Krystal Biotech, Inc. 10-Q

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion and analysis of our financial condition and results of operations should be read together with the unaudited condensed consolidated financial statements and related notes included in Item 1 of Part I of this Quarterly Report on Form 10-Q and with the audited financial statements and the related notes included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2023 (“2023 10-K”), as filed with the SEC on February 26, 2024. SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS This Quarterly Report on Form 10-Q contains “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, or the Securities Act, and Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act. Forward-looking statements include all statements that are not historical facts and can be identified by terms such as “anticipate,” “believe,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “plan,” “potential,” “predict,” “project,” “seek,” “should,” “target,” “will,” “would,” or similar expressions and the negatives of those terms. These statements relate to future events or to our future operating or financial performance and involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from any future results, performances or achievements expressed or implied by the forward-looking statements. Some of such factors include, but are not limited to: • the commercial success of VYJUVEK ® (beremagene geperpavec-svdt) , our U.S. Food and Drug Administration (“FDA”) approved product for treating patients, six months of age or older, suffering from dystrophic epidermolysis bullosa (“DEB”); • the initiation, timing, cost, progress and results of our research and development activities, preclinical studies and clinical trials for our product candidates; • the timing, scope or results of regulatory filings and approvals, including timing of final FDA and other regulatory approval of our product candidates; • our ability to achieve certain accelerated or orphan drug designations from the FDA or other regulators; • changes in our estimates regarding the potential market opportunity for VYJUVEK and our product candidates; • increases in costs associated with our research and development programs for our product candidates; • increases in our selling, general and administrative expenses; • risks related to our ability to successfully develop and commercialize our product candidates; • our ability to identify new product candidates; • our ability to identify, recruit and retain key personnel; • risks related to our marketing and manufacturing capabilities and strategy; • our business model and strategic plans for our business, product candidates and technology; • the rate and degree of market acceptance and clinical utility of our product candidates and gene therapy, in general; • our competitive position and the success of competing therapies; • our intellectual property position and our ability to protect and enforce our intellectual property; • our ability to establish and maintain collaborations; • our financial performance and our estimates regarding expenses, future revenue, capital requirements and needs for additional financing, as well as our ability to raise capital; • our ability to successfully avoid or resolve any litigation, intellectual property or other claims, that may be brought against us; • global economic conditions, including the recent rise in inflation and interest rates; and 17 • the impact of changes in laws and regulations. Forward-looking statements are subject to a number of risks, uncertainties and assumptions, including those described in Item 1A of Part II of this Quarterly Report on Form 10-Q and other filings we make with the SEC from time to time. Moreover, we operate in a very competitive and rapidly changing environment, and new risks emerge from time to time. It is not possible for our management to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. In light of these risks, uncertainties and assumptions, the forward-looking events and circumstances discussed in this Quarterly Report on Form 10-Q may not occur and actual results could differ materially and adversely from those anticipated or implied in the forward-looking statements. Given these uncertainties, you should not place undue reliance on these forward-looking statements. You should read this Quarterly Report completely and with the understanding that our actual future results may be materially different from what we expect. Forward-looking statements represent our management’s beliefs and assumptions only as of the date of this Quarterly Report. Except as required by law, we assume no obligation to update these forward-looking statements publicly as a result of subsequent events, developments or otherwise, or to update the reasons actual results could differ materially from those anticipated in these forward-looking statements, even if new information becomes available in the future. Throughout this Form 10-Q, unless the context requires otherwise, all