Notes to Unaudited Condensed Financial Statements

Note 1. Description of Business

HTG Molecular Diagnostics, Inc. (the “Company”) is a provider of instruments, reagents and services for molecular profiling applications. The Company derives revenue from sales of its HTG EdgeSeq automation system and integrated next-generation sequencing-based HTG EdgeSeq assays, from research services including sample processing and custom research use only (“RUO”) assay design and from collaborative development services.

The Company operates in one segment and its customers are located primarily in the United States and Europe. For the three months ended March 31, 2018 approximately 79% of the Company’s revenue was generated from sales originated by customers located outside of the United States, compared with 18% for the three months ended March 31, 2017. The increase in sales originated by customers located outside of the United States is primarily the result of collaborative development services revenue generated from the Master Assay Development, Commercialization and Manufacturing Agreement (the “Governing Agreement”) with QIAGEN Manchester Limited (“QML”), a wholly owned subsidiary of QIAGEN N.V. (see Note 16), which accounted for 73% of sales to customers located outside of the United States for the three months ended March 31, 2018.

Note 2. Basis of Presentation and Summary of Significant Accounting Policies

Basis of Presentation

The accompanying interim unaudited condensed financial statements have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”) and reflect the accounts of the Company as of March 31, 2018 and for the quarters ended March 31, 2018 and 2017. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles in the United States of America (“GAAP”) for complete financial statements. The accompanying interim unaudited condensed financial statements reflect all adjustments consisting of normal recurring adjustments which, in the opinion of management, are necessary for a fair statement of the Company’s financial position and the results of its operations and cash flows, as of and for the periods presented. The accompanying interim unaudited condensed balance sheet at December 31, 2017 has been derived from the audited financial statements at that date but does not include all of the information and disclosures required by GAAP for annual financial statements. The results of operations for the interim periods are not necessarily indicative of the results to be expected for the full year. These interim unaudited condensed financial statements should be read in conjunction with the Company’s audited financial statements and notes thereto for the fiscal year ended December 31, 2017, included in the Company’s Annual Report on Form 10-K filed with the SEC on March 23, 2018.

Reclassifications

Certain prior year amounts have been reclassified for consistency with the current period presentation. These reclassifications had no effect on the reported results of operations.

Revenue Recognition

The Company adopted the Financial Accounting Standards Board (“FASB”) new revenue standard, Accounting Standards Codification 606, Revenue from Contracts with Customers (“ASC 606”), on January 1, 2018 using the full retrospective approach. The adoption of this standard did not have an effect on 2017 or 2016 revenue recognition or have a cumulative effect on opening equity, as the timing and measurement of revenue recognition is materially the same under ASC 606 as it was under the prior relevant guidance.

For contracts where the period between when the Company transfers a promised good or service to the customer and when the customer pays is one year or less, the Company has elected the practical expedient to not adjust the promised amount of consideration for the effects of a significant financing component.

The Company has made a policy election to exclude from the measurement of the transaction price all taxes assessed by a government authority that are both imposed on and concurrent with a specific revenue producing transaction and collected by the Company from a customer. Such taxes may include but are not limited to sales, use, value added and certain excise taxes.

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Contract Assets

Contract assets represent the Company’s right to consideration in exchange for goods or services that the Company has transferred to a customer, for which rights to payment are conditional upon something other than the passage of time.

Contract Liabilities

Contract liabilities represent cash receipts for products or services to be delivered in future periods, including up-front fees received relating to custom RUO assay design and sample processing services and collaboration development services. When products or services outputs are delivered to customers, contract liabilities are recognized as earned. Up-front fees received for custom RUO assay design or collaborative development services are recognized on a proportional performance basis as design or development procedures are completed and outputs are produced.

Product Warranty

The Company generally provides a one-year warranty on its HTG EdgeSeq systems covering the performance of system hardware and software in conformance with customer specifications under normal use and protecting against defects in materials and workmanship. The Company may, at its option, replace, repair or exchange products covered under valid warranty claims. This assurance-type warranty is not deemed to be a separate performance obligation under the Company’s contracts with customers for the sale of instruments, as its purpose is to ensure that the product complies with agreed-upon specifications following installation of the instrument. A provision for estimated warranty costs is recognized at the time of sale, through cost of revenue, based upon recent historical experience and other relevant information as it becomes available. The Company continuously assesses the adequacy of its product warranty accrual by reviewing actual claims and adjusts the provision as needed.

Debt Issuance Costs

Costs incurred to issue non-revolving debt instruments are recognized as a reduction to the related debt balance in the accompanying interim unaudited condensed balance sheets and amortized to interest expense over the contractual term of the related debt using the effective interest method. Costs incurred to issue revolving debt instruments are deferred as an asset in the accompanying interim unaudited condensed balance sheets and amortized on a straight-line basis to interest expense over the term of the revolving commitment.

Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. The Company’s significant estimates include revenue recognition, stock-based compensation expense, bonus accrual, income tax valuation allowances, recovery of long-lived assets, inventory obsolescence and inventory valuation. Actual results could materially differ from those estimates.

Fair Value of Financial Instruments

The carrying value of financial instruments classified as current assets and current liabilities approximate fair value due to their liquidity and short-term nature. Investments that are classified as available-for-sale are recorded at fair value, which was determined using quoted market prices, broker or dealer quotations or alternative pricing sources with reasonable levels of price transparency. In October 2017, the Company received $3.0 million in gross proceeds from, and issued a subordinated convertible promissory note (the “QNAH Convertible Note”) in that principal amount to, QIAGEN North American Holdings, Inc. (“QNAH”). As of March 31, 2018, the estimated aggregate fair value of the QNAH Convertible Note is approximately $3.6 million. The fair value estimate is based on the note’s discounted cash flows and estimated option value of the conversion terms. The estimated fair value of the QNAH Convertible Note represents a Level 3 measurement. The fair value of the MidCap Term Loan (see Note 8) is also estimated using Level 3 inputs and approximates fair value as the interest rate approximates the market rate for debt securities with similar terms and risk characteristics. The NuvoGen obligation is an obligation relating to an asset purchase transaction with a then-common stockholder of the Company. Although the obligation is considered a financial instrument, the Company is unable to reasonably determine its fair value as the remaining payments due under the obligation will be made at the greater of a minimum fixed quarterly payment or 6% of revenue, causing variability in the timing and amount of payments and the term of the obligation.

Concentration Risks

Financial instruments that potentially subject the Company to credit risk consist principally of cash and cash equivalents, available-for-sale debt securities and uncollateralized accounts receivable. The Company maintains the majority of its cash balances in the form

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of cash deposi ts in bank checking and money market accounts in amounts in excess of federally insured limits. Management believes, based upon the quality of the financial institution, that the credit risk with regard to these deposits is not significant.

The Company sells its instrument, related consumables, sample processing services, custom RUO assay design and collaborative development services primarily to biopharmaceutical companies, academic institutions and molecular labs. The Company routinely assesses the financial strength of its customers and credit losses have been minimal to date.

The Company’s top three customers accounted for 59%, 9% and 8% of the Company’s total revenue for the three months ended March 31, 2018, compared with 21%, 20% and 17% for the three months ended March 31, 2017. The top two customers accounted for approximately 68% and 11% of the Company’s accounts receivable as of March 31, 2018, compared with approximately 66% and 11% as of December 31, 2017. The largest of these amounts represents accounts receivable relating to work performed under three statements of work entered into under the Company’s Governing Agreement with QML.

