Emmaus Life Sciences, Inc. 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations In the following discussion, the terms, “we,” “us,” “our,” “Emmaus” or the “Company” refer to Emmaus Life Sciences, Inc. and its direct and indirect subsidiaries . Forward-Looking Statements This Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the audited consolidated financial statements and the related notes included in our Annual Report on Form 10-K/A for the year ended December 31, 2020 filed with the Securities and Exchange Commission (“SEC”) on August 10, 2021 (the “Annual Report”). This Quarterly Report contains forward-looking statements that involve substantial risks and uncertainties. All statements other than historical facts contained in this report, including statements regarding our future financial position, capital expenditures, cash flows, business strategy and plans and objectives of management for future operations are forward-looking statements. The words “anticipate,” “believe,” “expect,” “plan,” “intend,” “seek,” “estimate,” “project,” “could,” “may” and similar expressions are intended to identify forward-looking statements. These statements include, among others, information regarding future operations, future capital expenditures, and future net cash flow. Such statements reflect our management’s current views with respect to future events and financial performance and involve risks and uncertainties, including those set forth in the “Risk Factors” section of the Annual Report, many of which are beyond our control. Should one or more of these risks or uncertainties occur, or should underlying assumptions prove to be incorrect, actual results may vary materially and adversely from those anticipated, believed, estimated or otherwise indicated. Consequently, all of the forward-looking statements made in this Form 10-Q are qualified by these cautionary statements. We undertake no duty to amend or update these statements beyond what is required by SEC reporting requirements. Company Overview We are a commercial-stage biopharmaceutical company engaged in the discovery, development, marketing and sale of innovative treatments and therapies, primarily for rare and orphan diseases. On July 7, 2017, the U.S. Food and Drug Administration, or FDA, approved our lead product, Endari ® (prescription-grade L-glutamine oral powder), to reduce the severe complications of sickle cell disease (“SCD”), in adult and pediatric patients five years of age and older. Endari ® has received Orphan Drug designation from the FDA and Orphan Medical designation from the European Commission, which designations afford marketing exclusivity for Endari ® for a seven-year period in the U.S. and ten-year period in the European Union, respectively, following marketing approval. We commenced commercialization of Endari® in the U.S. in January 2018 in collaboration with a contract sales organization. Effective January 2020, we have relied upon our in-house commercial sales team. Endari® is reimbursable by the Centers for Medicare and Medicaid Services, and every state provides coverage for Endari® for outpatient prescriptions to all eligible Medicaid enrollees within their state Medicaid programs. Endari® is also reimbursable by many commercial payors. We have distribution agreements in place with the nation’s leading distributors as well as physician group purchasing organizations and pharmacy benefits managers, making Endari® available at selected pharmacies nationwide. Until we began marketing and selling Endari ® in the U.S. in early 2018, we had minimal revenues and relied upon funding from sales of equity securities and debt financings and loans, including loans from related parties, to fund our business and operations. As of September 30, 2021, our accumulated deficit was $234.4 million and we had cash and cash equivalents of $2.3 million. We expect net revenues to increase as we expand our commercialization of Endari® in the U.S. and expand or commence early access programs and eventual marketing and commercialization abroad. Until we can generate sufficient net revenues, our future cash requirements are expected to be financed through public or private equity or debt financings, loans or corporate collaboration and licensing arrangements. Financial Overview Revenues, net Since January 2018, we have generated net revenues primarily through the sale of Endari® as a treatment for SCD. Net revenues from Endari® sales are recognized upon transfer to our distributors and specialty pharmacy providers. Distributors resell our products to other pharmacy and specialty pharmacy providers, health care providers, hospitals, and clinics. In addition to agreements with these distributors, we have entered into contractual arrangements with specialty pharmacy providers, in-office dispensing providers, physician group purchasing organizations, pharmacy benefits managers and government entities that 22 provide for government-mandated or privately negotiated rebates, chargebacks and discounts with respect to the purchase of our products. These various discounts, rebates, and chargebacks are referred to as “variable consideration . ” Revenue from product sales is recorded net of variable consideration . Under the Accounting Standards Codification (“ASC”) 606, the Company recognizes revenue when its customers obtain control of the Company's product, which typically occurs on delivery. Revenue is recognized in an amount that reflects the consideration that the Company expects to receive in exchange for the product, or transaction price. To determine revenue recognition for contracts with customers within the scope of ASC 606, the Company performs the following: (i) identify the contract(s) with a customer; (ii) identify