary widely and new privacy and security laws in this area are evolving. For example, California has implemented comprehensive privacy laws and regulations. The California Confidentiality of Medical Information Act imposes restrictive requirements regulating the use and disclosure of health information and other personally identifiable information. In addition to fines and penalties imposed upon violators, some of these state laws also afford private rights of action to individuals who believe their personal information has been misused. California’s patient privacy laws, for example, provide for penalties of up to $250,000 and permit injured parties to sue for damages. In addition to the California Confidentiality of Medical Information Act, California also recently enacted the California Consumer Privacy Act of 2018, or CCPA, which became effective January 1, 2020. The CCPA has been characterized as the first “GDPR-like” privacy statute to be enacted in the United States because it mirrors a number of the key provisions of the E.U. General Data Protection Regulation. The CCPA establishes a new privacy framework for covered businesses in the State of California, by creating an expanded definition of personal information, establishing new data privacy rights for consumers imposing special rules on the collection of consumer data from minors, and creating a new and potentially severe statutory damages framework for violations of the CCPA and for businesses that fail to implement reasonable security procedures and practices to prevent data breaches. While data subject to HIPAA and federal regulations governing the conduct of clinical trials is exempt from CCPA, certain of our business activities may be subject to CCPA. While the CCPA statue is in effect, as of March 19, 2020, draft regulations promulgated by the California Attorney General have not yet been finalized and remain open for public comment until March 27, 2020. We cannot predict when regulations will be finalized, and what effect those regulations may have on our operations.

Physician Referral Prohibitions

Under a federal law directed at “self-referral,” commonly known as the Stark Law, there are prohibitions, with certain exceptions, on Medicare and Medicaid payments for laboratory tests referred by physicians who personally, or through a family member, have a “financial relationship”—including an investment or ownership interest or a compensation arrangement—with the clinical laboratory performing the tests. Several Stark Law exceptions are relevant to arrangements involving clinical laboratories, including: (1) fair market value compensation for the provision of items or services; (2) payments by physicians to a laboratory for clinical laboratory services; (3) certain space and equipment rental arrangements that satisfy certain requirements, and (4) personal services arrangements that satisfy certain requirements. The laboratory cannot submit claims to the Medicare Part B program for services furnished in violation of the Stark Law, and Medicaid reimbursements may be at risk as well. Penalties for violating the Stark Law include the return of funds received for all prohibited referrals, fines, civil monetary penalties and possible exclusion from the federal health care programs. Many states have comparable laws that are not limited to Medicare and Medicaid referrals.

In October 2019, HHS proposed changes to the Stark Law, the Anti-Kickback Statute, and the Civil Monetary Penalty Law, which would represent some of the most significant changes to these laws in the last decade. The changes have been promulgated as part of HHS’s “Regulatory Sprint to Coordinated Care,” which was launched in 2018 with the goal of reducing regulatory burden and incentivizing coordinated care. As part of this initiative, CMS and the HHS Office of Inspector General (OIG) began scrutinizing a variety of long-standing regulatory requirements and prohibitions to determine whether they unnecessarily hinder the innovative arrangements that policymakers are otherwise hoping to see develop. The proposed rules reflect a coordinated effort between CMS and OIG to address various challenges to the transition to value-based care. The Stark Law Proposed Rule includes new exceptions designed to enable value-based care arrangements and proposes a long list of additional changes to the Stark Law regulations intended to address many of the most challenging aspects of Stark Law compliance. If finalized, the changes proposed in these rules could present significant opportunities for new arrangements, but may also necessitate revisions to current arrangements involving healthcare providers, others involved in the healthcare industry, and patients.

Corporate Practice of Medicine

A number of states, including California, do not allow business corporations to employ physicians to provide professional services. This prohibition against the “corporate practice of medicine” is aimed at preventing corporations such as us from exercising control over the medical judgments or decisions of physicians. The state licensure statutes and regulations and agency and court decisions that enumerate the specific corporate practice rules vary considerably from state to state and are enforced by both the courts and regulatory authorities, each with broad discretion. If regulatory authorities or other parties in any jurisdiction successfully assert that we are engaged in the unauthorized corporate practice of medicine, we could be required to restructure our contractual and other arrangements. In addition, violation of these laws may result in sanctions imposed against us and/or the professional through licensure proceedings, and we could be subject to civil and criminal penalties that could result in exclusion from state and federal health care programs.