The Company currently relies on a single supplier to supply a subcomponent used in the HTG EdgeSeq processors. A loss of this supplier could significantly delay the delivery of processors, which in turn would materially affect the Company’s ability to generate revenue.

Recently Adopted Accounting Pronouncements

In May 2014, the FASB issued Accounting Standards Update (“ASU”) No. 2014-09, Revenue from Contracts with Customers (“ASU 2014-09”), which supersedes nearly all existing revenue recognition guidance under U.S. GAAP. The core principle of ASU 2014-09 is to recognize revenues when promised goods or services are transferred to customers in an amount that reflects the consideration to which an entity expects to be entitled for those goods or services. ASU 2014-09 defines a five-step process to achieve this core principle and, in doing so, more judgment and estimates may be required within the revenue recognition process than were required under prior U.S. GAAP.

In March 2016, the FASB issued ASU No. 2016-08, Revenue Recognition: Clarifying the new Revenue Standard’s Principal-Versus-Agent Guidance (“ASU 2016-08”). The standard amends the principal-versus-agent implementation guidance and illustrations in ASU 2014-09. ASU 2016-08 clarifies that an entity should evaluate whether it is the principal or the agent for each specified good or service promised in a contract with a customer. As defined in ASU 2016-08, a specified good or service is “a distinct good or service (or a distinct bundle of goods or services) to be provided to the customer.” Therefore, for contracts involving more than one specified good or service, the Company may be the principal in one or more specified goods or services and the agent for others.

In April 2016, the FASB issued ASU No. 2016-10, Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing . The amendments in this standard affect the guidance in ASU 2014-09 by clarifying two aspects: identifying performance obligations and the licensing implementation guidance.

In May 2016, the FASB issued ASU No. 2016-12, Revenue from Contracts with Customers (Topic 606): Narrow Scope Improvements and Practical Expedients. The amendments in this standard affect the guidance in ASU 2014-09 by clarifying certain specific aspects of ASU 2014-09, including assessment of collectability, treatment of sales taxes and contract modifications, and providing certain technical corrections.

The new revenue standard and the standards that amend it were effective for public entities for fiscal years and interim periods within those fiscal years beginning after December 15, 2017, using either of the following transition methods: (i) a full retrospective approach reflecting the application of the standard in each prior reporting period with the option to elect certain practical expedients, or (ii) a retrospective approach with the cumulative effect of initially adopting ASU 2014-09 recognized at the date of adoption (which includes additional footnote disclosures). The Company adopted ASC 606 using the full retrospective approach, which did not have an effect on 2017 revenue recognition and did not have a cumulative effect on opening equity, as the timing and measurement of revenue recognition is materially the same as under ASC 605. The Company has presented additional quantitative and qualitative disclosures regarding identified revenue streams and performance obligations for the first quarter ended March 31, 2018 (see Note 9 and Note 16). The Company has also identified and implemented changes to its business processes and internal controls relating to implementation of the new standard.

In January 2016, the FASB issued ASU No. 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities, ( “ASU 2016-01”), which requires equity investments to be measured at fair value with changes in fair value recognized in net income; simplifies the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment; eliminates the requirement for public business entities to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet; requires public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes; requires an entity to present separately in other comprehensive income the portion of the total change in the fair

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value of a liability resultin g from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair value in accordance with the fair value option for financial instruments; requires separate presentation of financial assets and financial l iabilities by measurement category and form of financial assets on the balance sheet or the accompanying notes to the financial statements and clarifies that an entity should evaluate the need for a valuation allowance on a deferred tax asset related to av ailable-for-sale securities in combination with the entity’s other deferred tax assets.  The Company adopted ASU 2016-01 as of January 1, 2018, at which time the standard did not have a significant impact on its interim unaudited condensed financial stateme nts.

In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments, (“ASU 2016-15”), which addresses eight specific cash flow issues with the objective of reducing the existing diversity in practice in how certain cash receipts and cash payments are presented and classified in the statement of cash flows. The Company adopted ASU No. 2016-15 as of January 1, 2018, at which time the adoption of this standard did not have a significant impact on its interim unaudited condensed financial statements.

In May 2017, the FASB issued ASU No. 2017-09, Compensation – Stock Compensation (Topic 718): Scope of Modification Accounting . The new standard provides guidance about which changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting in Topic 718. The Company adopted ASU No. 2017-09 as of January 1, 2018. The adoption of this update did not impact the Company’s interim unaudited condensed financial statements.

New Accounting Pronouncements

The following are new FASB ASUs that have not been adopted by the Company as of March 31, 2018, grouped by their respective effective dates:

January 1, 2019

In February 2016, the FASB issued ASU No. 2016-02, Leases, (“ASU 2016-02”). Under this standard, which applies to both lessors and lessees, lessees will be required to recognize all leases (except for short-term leases) as a lease liability, which is a lessee’s obligation to make lease payments arising from a lease measured on a discounted basis, and as a right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified asset for the lease term. Leases will be classified as either financing or operating, with classification affecting the pattern of expense recognition in the income statement. The new standard is effective for fiscal years and interim periods within those fiscal years beginning after December 15, 2018. A modified retrospective transition approach is required for lessees for capital and operating leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements, with certain practical expedients available. The effect of adoption of this standard on the Company’s financial statements depends on the leases existing at January 1, 2018. Based on the Company’s office and equipment leases at that date and considering the practical expedients, the Company expects that adoption of ASU 2016 ‑ 02 will not have a material effect on its statements of operations, will result in a gross-up on its balance sheets of less than $2.0 million relating to office and equipment leases and will have no effect on its statements of cash flows. The Company will continue to assess the new guidance and its potential applicability, to new agreements that the Company may enter into subsequent to March 31, 2018 through the date of adoption.

In July 2017, the FASB issued ASU 2017-11, Accounting for Certain Financial Instruments with Down Round Features . This new standard makes limited changes to previous guidance on classifying certain financial instruments as either liabilities or equity. The new standard is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years with early adoption permitted, including adoption in an interim period. When considering the Company’s existing financial instruments, the Company does not believe the adoption of this standard will have an effect on its financial statements.

January 1, 2020

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments - Credit Losses , which requires the measurement of expected credit losses for financial instruments carried at amortized cost held at the reporting date based on historical experience, current conditions and reasonable forecasts. The updated guidance also amends the current other-than-temporary impairment model for available-for-sale debt securities by requiring the recognition of impairments relating to credit losses through an allowance account and limits the amount of credit loss to the difference between a security’s amortized cost basis and its fair value. In addition, the length of time a security has been in an unrealized loss position will no longer impact the determination of whether a credit loss exists. The main objective of this ASU is to provide financial statement users with more decision-useful information about the expected credit losses on financial instruments and other commitments to extend credit held by a reporting entity at each reporting date. The standard is effective for fiscal years and interim periods within those fiscal years beginning after December 15, 2019. Early adoption is permitted for fiscal years and interim periods within those fiscal years beginning after December 15, 2018. The Company does not believe the adoption of this standard will have a significant impact on its financial statements, given the high credit quality of the obligors to its available-for-sale debt securities and its limited history of bad debt expense relating to trade accounts receivable.

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The reserve for shrinkage and excess inventory was $63,943 and $62,142 as of March 31, 2018 and December 31, 2017, respectively. For the three months ended March 31, 2018 and 2017, the Company recorded net increases in the inventory reserve of $1,801 and $3,823, respectively, to adjust for estimated shrinkage and obsolescence. For the three months ended March 31, 2018 and 2017, increase in inventory reserve of $11,280 and $192,427, respectively, have been included in the cost of revenue in the accompanying interim unaudited condensed statements of operations.