the performance obligations in the contract; (iii) determine the transaction price; (iv) allocate the transaction price to the Company’s performance obligations in the contract; and (v) recognize revenue when (or as) the Company satisfies the relevant performance obligations. Revenue from product sales is recorded at the transaction price, net of estimates for variable consideration consisting of sales discounts, returns, government rebates, chargebacks and commercial discounts. Variable consideration is estimated using the expected-value amount method, which is the sum of probability-weighted amounts in a range of possible transaction prices. Actual variable consideration may differ from the Company's estimates. If actual results vary from the Company's estimates, the Company adjusts the variable consideration in the period such variances become known, which would affect net revenues in that period. The following are our significant categories of variable consideration: Sales Discounts : We provide our customers prompt payment and large order discounts and from time to time offer additional discounts that are recorded as a reduction of revenue in the period the revenue is recognized. Sales attributable to one-time discounts offered by us increased in 2020 and 2021 and may adversely affect sales in subsequent periods. Product Returns : We offer our distributors a right to return product principally based upon (i) overstocks, (ii) inactive product or non-moving product due to market conditions, and (iii) expired product. Product return allowances are estimated and recorded at the time of sale. Government Rebates : We are subject to discount obligations under state Medicaid programs and the Medicare Part D prescription drug coverage gap program. We estimate Medicaid and Medicare Part D prescription drug coverage gap rebates based upon a range of possible outcomes that are probability-weighted for the estimated payor mix. These reserves are recorded in the same period the related revenues are recognized, resulting in a reduction of product revenues and the establishment of a current liability that is included as accounts payable and accrued expenses on our balance sheet. Our liability for these rebates consists primarily of estimates of claims expected to be received in future periods related to recognized revenues. Chargebacks and Discounts : Chargebacks for fees and discounts represent the estimated obligations resulting from contractual commitments to sell products to certain specialty pharmacy providers, in-office dispensing providers, group purchasing organizations, and government entities at prices lower than the list prices charged to distributors. The distributors charge us for the difference between what they pay for the products and our contracted selling price to these specialty pharmacy providers, in-office dispensing providers, group purchasing organizations, and government entities. In addition, we have contractual agreements with pharmacy benefit managers who charge us for rebates and administrative fee in connection with the utilization of product. These reserves are established in the same period that the related revenues are recognized, resulting in a reduction of revenues. Chargeback amounts are generally determined at the time of resale of product by our distributors. Cost of Goods Sold Cost of goods sold consists primarily of expenses for raw materials, packaging, shipping and distribution of Endari®. Research and Development Expenses Research and development expenses consist of expenditures for new products and technologies consisting primarily of fees paid to contract research organizations (“CRO”) that conduct clinical trials of our product candidates, payroll-related expenses, study site payments, consultant fees and activities related to regulatory filings, manufacturing development costs and other related costs. The costs of later-stage clinical studies such as Phase 2 and 3 trials are generally substantially higher than those of earlier studies due to their larger size, expanded scope, patient related healthcare and regulatory compliance costs, and generally longer duration of later-stage clinical studies. Our contracts with CROs are generally based on time and materials expended, whereas study site agreements are generally based on costs per patient as well as other pass-through costs, including start-up costs and institutional review board fees. The financial terms of these agreements are subject to negotiation and vary from contract to contract and may result in uneven payment 23 flows. Payments under some of these contracts depend on factors such as the successful enrollment of patients and the completion of clinical trial milestones. Future research and development expenses will depend on any new product candidates or technologies that we may introduce into our research and development pipeline. In addition, we cannot predict which product candidates may be subject to future collaborations, when such arrangements will be secured, if at all, and to what degree, if any, such arrangements would affect our development plans and capital requirements. Due to the inherently unpredictable nature of the drug approval process and the interpretation of the regulatory requirements, we are unable to estimate the amount of costs of obtaining regulatory approval of Endari® outside of the U.S. or the development of our other preclinical and clinical programs. Clinical development timelines, the probability of success and development costs can differ materially from expectations and can vary widely. These and other risks and uncertainties relating to product development are described in the Annual Report under the headings “Risk Factors—Risks Related to Our