Cocrystal Pharma, Inc. 10-K

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations The following discussion and analysis should be read in conjunction with the Consolidated Financial Statements included elsewhere in this report. Company Overview We develop novel medicines for use in the treatment of human viral diseases. Cocrystal has been developing novel technologies and approaches to create first-in-class and best-in-class antiviral drug candidates since 2008. Our focus is to pursue the development and commercialization of broad-spectrum antiviral drug candidates that will transform the treatment and prophylaxis of viral diseases in humans. By concentrating our research and development efforts on viral replication inhibitors, we plan to leverage our infrastructure and expertise in these areas. During fiscal year ended December 31, 2022, the following key aspects of our business advanced: Pandemic and Seasonal Influenza A ● Our novel oral PB2 inhibitor, CC-42344, has shown excellent antiviral activity against influenza A strains including pandemic and seasonal strains, as well as strains resistant to Tamiflu® and Xofluza®. ● We initiated enrollment in our randomized, double-controlled, dose-escalating Phase 1 study to evaluate the safety, tolerability and pharmacokinetics of orally administered CC-42344 in healthy adults. 43 ● In April 2022 we announced preliminary Phase 1 study data, demonstrating a favorable safety and PK profile in the first two cohorts in the single-ascending dose portion of the study. ● In July 2022 we reported PK results from the single-ascending dose of the study supporting once-daily dosing. ● In December 2022 we reported favorable safety and tolerability results from the Phase 1 study with CC-42344 for influenza A. ● We entered into an agreement with a United Kingdom-based clinical research organization to conduct a human challenge Phase 2a study evaluating safety, viral and clinical measures of orally administered CC-42344 in influenza A-infected subjects. Under the human challenge model, healthy adults will be infected with the influenza A virus under carefully controlled conditions, which we believe will hasten trial enrollment. ● Preparations made to apply with the United Kingdom Medicines and Healthcare Products Regulatory Agency in the first half of 2023 to conduct a human challenge Phase 2a study. Pending clearance by the agency, we expect to initiate the study in the second half of 2023. ● Preclinical development is underway with an inhaled formulation of CC-42344 as a treatment and prophylaxis for influenza A. Pandemic and Seasonal Influenza A/B Program ● Merck Sharp & Dohme Corp. notified the Company that they continue development activities with the compounds discovered under a collaborative Exclusive License and Research Collaboration Agreement to discover and develop certain proprietary influenza antiviral agents that are effective against both influenza A and B strains. This agreement includes milestone payments of up to $156 million plus royalties on sales of products discovered under the agreement. Oral Protease Inhibitor CDI-988 ● We selected CDI-988 as our lead candidate for development as a potential oral treatment for SARS-CoV-2. CDI-988 , which was designed and developed using our proprietary structure-based drug discovery platform technology, targets a highly conserved region in the active site of SARS-CoV-2 3CL (main) protease required for viral RNA replication. ● We are currently conducting good laboratory practice (GLP) toxicology studies in preparation for a Phase 1 study. ● Preparations are underway to submit an application to the Australian regulatory authority for a planned randomized, double-blind, placebo-controlled Phase 1 study. Pending regulatory clearance, we expect to initiate the study in the first half of 2023. Intranasal/Pulmonary Protease Inhibitor CDI-45205 ○ An IND-enabling study is ongoing with CDI-45205, our novel SARS-CoV-2 3CL (main) protease inhibitor being developed as a potential treatment for COVID-19 and its variants. Replication Inhibitors ○ We are using our proprietary structure-based drug discovery platform technology to discover replication inhibitors for orally administered therapeutic and prophylactic treatments for SARS-CoV-2. Replication inhibitors hold potential to work with protease inhibitors in a combination therapy regimen. Norovirus Program ● We are developing certain proprietary broad-spectrum, non-nucleoside polymerases for the treatment of human norovirus infections using our proprietary structure-based drug design technology platform. We also hold exclusive rights to norovirus protease inhibitors for use in humans under the KSURF license. 