There are no other financial instruments subject to fair value measurement on a recurring basis. Transfers to and from Levels 1, 2 and 3 are recognized at the end of the reporting period. There were no transfers between levels for the three months ended March 31, 2018 or for the year ended December 31, 2017.

Level 1 instruments include investments in money market funds, U.S. Treasuries and U.S. government agency obligations. These instruments are valued using quoted market prices for identical unrestricted instruments in active markets. The Company defines active markets for debt instruments based on both the average daily trading volume and the number of days with trading activity. Level 2 instruments include corporate debt securities. Valuations of Level 2 instruments can be verified to quoted prices, recent trading activity for identical or similar instruments, broker or dealer quotations or alternative pricing sources with reasonable levels of price transparency. Consideration is given to the nature of the quotations (e.g., indicative or firm) and the relationship of recent market activity to the prices provided from alternative pricing sources.

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Fair values of these assets are based on prices provided by independent market participants that are based on observable inputs using market-based valuation techniques. These valuation models and analytical tools use market pricing or similar instruments that are both o bjective and publicly available, including matrix pricing or reported trades, benchmark yields, broker/dealer quotes, issuer spreads, two-sided markets, benchmark securities, bids and/or offers. The Company did not adjust any of the valuations received fro m these third parties with respect to any of its Level 1 or 2 securities for the periods ended March 31, 2018 or December 31, 2017 and did not have any Level 3 financial assets or liabilities during either of these periods.

The Company had no available-for-sale securities at December 31, 2017.

The net adjustment to unrealized holding gains (losses) on available-for-sale securities, net of tax in other comprehensive income totaled $(11,151) for the three months ended March 31, 2018, and $354 for the three months ended March 31, 2017.

Contractual maturities of debt investment securities at March 31, 2018 are shown below. Expected maturities will differ from contractual maturities because the issuers of the securities may have the right to prepay obligations without prepayment penalties.

The following table shows the gross unrealized losses and fair values of the Company’s investments that have unrealized losses, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position as of March 31, 2018:

For debt securities, the Company determines whether it intends to sell or if it is more likely than not that it will be required to sell impaired securities. This determination considers current and forecasted liquidity requirements, regulatory and capital requirements and securities portfolio management. For all impaired debt securities for which there was no intent or expected requirement to sell, the evaluation considers all available evidence to assess whether it is likely the amortized cost value will be recovered. The Company conducts a regular assessment of its debt securities with unrealized losses to determine whether securities have other-than-temporary impairment considering, among other factors, the nature of the securities, credit rating or financial condition of the issuer, the extent and duration of the unrealized loss, expected cash flows of underlying collateral, market conditions and whether the Company intends

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to sell or it is more likely than not that the Company will be required to sell the debt securities. The Company did not ha ve any other-than-temporary impairment in its available-for-sale securities at March 31, 2018 or December 31, 2017.

Depreciation and leasehold improvement amortization expense was $356,204 and $296,045 for the three months ended March 31, 2018 and 2017, respectively.

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Note 8. Debt Obligations

Growth Term Loan

Total amortization expense for warrant and original issuance discounts in connection with the growth capital term loans under the Loan and Security Agreement dated August 22, 2014 between the Company and Oxford Finance, LLC and Silicon Valley Bank (the “Growth Term Loan”) was $28,188 and $54,405 for the three months ended March 31, 2018 and 2017, respectively, and is included in interest expense in the accompanying condensed statements of operations. Deferred financing cost amortization expense relating to the Growth Term Loan was $2,982 and $5,593 for the three months ended March 31, 2018 and 2017, respectively, and is included in interest expense in the accompanying interim unaudited condensed statements of operations. The Company recorded $0 and $58,538 of discounts associated with the Growth Term Loan in the accompanying interim unaudited condensed balance sheets as of March 31, 2018 and December 31, 2017, respectively.

Extinguishment of Growth Term Loan upon MidCap Credit Facility Closing

In March 2018, the Company repaid all principal and interest amounts outstanding under the Growth Term Loan in an aggregate amount equal to approximately $4.3 million, including collateral agent legal fees and prepayment fees. The repayment was funded with net proceeds from the MidCap Credit Facility (see description of the MidCap Credit Facility below). As a result of the repayment, the Company recorded a loss on extinguishment of the Growth Term Loan of $105,064, including remaining unamortized discounts of $67,272 and prepayment and other Growth Term Loan lender fees in the accompanying interim unaudited condensed statements of operations for the three months ended March 31, 2018. All obligations under the Growth Term Loan have terminated.

MidCap Credit Facility

On March 26, 2018 (the “MidCap Closing Date”), the Company entered into a Credit and Security Agreement (Term Loan) (the “MidCap Term Loan”) and a Credit and Security Agreement (Revolving Loan) (the “MidCap Revolving Loan” and together with the MidCap Term Loan, the “MidCap Credit Facility”) with MidCap Financial Trust, as agent. MidCap Financial Trust subsequently assigned its rights and obligations as agent to MidCap Funding IV Trust.

The MidCap Term Loan provides a secured term loan facility in an aggregate principal amount of up to $20.0 million. The Company borrowed the first advance of $7.0 million (“MidCap Tranche 1”) on the MidCap Closing Date. Under the terms of the MidCap Term Loan, the second advance of $13.0 million (“MidCap Tranche 2”) will be available to the Company on or before September 30, 2019, subject to the Company’s satisfaction of certain conditions described in the MidCap Term Loan, including (a) the Company achieving the first commercial sale of an FDA-approved diagnostic assay utilizing next generation sequencing under its Governing Agreement with QML, and (b) delivery to MidCap of subordination documents in respect of the QNAH Convertible Note (or the satisfaction of alternative arrangements as provided in the MidCap Term Loan, as described below).

MidCap Tranche 1 was used to repay in full all outstanding amounts and fees due under the Growth Term Loan. The proceeds remaining from MidCap Tranche 1 and, if borrowed, the proceeds from MidCap Tranche 2, are expected to be used for working capital and general corporate purposes.

MidCap Tranche 1, and if borrowed MidCap Tranche 2, each bear interest at a floating rate equal to 7.25% per annum, plus the greater of (i) 1.25% or (ii) one-month LIBOR. Interest on each term loan advance is due and payable monthly in arrears and was calculated at a rate of 9.133% for interest accrued as of March 31, 2018. Principal on each term loan advance is payable in 36 equal monthly installments beginning April 1, 2020 until paid in full on March 1, 2023. Prepayments of the term loans under the MidCap Term Loan, in whole or in part, will be subject to early termination fees in an amount equal to 3.0% of principal prepaid if prepayment occurs on or prior to the first anniversary of the MidCap Closing Date, 2.0% of principal prepaid if prepayment occurs after the first anniversary of the MidCap Closing Date but on or prior to the second anniversary of the MidCap Closing Date, and 1.0% of principal prepaid if prepayment occurs after the second anniversary of the MidCap Closing Date and prior to or on the third anniversary of the MidCap Closing Date. In connection with execution of the MidCap Term Loan, the Company paid MidCap a $100,000 origination fee.

Upon termination of the MidCap Term Loan, the Company is required to pay an exit fee equal to 4.50% of the principal amount of all term loans advanced to the Company under the MidCap Term Loan.