references to “Krystal,” “the Company,” “we,” “our,” “us” or similar terms refer to Krystal Biotech, Inc., together with its consolidated subsidiaries. Web links throughout this document are provided for convenience only and are not intended to be active hyperlinks to the referenced websites. No content on the referenced websites shall be deemed incorporated by reference into this Quarterly Report on Form 10-Q. Overview We are a fully integrated, commercial-stage biotechnology company focused on the discovery, development, manufacturing and commercialization of genetic medicines to treat diseases with high unmet medical needs. Using our patented gene therapy technology platform that is based on engineered herpes simplex virus-1 (“HSV-1”), we create vectors that efficiently deliver therapeutic transgenes to cells of interest in multiple organ systems. The cell’s own machinery then transcribes and translates the transgene to treat the disease. Our vectors are amenable to formulation for non-invasive or minimally invasive routes of administration at a healthcare professional’s office or in the patient’s home by a healthcare professional. Our innovative technology platform is supported by two in-house, commercial scale Current Good Manufacturing Practice (“CGMP”) manufacturing facilities. Our FDA Approved Commercial Product VYJUVEK (beremagene geperpavec-svdt, or B-VEC; referred to as B-VEC outside the U.S.) On May 19, 2023, the FDA approved VYJUVEK, the first ever redosable gene therapy, for treating patients, six months of age or older, suffering from DEB, a rare and severe monogenic disease that affects the skin and mucosal tissues and is caused by one or more mutations in a gene called COL7A1 . VYJUVEK is a redosable topical gel containing our novel vector designed to deliver two copies of the COL7A1 transgene to a patient’s skin cells to produce the COL7 protein. VYJUVEK is the first and only corrective medicine approved by the FDA for the treatment of DEB, both recessive and dominant, that can be administered by a healthcare professional (“HCP”) in either a clinical setting or in the home. We possess exclusive rights to develop, manufacture, and commercialize VYJUVEK and all our pipeline candidates throughout the world. We launched VYJUVEK in the United States in the second quarter of 2023. Net VYJUVEK product revenue was $70.3 million for the three months ended June 30, 2024, and $166.2 million in cumulative net product revenue since launch in August 2023. Gross margin for the three months ended June 30, 2024 was 91%. We define gross margin as product revenue, net less cost of goods sold expressed as a percentage of product revenue, net. We have made steady progress securing access and reimbursement for VYJUVEK since launch and as of July 2024, positive access determinations have been achieved for 97% of lives covered under commercial and Medicaid plans. As of July 2024, we have secured over 400 reimbursement approvals for VYJUVEK in the U.S. We seek to make the experience of starting and continuing on VYJUVEK treatment seamless for the patient. Since launch, infrastructure has been in place for patients to be treated in their homes by an HCP, reducing the need for regular visits to a clinic or hospital. Krystal Connect TM , our U.S. in-house patient services call center, has been active since FDA approval and assists patients, care givers and HCPs interested in accessing VYJUVEK. We also continue to offer no-cost genetic testing through our DecodeDEB program. Since launch and through the second quarter of 2024, patient compliance with once weekly treatment while on VYJUVEK remains high at 90%. 18 Preparations and infrastructure buildout are underway in Europe and Japan to support our planned direct commercial launch in these regions. In June 2024, the President and General Manager of Krystal Biotech Japan G.K. joined the Company in preparation for a Japanese launch. In October 2023, we submitted a Marketing Authorization Application (“MAA”) to the European Medicines Agency (“EMA”) for B-VEC for the treatment of DEB. In November 2023, we were notified that the MAA had been validated and was now under Committee for Medicinal Products for Human Use review. In February 2024, the EMA completed inspection of our manufacturing facility as part of the MAA review process and, in May 2024, good manufacturing practices certification was granted by the EMA. We expect an EMA decision on our MAA in the second half of 2024. In July 2023, the Pharmaceuticals and Medical Devices Agency (“PMDA”) in Japan officially accepted the open label extension (“OLE”) study of B-VEC. The efficacy portion of the Japan OLE study was completed in April 2024 and results closely mirrored those of our Phase 3 study in the U.S. A total of 5 patients were enrolled, with one patient discontinuing after 8 weeks due to scheduling challenges. B-VEC was well tolerated in the Japanese study population, with a safety profile consistent with previous studies, and all four patients that completed the study achieved the primary