Federal and State Fraud and Abuse Laws

A variety of federal and state laws prohibit fraud and abuse. These laws are interpreted broadly and enforced aggressively by various state and federal agencies, including CMS, the Department of Justice, the Office of Inspector General for HHS, and various state agencies. In addition, the Medicare and Medicaid programs increasingly use a variety of contractors to review claims data and to identify improper payments as well as fraud and abuse. These contractors include Recovery Audit Contractors, Medicaid Integrity Contractors and Zone Program Integrity Contractors. In addition, CMS conducts Comprehensive Error Rate Testing audits, the purpose of which is to detect improper Medicare payments. Any overpayments identified must be repaid unless a favorable decision is obtained on appeal. In some cases, these overpayments can be used as the basis for an extrapolation, by which the error rate is applied to a larger universe of claims, and which can result in even higher repayments.

The federal Anti-Kickback Statute prohibits, among other things, knowingly and willfully offering, paying, soliciting, receiving, or providing remuneration, directly or indirectly, to induce or in return for either the referral of an individual, or the furnishing, recommending, or arranging for the purchase, lease or order of any health care item or service reimbursable, in whole or in part, under a federal health care program. The definition of “remuneration” has been broadly interpreted to include anything of value, including gifts, discounts, credit arrangements, payments of cash, ownership interests and providing anything at less than its fair market value. Recognizing that the Anti- Kickback Statute is broad and may technically prohibit many innocuous or beneficial arrangements within the health care industry, the Office of Inspector General for HHS has issued a series of regulatory “safe harbors.” These safe harbor regulations set forth certain requirements that, if met, will assure immunity from prosecution under the federal Anti-Kickback Statute. Although full compliance with these provisions ensures against prosecution under the federal Anti-Kickback Statute, the failure of a transaction or arrangement to fit within a specific safe harbor does not necessarily mean that the transaction or arrangement is illegal or that prosecution under the federal Anti-Kickback Statute will be pursued.

HIPAA also created new federal crimes, including health care fraud and false statements relating to health care matters. The health care fraud statute prohibits knowingly and willfully executing a scheme to defraud any health care benefit program, including private third-party payers. A violation of this statute is a felony and may result in fines, imprisonment or exclusion from federal health care programs, such as the Medicare and Medicaid programs. The false statements statute prohibits knowingly and willfully falsifying, concealing or covering up a material fact or making any materially false, fictitious or fraudulent statement in connection with the delivery of or payment for health care benefits, items or services. A violation of this statute is a felony and may result in fines, imprisonment or exclusion from federal health care programs.

Many states have laws similar to the federal laws described above, and state laws may be broader in scope and may apply regardless of payer.

Additionally, the U.S. Foreign Corrupt Practices Act (“FCPA”) prohibits U.S. corporations and their representatives from offering, promising, authorizing or making payments to any foreign government official, government staff member, political party or political candidate in an attempt to obtain or retain business abroad. The scope of the FCPA includes interactions with certain healthcare professionals in many countries. Other countries have enacted similar anti-corruption laws and/or regulations.

Other Regulatory Requirements

Our laboratory will be subject to federal, state and local regulations relating to the handling and disposal of regulated medical waste, hazardous waste and biohazardous waste, including chemical, biological agents and compounds, blood samples and other human tissue. Typically, we will use outside vendors who are contractually obligated to comply with applicable laws and regulations to dispose of such waste. These vendors will be licensed or otherwise qualified to handle and dispose of such waste.

The Occupational Safety and Health Administration has established extensive requirements relating to workplace safety for health care employers, including requirements to develop and implement programs to protect workers from exposure to blood-borne pathogens by preventing or minimizing any exposure through needle stick or similar penetrating injuries.

Employees

As of December 31, 2019, we employed 33 persons on a full-time basis. Four of our full-time employees hold Ph.D. degrees in one or more fields of science.