The MidCap Term Loan requires that the Company deliver subordination documents with respect to the QNAH Convertible Note, or that the QNAH Convertible Note otherwise be converted or prepaid, on or before June 30, 2018. If neither of such events occurs by such date, the Company must deposit approximately $3.3 million into an escrow account by July 15, 2018. Such escrowed funds will be released to the Company upon subsequent delivery of the requisite subordination documents or conversion of the QNAH Convertible Note. If neither delivery of the subordination documents or conversion of the QNAH Convertible Note occurs, such funds will be applied by the escrow agent to repay in full the QNAH Convertible Note at maturity (or in connection with a

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prepayment at the direction of the Company), subject to (i) the Company having drawn MidCap Tranche 2, (ii) the Company having unrestricted c ash and cash equivalents held in a deposit or securities account subject to a control agreement in favor of the Agent in a minimum amount of $20.0 million and (iii) there being no default under the MidCap Credit Facility.

The MidCap Revolving Loan provides a secured revolving credit facility in an aggregate principal amount of up to $2.0 million. The Company may request an increase in the total commitments under the MidCap Revolving Loan by up to an additional $8.0 million, subject to agent and lender approval and the satisfaction of certain conditions. Availability of the revolving credit facility under the MidCap Revolving Loan will be based upon a borrowing base formula and periodic borrowing base certifications valuing certain of the Company’s accounts receivable and inventory, as reduced by certain reserves, if any. Further, initial availability of the revolving credit facility is conditioned upon completion of an initial borrowing base audit, and the establishment of certain lockbox arrangements by May 10, 2018. There were no amounts outstanding under the MidCap Revolving Loan as of March 31, 2018. The proceeds of any loans under the MidCap Revolving Loan may be used for working capital and general corporate purposes.

Loans under the MidCap Revolving Loan accrue interest at a floating rate equal to 4.25% per annum, plus the greater of (i) 1.25% or (ii) one-month LIBOR. Accrued interest on the revolving loans will be paid monthly and revolving loans may be borrowed, repaid and re-borrowed until March 1, 2023, when all outstanding amounts must be repaid. Subject to certain exceptions, termination or permanent reductions of the revolving loan commitment under the MidCap Revolving Loan will be subject to termination fees in an amount equal to 3.0% of the commitment amount terminated or reduced if such termination or reduction occurs on or prior to the first anniversary of the MidCap Closing Date, 2.0% of the commitment amount terminated or reduced if such termination or reduction occurs after the first anniversary of the MidCap Closing Date but on or prior to the second anniversary of the MidCap Closing Date, and 1.0% of the commitment amount terminated or reduced if such termination or reduction occurs after the second anniversary of the MidCap Closing Date and prior to or on the third anniversary of the MidCap Closing Date.

In connection with the MidCap Revolving Loan, the Company is required to pay customary fees, including an origination fee of 0.50% of the original commitment amount at closing (and an equivalent origination fee with respect to any increased commitments at the time of the applicable increase), a monthly unused line fee of 0.50% per annum based upon the average daily unused portion of the revolving credit facility and a monthly collateral management fee of 0.50% per annum based upon the average daily used portion of the revolving credit facility. The Company is also required to maintain a minimum drawn balance of not less 20% of availability under the revolving line. If the Company does not maintain such minimum drawn balance, it is required to pay monthly interest and fees as if an amount equal to 20% of availability had been drawn down under the revolving line.

The Company’s obligations under the MidCap Credit Facility are secured by a security interest in substantially all of its assets, excluding intellectual property (which is subject to a negative pledge). Additionally, the Company’s future subsidiaries, if any, may be required to become co-borrowers or guarantors under the MidCap Credit Facility.

The MidCap Credit Facility contains customary affirmative covenants and customary negative covenants limiting the Company’s ability and the ability of the Company’s subsidiaries, if any, to, among other things, dispose of assets, undergo a change in control, merge or consolidate, make acquisitions, incur debt, incur liens, pay dividends, repurchase stock and make investments, in each case subject to certain exceptions. Commencing with the calendar quarter ending on the later of (a) March 31, 2019 and (b) the last day of the calendar quarter in which MidCap Tranche 2 is funded, the Company must also comply with a financial covenant relating to trailing twelve-month minimum Net Revenue requirements (as defined in the MidCap Credit Facility), tested on a quarterly basis.

The MidCap Credit Facility also contains customary events of default relating to, among other things, payment defaults, breaches of covenants, a material adverse change, delisting of the Company’s common stock, bankruptcy and insolvency, cross defaults with certain material indebtedness and certain material contracts, judgments, and inaccuracies of representations and warranties. Upon an event of default, agent and the lenders may declare all or a portion of the Company’s outstanding obligations to be immediately due and payable and exercise other rights and remedies provided for under the agreement. During the existence of an event of default, interest on the obligations could be increased by 3.0%.

The Company granted the lender ten-year warrants to purchase 18,123 shares of the Company’s common stock at $7.73 per share as a result of Tranche 1. Upon drawdown of Tranche 2, the Company will issue additional ten-year warrants to purchase shares of the Company’s common stock in an aggregate amount equal to 2.0% of the amount drawn, divided by the exercise price per share for that tranche (defined as 1.5 times the volume-weighted average closing price of the Company’s common stock for the ten business days immediately preceding the business day before the issue date). The fair value of the warrants on the date of issuance was approximately $74,000, determined using the Black-Scholes option-pricing model, and was recorded as a discount to the MidCap Term Loan.

The Company recognized approximately $729,269 of debt discount associated with the MidCap Term Loan, resulting from fees and debt issuance costs, in the accompanying interim unaudited condensed balance sheets as of March 31, 2018. Amortization of the debt

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discount associated with the MidCap Term Loan was approximately $2,701 for the three months ended March 31, 2018 and was included in interest expense in the accompanying interim unaudited condensed statements of operations. Costs incurred in connection with the issuance of the Midcap Revolv ing Loan of $79,197 and presented as MidCap revolving loan costs in the accompanying interim unaudited condensed balance sheets as of March 31, 2018. Amortization of deferred MidCap revolving loan costs was $223 for the three months ended March 31, 2018 an d is included in interest expense in the accompanying interim unaudited condensed statements of operations.

Other Debt Obligations to Related Parties

Refer to Note 16 below for discussion of debt obligation to related parties.

Note 9. Revenue from Contracts with Customers

Revenue from contracts with customers is recognized when, or as, the Company satisfies its performance obligations by delivering the promised goods or service deliverables to the customers. A good or service deliverable is transferred to a customer when, or as, the customer obtains control of that good or service deliverable. A performance obligation may be satisfied over time or at a point in time. Revenue from a performance obligation satisfied over time is recognized by measuring the Company’s progress in satisfying the performance obligation in a manner that depicts the transfer of the goods or services to the customer. Revenue from a performance obligation satisfied at a point in time is recognized at the point in time that the Company determines the customer obtains control over the promised good or service deliverable. The amount of revenue recognized reflects the consideration the Company expects to be entitled to in exchange for those promised goods or services ( i.e. , the “transaction price”). In determining the transaction price, the Company considers multiple factors, including the effects of variable consideration. Variable consideration is included in the transaction price only to the extent it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainties with respect to the amount are resolved. In determining when to include variable consideration in the transaction price, the Company considers the range of possible outcomes, the predictive value of its past experiences, the time period of when uncertainties expect to be resolved and the amount of consideration that is susceptible to factors outside of the Company’s influence, such as the judgment and actions of third parties.

Because the Company’s agreements for product and product-related services revenue have an expected duration of one year or less, the Company has elected the practical expedient in ASC 606-10-50-14(a) to not disclose information about its remaining performance obligations.