Business” and “Risk Factors—Risks Related to Regulatory Oversight of Our Business and Compliance with Law.” General and Administrative Expenses General and administrative expenses consist principally of salaries and related employee costs, including share-based compensation for our directors, executive officers and employees. Other general and administrative expenses include facility costs, patent filing costs and professional fees and expenses for legal, consulting, auditing and tax services. Inflation has not had a material impact on our general and administrative expenses over the past two years. Selling Expenses Selling expenses consist principally of salaries and related costs for personnel involved in the launch, promotion, sale and marketing of our products. Other selling cost include advertising, third party consulting costs, the cost of in-house sales personnel and travel-related costs. We expect selling expenses to increase as we acquire additional sales and administrative personnel to support the commercialization of Endari® in the U.S. and abroad. Inventories Inventories consist of raw materials, finished goods and work-in-process and are valued on a first-in, first-out basis and at the lower of cost or net realizable value. Substantially all raw materials purchased during the nine months ended September 30, 2021 and 2020 were supplied by one vendor. Results of Operations: Three months ended September 30, 2021 and 2020 Net revenues, Net . Net revenues increased by $0.2 million, or 3%, to $5.8 million for the three months ended September 30, 2021, compared to $5.6 million for the three months ended September 30, 2020. The increase in net revenues was primarily attributable to bulk order purchases and recovery from the temporary disruptions in revenues related to the COVID-19 pandemic during 2020. Cost of Goods Sold . Cost of goods sold decreased by $0.1 million, or 8%, to $0.4 million for the three months ended September 30, 2021, compared to $0.5 million for the three months ended September 30, 2020. Research and Development Expenses . Research and development expenses decreased by $0.2 million, or 25%, to $0.5 million for the three months ended September 30, 2021, compared to $0.6 million for the three months ended September 30, 2020. The decrease was primarily due to nearing completion of the preclinical phase of our diverticulosis study. We expect our research and development costs to increase in the remainder of 2021. Selling Expenses . Selling expenses increased by $0.2 million, or 15%, to $1.5 million for the three months ended September 30, 2021, compared to $1.3 million for the three months ended September 30, 2020. The increase in selling expenses was primarily due to an increase of travel expenses as travel restrictions due to Covid-19 have been eased. General and Administrative Expenses. General and administrative expenses increased by $0.2 million, or 7%, to $3.4 million for the three months ended September 30, 2021, compared to $3.2 million for the three months ended September 30, 2020. The increase in general and administrative expenses was due to an increase of $0.2 million in payroll expenses attributable to our Dubai office. 24 Other Income ( Expense ) . Total other expense in creased by $ 8.8 million, or 1 49 %, to $ 2.9 million for the three months ended September 30, 202 1, compared to $ 5. 9 million of other income for the three months ended September 30, 20 20 . The increase was primarily due to decreases of $ 6.5 million in net income on investment in marketable securities, $ 1.4 million in change in fair value of embedded conversion option and $0.9 million in change in fair value of warrant derivative liabilities and an increase of $0.9 million in foreign exchange loss , partially offset by a decrease of $ 0. 9 million in interest expense. Net Income (Loss) . Net loss for the three months ended September 30, 2021 increased by $8.7 million, or 156%, to a net loss of $3.2 million for the three months ended September 30, 2021 from net income of $5.6 million for the three months ended September 30, 2020. The increased net loss was due to the decrease of $8.8 million in other expense as discussed above, partially offset by a decrease of $0.1 million in income tax provision. Nine months ended September 30, 2021and 2020 Net revenues, Net . Net revenues increased by $0.7 million, or 4%, to $17.6 million for the nine months ended September 30, 2021, compared to $16.9 million for the nine months ended September 30, 2020. The increase in net revenues was primarily attributable to higher bulk order purchases compared to the same period in 2020 and gradual recovery from the temporary disruptions in revenues related the COVID-19 pandemic during 2020. Cost of Goods Sold . Cost of goods sold decreased by $0.1 million or 7%, to $1.3 million for nine months ended September 30, 2021, compared to $1.4 million for the nine months ended September 30, 2020. Research and Development Expenses . Research and development expenses increased by $1.2 million, or 65%, to $3.0 million for the nine months ended September 30, 2021, compared to $1.8 million for the nine months ended September 30, 2020. The increase was primarily due to $0.5 million in cash and $0.5 million in shares of the Company’s stock issued under the agreement with Kainos to lead the clinical development of Kainos’ patented IRAK4 inhibitor and an increase of $0.6 million relates to a pharmacokinetic characteristic and safety study for Endari® and clinical study in Europe partially offset by a decrease of $0.4 million relating to our diverticulosis study. We expect our research and development costs to increase in the remainder of 2021. Selling Expenses . Selling expenses increased by $0.7 million, or 21%, to $4.3 million for the nine months ended September 30, 2021, compared to $3.5 million for the nine months ended September 30, 2020. The increase was primarily due to increased headcount of our in-house sales team and increased travel expenses. General and Administrative Expenses. General and administrative expenses decreased by $0.4 million, or 4%, to $10.2 million for the nine months ended September 30, 2021, compared to $10.5 million for the nine months ended September 30, 2020. The decrease was primarily due to decreases of $0.3 million in insurance expenses, $0.3 million of professional fees, $0.2 million of recruiting expenses and $0.1 million of public relations expenses, partially offset by an increase of $0.5 million of Dubai office operating expenses. Other Income (Expense) . Total other expense increased by $10.0 million, or 475%, to $7.9 million for the nine months ended September 30, 2021, compared to $2.1 million of other income for the nine months ended September 30, 2020. The increase in other expenses was primarily due to decreases of $7.7 million in net gain on investment in marketable securities, $1.2 million in change in fair value of conversion feature derivative and $1.0 million in change in fair value of warrant derivative liabilities, and an increase of $2.1 million in loss in foreign exchange loss, partially offset by a decrease of $2.3 million interest expenses. Net Income (Loss) . Net loss for the nine months ended September 30, 2021 increased by $10.7 million, or 660% to $9.1 million for the nine months ended September 30, 2021, compared to net income of $1.6 million for the nine months ended September 30, 2020. The increase was primarily a result of increases of $10.0 million in other expense and $0.8 million in loss from operations as discussed above. Liquidity and Capital Resources We anticipate that we will continue to incur net losses for the foreseeable future until we can generate increased net revenues from Endari® sales. Based on our losses, anticipated future revenues and operating expenses and cash and cash equivalents of $2.3 million as of September 30, 2021, we believe our working capital is sufficient to meet our needs at least through the fourth quarter of 2022. If future revenues are less than anticipated or we incur more expenses than we anticipate, we may not have sufficient operating capital for our business without curtailing certain operations, our investment in equity method investment (EJ Holdings) or raising additional capital. Except as described below, we have no understanding or arrangements with respect to future financings, and there can be no assurance of the availability of such capital on terms acceptable to us or at all. 25 Effective February 22, 2021, our subsidiary, Emmaus Medical, Inc., or Emmaus Medical, entered into a purchase and sale agreement with Prestige Capital Finance, LLC, or Prestige Capital, pursuant to which Emmaus Medical may offer and sell to Prestige Capital from time to time eligible accounts receivable in exchange for Prestige Capital’s down payment, or advance, to Emmaus Medical of 70% (subject to increase to 75%) of the face amount of the accounts receivable, subject to a $7,500,000 cap on advances at any time. The balance of the face amount of the accounts receivable will be reserved by Prestige Capital and paid to Emmaus Medical, less discount fees of Prestige Capital ranging from 2.25% to 7.25% of the face amount, as and when Prestige Capital collects the entire face amount of the accounts receivable. Cash flows for the nine months ended September 30, 2021 and September 30, 2020 Net cash provided by (used in) operating activities Net cash used in operating activities decreased by $2.2 million, or 51%, to $2.1 million for the nine months ended September 30, 2021 from $4.4 million for the nine months ended September 30, 2020 due to a decrease of $2.5 million in working capital. Net cash provided by (used in) investing activities Net cash used in investing activities decreased by $38.6 million, or 116%, to $5.3 million for the nine months ended September 30, 2021 from net cash provided by investing activities of $33.3 million for the nine months ended September 30, 2020. This decrease was primarily due to a $3.0 million loan to equity method investee and a $35.6 million of proceeds from sales of Telcon stock received during 2020. Net cash provided by (used in) financing activities Net cash provided by financing activities increased by $7.3 million to net cash provided by financing activities of $7.2 million for the nine months ended September 30, 2021 from net cash used in financing activities of $0.1 million for the nine months ended September 30, 2020. This increase was the result of $14.5 million in proceeds from the sales of convertible promissory notes, partially offset by a $6.2 million used to prepay our outstanding 10% Senior Secured Convertible Debentures. Off-Balance-Sheet Arrangements We have no off-balance sheet arrangements. Critical Accounting Policies Management’s discussion and analysis of financial condition and results of operations is based on our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”). The preparation of these 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 present 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 may differ materially from these estimates. Refer to “Critical Accounting Policies” in Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of the Amended Annual Report for our critical accounting policies. There have been no material changes in any of our critical accounting policies during the nine months ended September 30, 2021. Item 3. Quantitative and Qualitative Disclosures about Market Risk Not required for a smaller reporting company.