44 Results of Operations Research and Development Expense Research and development expenses consist primarily of compensation-related costs for our ten employees dedicated to research and development activities and for our Scientific Advisory Board members, as well as lab supplies, lab services, and facilities and equipment costs. Total research and development expenses were $12,392,000 for the year ended December 31, 2022, compared with $8,794,000 for the year ended December 31, 2021. The increase of $3,598,000 was primarily due to advancing our influenza lead candidate CC-42344 through a Phase 1 trial and preparation for a Phase 2a clinical trial planned for 2023, as well as advancing our lead COVID-19 clinical oral candidate CDI-988 in preparation for a Phase 1 clinical trial planned for 2023. General and Administrative Expense General and administrative expenses include compensation-related costs for our employees dedicated to general and administrative activities, legal fees, audit and tax fees, consultants and professional services, and general corporate expenses. General and administrative expenses were $5,745,000 for the year ended December 31, 2022, compared with $5,427,000 for the year ended December 31, 2021. This increase of $318,000 was primarily due professional fees and litigation. In the ordinary course of business, the Company entered into non-cancellable related party leases for its facilities (see Note 13 – Transactions with Related Parties in the following Consolidated Financial Statements). Goodwill Impairment During the six months ended June 30, 2022, the Company saw a significant decrease in its price of common stock resulting in an overall reduction in market capitalization and our recorded net book value exceeded our market capitalization as of June 30, 2022. Pre-impairment, the carrying value of the reporting unit exceeded the market capitalization of the Company at June 30, 2022 and concluded that goodwill was impaired in its entirety and recorded during the second quarter ended June 30, 2022 a $19,092,000 non-cash impairment. As of December 31, 2022, the Company had no remaining goodwill. Legal Settlement In July 2022, the Company filed a legal appeal and deposited $1,600,000 with the United State District Court for the District of Delaware as security during pending our appeal. During the second quarter ended June 30, 2022, the Company recorded a legal judgement for this amount inclusive of estimated costs. Interest Income/Expense Interest expense was $2,000 for the year ended December 31, 2022, compared to $4,000 for the year ended December 31, 2021. The interest expense in 2022 and 2021 is related to lease agreements. Other Income/Expense Other income/expense, net, was an expense of $8,000 for the year ended December 31, 2022 compared with income of $36,000 for the year ended December 31, 2021. This year-over-year change primarily consisted of recognized non-cash changes in the fair value of our derivative liabilities as our stock price fluctuated. Under accounting principles generally accepted in the United States, we record other income or expense for the change in fair value of our outstanding warrants that are accounted for as liabilities during each reporting period. If the value of the warrants increases during a period, which occurred during the year ended December 31, 2022, we record other income. The fair value of our outstanding warrants is inversely related to the fair value of the underlying common stock; as such, a decrease in the fair value of our common stock during a given period generally results in other income while an increase in the fair value of our common stock generally results in other expense. 45 Net Loss We had a net loss of $38,837,000 for the year ended December 31, 2022, compared to a net loss of $14,185,000 for the year ended December 31, 2021. This increase of $24,652,000 was primarily due to a $19,092,000 non-cash impairment-loss of goodwill and increased research and development expenses as we continue in our efforts to advance CC-42344, CDI-988 and other product candidates. Liquidity and Capital Resources For the year ended December 31, 2022, net cash used in operating activities was $21,435,000, compared to net cash used in operating activities of $12,719,000 for the year ended December 31, 2021. The increase in cash used in operating activities in 2022 as compared to 2021 was attributable to the increase of operating costs related to our COVID-19 and influenza-A clinical trials. For the year ended December 31, 2022, net cash used in investing activities netted to $74,000, which consisted of capital expenditures for lab equipment, software, and networking for our Lab located in Bothell, Washington. For the year ended December 31, 2021, our net cash used in investing activities consisted of $52,000. For the year ended December 31, 2022, net cash used by financing activities was $27,000, compared to net cash provided by financing activities of $38,466,000 for the year ended December 31, 2021. Net cash used by financing activities in 2022 was result of finance lease payments, and 2021 net cash generated was the result of issuance common stock, net of finance lease payments. The Company had approximately $35 million cash on hand on March 21, 2023. We expect that this cash balance will be sufficient to support the Company’s working capital needs for the 12 months following the filing of this Report. Developing pharmaceutical products, including conducting preclinical studies and clinical trials, is capital-intensive. As a rule, research and development expenses increase substantially as a company advances a product candidate toward clinical programs. Historically, we have financed our operations with the proceeds from public and private equity and debt offerings, including additional investments by certain existing stockholders, and entered into