Sale of Instruments and Consumables

The delivery of each instrument and related installation and calibration are considered to be a single performance obligation, as the HTG EdgeSeq instrument must be professionally installed and calibrated prior to use. Instrument product revenue is generally recognized upon installation and calibration of the instrument by field service engineers, which represents the point at which the customer has the ability to use the instrument and has accepted the asset. Installation generally occurs within one month of instrument shipment.

The delivery of each consumable is a separate performance obligation. Consumables revenue is recognized upon transfer of control, which represents the point when the customer has legal title and the significant risks of ownership of the asset. The Company’s

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standard terms and conditions provide that no right of return exists for instruments and consumables, unless replacement is necessary due to delivery of defective or damaged product. Customer payment terms vary but are typically between 30 and 90 days of revenue being earned from shipment or delivery, as applicable.

Shipping and handling fees charged to the Company’s customers for instruments and consumables shipped are included in the accompanying condensed statements of operations as part of product and product-related services revenue. Shipping and handling costs for sold products shipped to the Company’s customers are included in the accompanying condensed statements of operations as part of cost of revenue.

For sales of consumables in the United States, standard delivery terms are FOB shipping point, unless otherwise specified in the customer contract, reflecting transfer of control to the customer upon shipment. The Company has elected the practical expedient to account for shipping and handling as activities to fulfill the promise to transfer the consumables.

The Company provides instruments to certain customers under reagent rental agreements. Under these agreements, the Company installs instruments in the customer’s facility without a fee and the customer agrees to purchase consumable products at a stated price over the term of the agreement; in some instances, the agreements do not contain a minimum purchase requirement. Terms range from several months to multiple years and may automatically renew in several month or multiple year increments unless either party notifies the other in advance that the agreement will not renew. The Company measures progress toward complete satisfaction of its performance obligation to provide the instrument and deliver the consumables using an output method based on the number of consumables delivered in relation to the total consumables to be provided under the reagent rental agreement. This is considered to be representative of the delivery of outputs under the arrangement and the best measure of progress because the customer benefits from the instrument only in conjunction with the consumables. The Company expects to recover the cost of the instrument under the agreement through the fees charged for consumables, to the extent sold, over the term of the agreement.

In reagent rental agreements, the Company retains title to the instrument and title is transferred to the customer at no additional charge at the conclusion of the initial arrangement. The cost of the instrument is amortized on a straight-line basis over the term of the arrangement, unless there is no minimum consumable product purchase in which case the instrument would be expensed as cost of revenue upon installation. Cost to maintain the instrument while title remains with the Company is charged to selling, general and administrative expense as incurred.

Sample Processing

The Company also provides sample processing services and molecular profiling of retrospective cohorts for its customers through its VERI/O laboratory, whereby the customer provides samples to be processed using HTG EdgeSeq technology specified in the order. Customers are charged a per sample fee for sample processing services which is recognized as revenue upon delivery of a data file to the customer showing the results of testing and completing delivery of the agreed upon service. This is when the customer can use and benefit from the results of testing and the Company has the present right to payment.

Custom RUO Assay Design and Related Agreements

The Company enters into custom RUO assay design agreements that may generate up-front fees and subsequent payments that might be earned upon completion of design process phases. The Company measures progress toward complete satisfaction of its performance obligation to perform custom RUO assay design using an output method based on the costs incurred to date compared to total expected costs, as this is considered to be representative of the delivery of outputs under the arrangements and the best measure of progress. However, because in most instances the assay development fees are contingent upon completion of each phase of the design project and the decision of the customer to proceed to the next phase, the amount to be included in the transaction price and recognized as revenue is limited to that which the customer is contractually obligated to pay upon completion of that phase, which is when it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur. Changes in estimates of total expected costs are accounted for prospectively as a change in estimate. From period to period, custom RUO assay design service revenue can fluctuate substantially based on the completion of design-related phases.

Bristol-Myers Squibb Company Agreement

In May 2016, the Company entered into a Collaboration Agreement with Bristol-Myers Squibb Company (“BMS”) for the design of at least two custom RUO assays for BMS based on the Company’s HTG EdgeSeq technology. Following design of each assay, at BMS’s request, the Company may also perform sample processing services using such custom RUO assay(s) and/or supply the custom RUO assay(s) to BMS or its third-party subcontractors. Additional custom RUO assay design services related to immuno-oncology research may be undertaken pursuant to the agreement in accordance with a mutually acceptable work plan, which is incorporated by written amendment.

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BMS paid an initial non-refundable, non-creditable program set-up fee upon initiation of the agreement, and has agreed to pay an annual non-refundable, non-creditable project mana gement fee in quarterly installments as well as a custom RUO assay design fee for each assay designed.

In January 2018, the Company and BMS amended the terms of the parties’ May 2016 Collaboration Agreement to increase the development fee payable by BMS to the Company for each of the two initial custom RUO assays contemplated by the agreement from a low six-figure range to a mid six-figure dollar amount, and to modify certain custom RUO assay design requirements. With the amendment of the agreement, the Company estimates that the first custom research assay design project initiated under this agreement will be completed in the third quarter of 2018.

The Company has determined that the agreement does not meet the definition of a collaborative arrangement and that BMS meets the definition of a customer under ASC 606. Additionally, each SOW issued for an RUO custom assay design project contemplated by the agreement represents a single performance obligation to provide custom RUO assay design services. In addition, if BMS should opt to purchase completed custom RUO assay kits or sample processing services, these add-on services would not be combined with the custom RUO assay design performance obligations. Instead, these would be additional contracts with BMS accounted for using the Company’s policy for consumable product and sample processing revenue recognition under ASC 606 at the time such request is made.

The initial set-up fee is a fixed fee and is included in the transaction price. The RUO custom assay design fee relating to each assay design project contemplated under the agreement represents variable consideration because the assay design fees are contingent upon completion of each phase of the design project and the decision of BMS to proceed to the next phase. The quarterly project management fees represent variable consideration because they are payable by BMS through the completion of the second of the two custom assay design projects or termination of the agreement. The Company uses the most likely amount method to measure the variable consideration for its RUO custom assay design fees, which are constrained and excluded from the transaction price until BMS is contractually obligated to pay the fees upon completion of that phase, which is when it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur.

The initial set-up fee is included in the transaction price and is being recognized as revenue using an output method that measures progress based on the specific output provided to BMS, such as an internal document generated or conclusion reached.

The agreement will expire on May 11, 2019 or, if a project is then ongoing, the date of delivery of the final report for such project. Either party may terminate the agreement upon the other party’s material breach or default in the performance of a material obligation under the agreement or if certain warranties or representations are untrue in any material respect (each a “BCA Default”) and such BCA Default remains uncured for 60 days or such longer period if the BCA Default cannot be cured within 60 days. BMS may terminate a project upon 90 days’ prior written notice to the Company.

For the three months ended March 31, 2018 and 2017, $61,305 and $31,250, respectively, was recognized under the agreement as product and product-related services revenue in the condensed statements of operations. Contract liabilities relating to this agreement of $130,051 and $160,106 were included in the accompanying interim unaudited condensed balance sheets as of March 31, 2018 and December 31, 2017, respectively. As of March 31, 2018, the aggregate amount of the transaction price allocated to the partially unsatisfied performance obligation was $56,000. The Company expects to recognize the revenue for this amount between April 2018 and May 2019 using the same output method that the Company uses for its custom RUO assay design performance obligations with BMS.

See Note 16 for discussion of collaborative development services contracts with related parties. There was no collaborative development services revenue generated from the Company’s companion diagnostic development services agreements with non-related party customers for the three months ended March 31, 2018 or 2017. This includes the Company’s Master CDx Agreement with Merck KGaA, Darmstadt, Germany, for which there have been no significant modifications or financial events relating to the agreement since the disclosures made by the Company in its Annual Report on Form 10-K, filed with the SEC on March 23, 2018.

Contract Liabilities

The Company receives up-front payments from customers for custom RUO assay design services, and occasionally for sample processing services. Payments for instrument extended warranty contracts are made in advance as are payments for certain agreed-upon capital purchases required for collaborative development service projects. The Company recognizes such up-front payments as a

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contract liability. The contract liability is subsequently reduced at the point in time that the data file is delivered for sample processing services or as the Company satisfies its performance obligations over time for RUO assay design, collaborative development and extended warranty services. Contract liabilities of $604,809 and $837,885 were included in contract liabilities – current and other non-current liabilities in the accompanying condensed balance sheets as of March 31, 2018 and December 31, 2 017, respectively.  

Changes in the Company’s contract liability were as follows as of the date indicated:

Included in recognition of deferred revenue for the three months ended March 31, 2018 was a cumulative catch up adjustment of $30,055 to custom RUO assay design revenue relating to the modification of the BMS custom RUO assay design agreement in January 2018 discussed above.

Note 10. Other Agreements

NuvoGen Obligation

Pursuant to the Company’s asset purchase agreement with NuvoGen Research, LLC (“NuvoGen”), as amended, the Company is obligated to pay NuvoGen the greater of $400,000 or 6% of annual revenue until the obligation is paid in full. Although an amendment to the agreement allowed for deferral of any revenue-based payments through December 31, 2017, no revenue-based payments were deferred. In addition to fixed quarterly payments of $100,000, revenue-based payments of $149,519 and $85,574 were payable as of March 31, 2018 and December 31, 2017, respectively. There have been no significant modifications to the terms and conditions of the Company’s NuvoGen obligation since the disclosures made in the Company’s Annual Report on Form 10-K, filed with the SEC on March 23, 2018.

The minimum remaining payments due to NuvoGen at March 31, 2018, including $149,519 of additional revenue-based payments payable as of March 31, 2018, are as follows for each fiscal year, although actual payments could be significantly more than provided in the table, to the extent that 6% of the Company’s annual revenue exceeds $400,000:

Other Development Agreements

There have been no significant modifications or financial events relating to the development agreements entered into by the Company in prior periods with Invetech PTY Ltd. or Illumina, Inc. since the disclosures made by the Company in its Annual Report on Form 10-K, filed with the SEC on March 23, 2018.

Note 11. Net Loss Per Share

Basic loss per common share is computed by dividing net loss by the weighted average number of common shares outstanding during the reporting period. Diluted loss per common share is computed similar to basic loss per common share except that it reflects the potential dilution that could occur if dilutive securities or other obligations to issue common stock were exercised or converted into common stock.

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The following table provides the numerator and denominator used in computing basic and diluted net loss per share for the periods indicated:

The following outstanding securities were excluded from the computation of diluted net loss per share for the periods presented because their effect would have been anti-dilutive:

Note 12. Warrants

In connection with certain of its redeemable convertible preferred stock issuances, convertible debt financings and other financing arrangements, the Company has issued warrants for shares of its common stock and various issues of its redeemable convertible preferred stock which have since been converted to common stock warrants. There have been no significant modifications or financial events relating to the warrants that were issued prior to December 31, 2017 since the disclosures made by the Company in its Annual Report on Form 10-K, filed with the SEC on March 23, 2018.

In March 2018, in connection with the Company’s entry into the MidCap Credit Facility (see Note 8), the Company issued warrants to purchase an aggregate of 18,123 shares of the Company’s common stock, at an exercise price equal to $7.73 per share as a result of the funding of MidCap Tranche 1. The warrants are immediately exercisable and expire on the earlier to occur of the tenth anniversary of the respective issue date or, in certain circumstances, the closing of a merger, sale or other consolidation transaction in which the consideration is cash, stock of a publicly traded acquirer, or a combination thereof.

The following table shows the common stock warrants outstanding as of March 31, 2018:

Note 13. Stockholders’ Deficit

Public Offerings

ATM Offering

In April 2017, the Company entered into a Controlled Equity Offering Sales Agreement (the “Sales Agreement”) with Cantor Fitzgerald & Co. (“Cantor”), as sales agent, pursuant to which the Company had the right to offer and sell, from time to time, through Cantor, shares of the Company’s common stock, par value $0.001 per share, by any method deemed to be an “at the market offering” as defined in Rule 415 under the Securities Act of 1933, as amended (the “ATM Offering”). In April 2017, the Company also filed a prospectus supplement (File No. 333-216977) with the SEC relating to the offer and sale of up to $20.0 million of common stock in the ATM Offering. In June 2017, the Company filed a first amendment to the prospectus supplement with the SEC to increase the

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amount of common stock that could be offered and sold in the ATM Offering under the Sales Agreement to $40.0 million in the aggregate, inclusive of the common stock previousl y sold in the ATM Offering prior to the date of the first amendment. In January 2018, the Company filed a second amendment to the prospectus supplement with the SEC to decrease the amount of common stock that could be offered and sold in the ATM Offering u nder the Sales Agreement to $23.0 million in the aggregate, inclusive of the common stock sold in the ATM Offering prior to the date of the second amendment. In February 2018, the Company and Cantor mutually agreed to terminate the Sales Agreement.

As of March 31, 2018, the Company has sold 5,733,314 shares of common stock under the ATM Offering at then-market prices for total gross proceeds of approximately $21.1 million, including 0.3 million shares of common stock sold for gross proceeds of $0.6 million during the first quarter ended March 31, 2018. After $0.6 million of sales commissions and $0.2 million of other offering expenses paid by the Company in connection with the ATM Offering, the Company’s aggregate net proceeds through March 31, 2018 were approximately $20.2 million. Sales commissions and offering expenses have been recorded as a reduction of proceeds received in arriving at the amount recorded in additional paid-in capital in the accompanying interim unaudited condensed balance sheets as of March 31, 2018 and December 31, 2017.

Underwritten Public Offering

In January 2018, the Company completed an underwritten public offering of 13,915,000 shares of its common stock at a price of $2.90 per share, including 1,815,000 shares sold pursuant to the exercise in full of the underwriters’ option to purchase additional shares. The Company sold its common stock through an underwriting agreement with Leerink Partners LLC and Cantor as representatives of the underwriters for the offering. The aggregate net proceeds to the Company from the offering were approximately $37.7 million, after deducting the underwriting discounts and commissions and offering expenses.

As of March 31, 2018, there was total unrecognized compensation expense of $584,806 related to unvested stock options, which the Company expects to recognize over a weighted-average period of approximately 1.83 years.

A summary of restricted stock unit (“RSU”) activity for the three months ended March 31, 2018 is as follows:

Unrecognized compensation expense related to the remaining unvested RSUs was $44,943 at March 31, 2018, which the Company expects to recognize over a weighted-average remaining service period of 1.59 years.

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Stock-based compensation expense recorded in the accompanying interim unaudited condensed statements of operations for the three months ended March 31, 2018 and 2017 was as follows:

Stock-based compensation expense for the three months ended March 31, 2018 included $1.0 million of selling, general and administrative compensation expense relating to the issuance of 259,551 shares under RSUs granted by the Company in January 2018 at a grant date fair value of $3.84 per share. The RSUs vested in full on January 29, 2018.