strategic partnerships and collaborations for the research, development and commercialization of product candidates. We have one hepatitis C product candidate that has completed a Phase 2a clinical trial and one influenza A product candidate that has completed a Phase 1 trial and is expected to proceed to Phase 2a in 2023, as well as other influenza A/B product candidates under our Collaboration Agreement with Merck. Additionally, we expect that in the long term in case of successful development and commercialization of one or more influenza A/B antiviral agents under the Collaboration Agreement we will be eligible to receive certain milestone payments up to a total of $156 million, including payments associated with the successful product development and attainment of certain U.S. and EU regulatory approvals for the developed products and sales volume and royalties on net sales of the products. See “Item 1 – Business – Collaborations – Merck Collaboration.” However, in order to conduct research and development of our other product candidates, including our potential COVID-19 therapy, we may need to raise additional capital to support our operations or form partnerships, in addition to our existing collaborative alliances. Such funding or partnerships may not be available to us on acceptable terms, or at all. We did not raise any proceeds from the sale of common stock during the year ended December 31, 2022. Set forth below is a summary of financings which occurred since 2020. The Company is party to the At-The-Market Offering Agreement, dated July 1, 2020 (“ATM Agreement”) with H.C. Wainwright & Co., LLC (“Wainwright”), pursuant to which the Company may issue and sell over time and from time to time, to or through Wainwright, up to $10,000,000 of shares of the Company’s common stock. In January 2021, the Company sold 1,030,000 shares of its common stock pursuant to the ATM Agreement for net proceeds of approximately $2.1 million. There were no sales under the ATM Agreement for the remainder of 2021 or 2022. 46 On May 4, 2021, the Company entered into an underwriting agreement with Wainwright pursuant to which the Company agreed to issue and sell 26,000,000 shares of the Company’s common stock at a public offering price of $1.54 per share, less underwriting discounts and commissions (the “Offering”). The Company received approximately $36.4 million in net proceeds from the Offering, after deducting underwriting discounts and estimated offering expenses. The Offering closed on May 7, 2021. Cautionary Note Regarding Forward Looking Statements This Annual Report includes forward-looking statements within the meaning of The Private Securities Litigation Reform Act of 1995, including statements regarding our plans for the future development of preclinical and clinical drug candidates, our expectations regarding future characteristics of the product candidates we develop, the expected time of achieving certain value driving milestones in our programs, including, preparation, commencement and advancement of clinical studies for certain product candidates in 2023, our expectations with respect to HCV market opportunity and our plans regarding further clinical development of CC-31244, the potential future results of our collaboration with Merck pursuant to the Collaboration Agreement, including potential receipt of milestone payments and royalties, our expectations related to our collaborations with KSURF, our expectations regarding future operating results, statement regarding the suitability and adequacy of our properties and capital resources, anticipated payments under the license agreements with KSURF, and our future liquidity. The words “believe,” “may,” “estimate,” “continue,” “anticipate,” “intend,” “should,” “plan,” “could,” “target,” “potential,” “is likely,” “will,” “expect” and similar expressions, as they relate to us, are intended to identify forward-looking statements. We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends that we believe may affect our financial condition, results of operations, business strategy and financial needs. The results anticipated by any or all of these forward-looking statements might not occur. Important factors, uncertainties and risks that may cause actual results to differ materially from these forward-looking statements include the risks and uncertainties arising from the risks arising from the impact of COVID-19 (including long-term and pervasive effects of the virus), inflation, interest rate increases and the Ukraine war on our Company, our collaboration partners, and on the U.S., U.K. and global economy, including manufacturing and research delays arising from raw materials and labor shortages, supply chain disruptions and other business interruptions including any adverse impacts on our ability to obtain raw materials and test animals as well as similar problems with our vendors and our current and any future CROs and CMOs, the results of the studies for CC-42344 and CDI-988, the ability of our CROs to recruit volunteers for, and to proceed with, clinical studies, our reliance on Merck for further development in the influenza A/B program under the license and collaboration agreement, our and our collaboration partners’ technology and software performing as expected, financial