Note 14. Commitments and Contingencies

Compensation Agreements

In September 2017, the Company entered into an arrangement with certain of its non-executive officer employees to provide for retention bonus payments to those eligible employees providing continuing service to the Company through July 31, 2018 and December 31, 2018, respectively, with one half of the retention bonus commitment payable at each of these dates. Compensation expense of $228,225 has been included in the accompanying interim unaudited condensed statements of operations the three months ended March 31, 2018. Retention bonus accrual is included in accrued liabilities in the accompanying interim unaudited condensed balance sheets as of March 31, 2018. The remaining retention bonuses will be accrued on a straight-line basis through December 31, 2018. No forfeiture rate has been estimated. Forfeitures will be recognized as they occur.

Legal Matters

The Company’s industry is characterized by frequent claims and litigation, including claims regarding intellectual property and product liability. As a result, the Company may be subject to various legal proceedings from time to time. The results of any current or future litigation cannot be predicted with certainty, and regardless of the outcome, litigation can have an adverse impact on us because of defense and settlement costs, diversion of management resources, and other factors. Any current litigation is considered immaterial and counter claims have been assessed as remote.

Leases

The Company leases office and laboratory space in Tucson, Arizona under two non-cancelable operating leases. There have been no changes to the Company’s office and laboratory space leases since the disclosures made by the Company in its Annual Report on Form 10-K, filed with the SEC on March 23, 2018.

The Company’s remaining minimum real estate lease payments before common area maintenance charges for each fiscal year as of March 31, 2018 are as follows:

As of March 31, 2018, the Company also has remaining capital lease commitments consisting of approximately $93,375 for computer equipment varying in length from 36 to 48 months that has not been included in the minimum lease payments schedule above.

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Warranty reserve is included in accrued liabilities in the accompanying interim unaudited condensed balance sheets as of March 31, 2018 and December 31, 2017. Expense relating to the recording of this reserve is recorded in cost of revenue within the accompanying interim unaudited condensed statements of operations.

Note 15. Income Taxes

The Company provides for income taxes based upon management’s estimate of taxable income or loss for each respective period. The Company recognizes an asset or liability for the deferred tax consequences of temporary differences between the tax bases of assets and liabilities and their reported amounts in the financial statements. These temporary differences would result in deductible or taxable amounts in future years, when the reported amounts of the assets are recovered or liabilities are settled, respectively.

In each period since inception, the Company has recorded a valuation allowance for the full amount of its net deferred tax assets, as it is not more likely than not that these will be realized. As a result, the Company has not recorded any federal or state income tax benefit in the accompanying interim unaudited condensed statements of operations; however, state income tax expense has been recorded for state minimum taxes.

The Company periodically reviews its filing positions for all open tax years in all U.S. federal, state and international jurisdictions where the Company is or might be required to file tax returns or other required reports.

The Company applies a two-step approach to recognizing and measuring uncertain tax positions. The Company evaluates the tax position for recognition by determining if the weight of available evidence indicates that it is more likely than not that the position will be sustained in a court of last resort. The term “more likely than not” means a likelihood of more than 50 percent. Otherwise, the Company may not recognize any of the potential tax benefit associated with the position. The Company recognizes a benefit for a tax position that meets the more likely than not criterion at the largest amount of tax benefit that is greater than 50 percent likely of being realized upon its effective resolution. Unrecognized tax benefits involve management’s judgment regarding the likelihood of the benefit being sustained. The final resolution of uncertain tax positions could result in adjustments to recorded amounts and may affect the Company’s results of operations, financial position and cash flows. The Company has not identified any uncertain tax positions at March 31, 2018 or December 31, 2017.

The Company’s policy is to recognize interest and/or penalties related to income tax matters in income tax expense. The Company had no accrual for interest or penalties at March 31, 2018 and December 31, 2017, respectively, and has not recognized interest or penalties of significance during the three months ended March 31, 2018 and 2017, respectively, since there are no material unrecognized tax benefits. The Company has not made or had payments due for income taxes for the periods ended March 31, 2018 or December 31, 2017, other than state minimum taxes. Management believes no material change to the amount of unrecognized tax benefits will occur within the next 12 months.

The Company has established a valuation allowance against the entire net deferred tax asset. A preliminary analysis of past and subsequent equity offerings by the Company, and other transactions that have an impact on the Company’s ownership structure, concluded that the Company may have experienced one or more ownership changes under Sections 382 and 383 of the Internal Revenue Code or IRC. Provisions of the IRC place special limitations on the usage of net operating losses and credits following an ownership change. Such limitations may limit or eliminate the potential future tax benefit to be realized by the Company from its accumulated net operating losses and research and development credits.

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On December 22, 2017, federal tax legislation commonly referred to as the Tax Cuts and Jobs Act (“Tax Act”) was signed into law. The Tax Act, among other changes, red uced the U.S. federal corporate tax rate from 35% to 21%, effective January 1, 2018. Consequently, for the year ended December 31, 2017, the Company recorded a decrease related to deferred tax assets of $16,232,211, exclusive of the corresponding change in the valuation allowance. Due to the full valuation allowance on the deferred tax assets, there was no net adjustment to the deferred tax expense or benefit due to the reduction of the corporate tax rate. Other changes effective January 1, 2018 include, bu t are not limited to, creating a new limitation on deductible interest expense, eliminating the corporate alternative minimum tax, modifying the rules related to uses and limitations of net operating loss carryforwards generated in tax years ending after D ecember 31, 2017, limiting the deductibility of certain executive compensation, and changing the rules pertaining to the taxation of profits earned abroad. The Company expects to be subject to the new limitation on deductible interest expense in 2018; howe ver, the disallowed interest may be carried forward indefinitely. The Company’s net operating losses generated in 2018 and thereafter, if any, will be subject to a new indefinite carryforward period; however, utilization of these net operating losses will be limited to 80% of taxable income in the year utilized. Net operating loss carryforwards existing as of December 31, 2017 will not be subject to this new limitation; however, those carryforwards will remain subject to the 20-year expiration period.

Note 16. Related Party Transactions

Master Assay Development, Commercialization and Manufacturing Agreement

In November 2016, the Company entered into the Governing Agreement, which creates the framework for QML and the Company to combine their technological and commercial strengths to offer biopharmaceutical companies a complete NGS-based solution for the development, manufacture and commercialization of companion diagnostic assays. Under the Governing Agreement, the parties jointly seek companion diagnostic programs with biopharmaceutical companies, QML enters into sponsor project agreements with interested biopharmaceutical companies for specified projects, and QML and the Company enter into statements of work (each, an “SOW”), which set forth the rights and obligations of QML and the Company with respect to each project. There have been no significant modifications or financial events relating to the Governing Agreement since the disclosures made by the Company in its Annual Report on Form 10‑K, filed with the SEC on March 23, 2018, other than with regard to the initiation of new SOWs under the Governing Agreement as discussed below.

The Company has determined that SOW One, SOW Two, and SOW Three (each defined below) are collaborative arrangements and that QML meets the definition of a customer under ASC 606. Additionally, each SOW is a separate contract with a single performance obligation to provide development services. Under each SOW, QML pays the Company a monthly fee for development work performed by Company and its subcontractors (collectively, the “Monthly Fee”). The Monthly Fee is based on the employee and materials costs incurred during the month, which is subject to significant variability from period to period and unknown until the costs are incurred. Therefore, the Monthly Fee, which is based on use of hours and costs as a measure of progress, is included in the transaction price and recognized as revenue over time when the costs are incurred and the Monthly Fee is billed to QML. It is at this time that it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur. The Company and QML also will share any net profits resulting from performance of the development work as determined pursuant to the Governing Agreement. Such profit sharing payment(s) is deemed to be variable consideration using the expected value method and is included in the transaction price upon completion of the respective SOW deliverables, acceptance of corresponding deliverables, and the mutual agreement by QML and the Company on the calculation of net profit, which is when it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur.

Because each SOW has an expected duration of one year or less, the Company has elected the practical expedient in ASC 606-10-50-14(a) to not disclose information about its remaining performance obligations for each SOW.

Statement of Work No. One

In June 2017, the Company and QML entered into the first statement of work under the Governing Agreement, which has been twice amended in December 2017 and March 2018 (collectively, “SOW One”). SOW One addresses the activities of the Company and QML in support of the development and potential commercialization of a next generation sequencing-based companion diagnostic assay that is the subject of a sponsor project agreement between QML and a biopharmaceutical company (“Pharma One”). With the completion of development activities under the original SOW and its first amendment, the second amendment relates to the next-phase development activities, including assay design verification and preparation for regulatory submission, for the project. QML will pay the Company low, single-digit millions of dollars in development fees for the next-phase development activities. In addition, the Company and QML will share in any net profits (as determined under the Governing Agreement) generated in completion of the next-phase milestone deliverables. The next-phase development activities are expected to be completed in the second quarter of 2018. Successful completion of the next-phase activities is expected to lead to further project development activities and the potential commercialization of a companion diagnostic assay for a corresponding Pharma One drug.

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Revenue of $1,318,718, relating to SOW One Monthly Fees have been included in collaborative development services revenue in the accompanying interim unaudited condensed statements of operations for the three months ended March 31, 2018. Ac counts receivable relating to SOW One of $1,295,079 and $2,429,152 remained in the accompanying interim unaudited condensed balance sheets as of March 31, 2018 and December 31, 2017, respectively. Costs relating to development activities conducted by the C ompany pursuant to SOW One of $1,046,121 have been included in research and development expense in the accompanying interim unaudited condensed statements of operations for the three months ended March 31, 2018. No costs or revenue relating to SOW One were included in the accompanying interim unaudited condensed statements of operations for the three months ended March 31, 2017 as SOW One was not effective until June 2017.

Statement of Work No. Two

In October 2017, the Company and QML entered into the second statement of work under the Governing Agreement (“SOW Two”). SOW Two was made effective as of June 2, 2017 (“Onset Date”). SOW Two addresses development activities conducted by the Company and QML since the Onset Date and those expected to be further conducted by parties in connection with a sponsor project agreement, dated June 2, 2017, between QML and BMS (the “BMS/QML SPA”). There have been no significant modifications to SOW Two since the disclosures made by the Company in its Annual Report on Form 10-K, filed with the SEC on March 23, 2018.

Revenue of $610,991, relating to SOW Two Monthly Fees have been included in collaborative development services revenue in the accompanying interim unaudited condensed statements of operations for the three months ended March 31, 2018. Accounts receivable relating to SOW Two of $130,133 and $1,796,157 remained in the accompanying interim unaudited condensed balance sheets as of March 31, 2018 and December 31, 2017, respectively. Costs relating to development activities conducted by the Company pursuant to SOW Two of $343,266 have been included in research and development expense in the accompanying interim unaudited condensed statements of operations for the three months ended March 31, 2018. No costs or revenue relating to SOW Two were included in the accompanying interim unaudited condensed statements of operations for the three months ended March 31, 2017 as SOW Two was not established until October 2017.

Statement of Work No. Three

In January 2018, the Company and QML entered into a third statement of work (“SOW Three”) under the Governing Agreement. SOW Three relates to development activities for a next generation sequencing-based clinical-trial assay (“SOW Three Project”) in connection with a sponsor project agreement between QML and a pharmaceutical company (“Pharma Three”). If successfully completed, the SOW Three Project is expected to lead to subsequent assay development activities and the potential commercialization of a companion diagnostic assay for a corresponding Pharma Three drug.

Under the terms of SOW Three, the Company has agreed to assign its rights in certain SOW Three Project-related intellectual property (“Project IP”) predominantly related to Pharma Three’s drug candidate(s) to QML for ultimate assignment to Pharma Three in accordance with the sponsor project agreement between QML and Pharma Three. Improvements to the background intellectual property of the Company, QML and Pharma Three generally will be owned solely by the respective party. Otherwise, Project IP will be jointly owned among the Company, QML and Pharma Three.

Pursuant to the terms of SOW Three, if Pharma Three terminates the sponsor project agreement with QML or the SOW Three Project due to the Company’s uncured material breach of SOW Three, the Company will be required to negotiate in good faith with Pharma Three a non-exclusive, royalty-bearing license to certain Company intellectual property as reasonably necessary for Pharma Three to research, develop and commercialize an IVD assay meeting the same specifications as SOW Three.

Neither QML nor the Company have the right to terminate SOW Three or the Governing Agreement to the extent it relates to SOW Three upon a change of control of either party. In addition, if Pharma Three terminates the sponsor project agreement or the SOW Three Project for an uncured material breach that is directly caused by the Company or QML, then, for the non-breaching party, the exclusivity obligation of the Governing Agreement will terminate solely with respect to the development for Pharma Three and/or its affiliates of an IVD assay meeting the same specifications as in SOW Three.

SOW Three expires upon completion of the SOW Three Project and receipt by the Company of all amounts due for such work . QML will pay the Company for the initial phase development services performed for SOW Three. In addition, the Company and QML will share in any net profits (as determined under the Governing Agreement) generated during the initial phase work on an approximately quarterly basis throughout the term of SOW Three.

Revenue of $348,906, relating to SOW Three Monthly Fees, and $146,491, relating to SOW Three profit sharing payments have been included in collaborative development services revenue in the accompanying interim unaudited condensed statements of operations for the three months ended March 31, 2018. Accounts receivable relating to SOW Three of $495,397 and $0 remained in the accompanying interim unaudited condensed balance sheets as of March 31, 2018 and December 31, 2017, respectively. Costs relating

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to development activities conducted by the Company pursuant to SOW Three of $226,855 have been included in research and development expense in the accompanying interim unaudited condensed statements of operat ions for the three months ended March 31, 2018. No costs or revenue relating to SOW Three were included in the accompanying interim unaudited condensed statements of operations for the three months ended March 31, 2017 as SOW Three was not established unti l January 2018.

QNAH Convertible Note Agreement

In October 2017, the Company issued a subordinated convertible promissory note to QNAH in the principal amount of $3.0 million against receipt of cash proceeds equal to such principal amount. There have been no significant modifications or financial events relating to QNAH Convertible Note since disclosures made by the Company in its Annual Report on Form 10-K, filed with the SEC on March 23, 2018.

The Company recorded $35,877 and $39,240 of deferred financing costs incurred in connection with the issuance of the note under the QNAH Convertible Note in the accompanying interim unaudited condensed balance sheets as of March 31, 2018 and December 31, 2017, respectively. Amortization of the QNAH Convertible Note deferred financing costs was $3,363 for the three months ended March 31, 2018. Interest accrued on the QNAH Convertible Note for the three months ended March 31, 2018 was $30,822. Both amounts were included in interest expense in the accompanying interim unaudited statements of operations for the three months ended March 31, 2018. There was no interest accrued or deferred financing cost amortization relating to the QNAH Convertible Note for the three months ended March 31, 2017.

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