difficulties experienced by certain partners, the results of future preclinical and clinical trials, general risks arising from clinical trials, receipt of regulatory approvals, regulatory changes, development of effective treatments and/or vaccines by competitors, including as part of the programs financed by the U.S. government, potential mutations in a virus we are targeting which may result in variants that are resistant to a product candidate we develop, and the outcome of our appeal of the summary judgment. Further information on such uncertainties and risks is contained in the “Risk Factors” in Item 1A of this this Annual Report. We undertake no obligation to publicly update or revise any forward-looking statements, whether as the result of new information, future events or otherwise. For more information regarding some of the ongoing risks and uncertainties of our business, see “Item 1A – Risk Factors” and our other filings with the SEC. 47 Critical Accounting Policies and Estimates Our management’s discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with U.S. Generally Accepted Accounting Principles, or GAAP. The preparation of these consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities and expenses. On an ongoing basis, we evaluate these estimates and judgments, including those described below. We base our estimates on our historical experience and on various other assumptions that we believe to be reasonable under the circumstances. These estimates and assumptions form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results and experiences may differ materially from these estimates. While our significant accounting policies are more fully described in the accompanying notes to the consolidated financial statements included in this Annual Report on Form 10-K for the year ended December 31, 2022, we believe that the following accounting policies are the most critical to aid you in fully understanding and evaluating our reported financial results and affect the more significant judgments and estimates that we use in the preparation of our consolidated financial statements. Stock-Based Compensation We account for stock options related to our equity incentive plans under the provisions of Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 718 which requires the recognition of the fair value of stock-based compensation. The fair value of stock options is estimated using a Black-Scholes option valuation model. This model requires the input of subjective assumptions including expected stock price volatility, expected life and estimated forfeitures of each award. The fair value of equity-based awards is amortized over the requisite service period of the award. Due to the limited amount of historical data available to us, particularly with respect to stock-price volatility, employee exercise patterns and forfeitures, actual results could differ from our assumptions. Goodwill In November 2014, goodwill was recorded in connection with the acquisition of RFS Pharma. We evaluate indefinite-lived intangible assets and goodwill for impairment annually, as of November 30, or more frequently when events or circumstances indicate that impairment may have occurred. As part of the impairment evaluation, we may elect to perform an assessment of qualitative factors. If this qualitative assessment indicates that it is more likely than not that the fair value of the indefinite-lived intangible asset or the reporting unit (for goodwill) is less than its carrying value, we then would proceed with the quantitative impairment test to compare the fair value to the carrying value and record an impairment charge if the carrying value exceeds the fair value. Fair value is typically estimated using an income approach based on the present value of future discounted cash flows. The significant estimates in the discounted cash flow model primarily include the discount rate, and rates of future revenue and expense growth and/or profitability of the acquired assets. In performing an impairment test, the Company considers, among other factors, the Company’s intention for future use of acquired assets, analyses of historical financial performance and estimates of future performance of Cocrystal’s product candidates. The Company uses judgement in assessing whether assets may have become impaired between annual impairment tests. The occurrence of a change in circumstances, such as a continued decline in the market capitalization of the Company, would determine the need for impairment testing between annual impairment tests. During the six months ended June 30, 2022, the Company saw a significant decrease in its price of common stock resulting in an overall reduction in market capitalization and our recorded net book value exceeded our market capitalization as of June 30, 2022. Pre-impairment, the carrying value of the reporting unit exceeded the market capitalization of the Company at June 30, 2022 and concluded that goodwill was impaired in its entirety and recorded a $19,092,000 non-cash impairment. On December 31, 2022, the Company had no goodwill. Recently Issued Accounting Standards See discussion in Note 2 to the consolidated financial statements. Item 7A. Quantitative and Qualitative Disclosures About Market Risk Not applicable.