endpoint of complete wound closure at 6 months. We anticipate filing our Japan New Drug Application with Japan’s PMDA in the second half of 2024, enabling a potential authorization by PMDA in 2025. Pipeline Highlights and Recent Developments Respiratory KB407 is an inhaled (nebulized) formulation of our novel vector designed to deliver two copies of the full-length cystic fibrosis transmembrane conductance regulator (“CFTR”) transgene for the treatment of cystic fibrosis (“CF”), a serious rare lung disease caused by missing or mutated CFTR protein. In July 2023, we announced that we had dosed the first patient in CORAL-1, a Phase 1 multi-center, dose-escalation study evaluating KB407, delivered via a nebulizer, in patients with CF, regardless of their underlying genotype. In May 2024, we cleared the safety evaluation window for the second cohort of CORAL-1, and we expect to initiate the third and final cohort in the second half of 2024. Details of the Phase 1 study can be found at www.clinicaltrials.gov under NCT identifier NCT05504837. We presented preclinical data at the American Thoracic Society 2024 International Conference held in May 2024 demonstrating KB407 transduction of fully differentiated, patient airway epithelial cell-derived apical out airway organoids leading to production of full-length and fully glycosylated CFTR. KB408 is an inhaled (nebulized) formulation of our novel vector designed to deliver two copies of the SERPINA1 transgene, that encodes for normal human alpha-1 antitrypsin protein, for the treatment of alpha-1 antitrypsin deficiency (“AATD”), a serious rare lung disease. In February 2024, we dosed the first patient in SERPENTINE-1, a Phase 1, open-label, single dose escalation study evaluating KB408, delivered via a nebulizer, in adult patients with AATD with a Pi*ZZ or a Pi*ZNull genotype. In May 2024, we cleared the safety evaluation window for the first cohort of SERPENTINE-1 and enrollment in the second cohort is ongoing. We are working closely with the Alpha-1 Foundation and their Therapeutic Development Network on the SERPENTINE-1 study and intend to announce interim data from the study in the fourth quarter of 2024. Details of the Phase 1 study can be found at www.clinicaltrials.gov under NCT identifier: NCT06049082. An overview of KB408 IND-enabling studies conducted to support the initiation of SERPENTINE-1 was presented at the American Thoracic Society 2024 International Conference held in May 2024. Ophthalmology In April 2023, we announced clinical data on the compassionate use of B-VEC, administered as an eyedrop, to treat a patient suffering from ocular complications of DEB. Data was first presented at the Association for Research in Vision and Ophthalmology (“ARVO”) 2023 Annual Meeting and subsequently published in the New England Journal of Medicine in February 2024. Regular application of B-VEC to the eye was well tolerated and associated with full corneal healing at 3 months and visual acuity improvement from hand motion to 20/25 by 8 months. Based on this early clinical evidence of safety and potential benefit under compassionate use, we started discussions with the FDA in the first quarter of 2024 on a potential clinical development path for ophthalmic B-VEC, and in February 2024, we aligned with the FDA on our proposed single arm, open label study in approximately 10 to 15 patients to enable approval of B-VEC eyedrops to treat ocular complications which are thought to affect over 25% of DEB patients. We plan to initiate the registrational study in the fourth quarter of 2024. In August 2024, we initiated a natural history study to prospectively collect data on the frequency and severity of corneal abrasions in patients with DEB and serve as a run-in period for patients who may be eligible to participate in the registrational study. 19 We are actively evaluating multiple, preclinical-stage genetic medicine candidates for the treatment of front and back of the eye diseases and presented preclinical data highlighting the potential of Krystal’s HSV-1-based gene delivery platform for back of the eye gene delivery at the ARVO 2024 Annual Meeting that was held in May 2024. Oncology KB707 is a redosable, immunotherapy designed to deliver genes encoding both human interleukin-2 (“IL-2”) and interleukin-12 (“IL-12”) to the tumor microenvironment and promote systemic immune-mediated tumor clearance. Two formulations of KB707 are in development, a solution formulation for transcutaneous injection and an inhaled (nebulized) formulation for lung delivery. Both formulations of KB707 have been granted Fast Track Designation by the FDA and in May 2024, intratumoral KB707 was also granted Rare Pediatric Disease Designation by the FDA for the treatment of osteosarcoma. In October 2023, we dosed the first patient in OPAL-1, an open-label, multi-center, monotherapy, dose escalation and expansion Phase 1 study, evaluating intratumoral KB707 in patients with locally advanced or metastatic solid tumors, who relapsed or are refractory to standard of care, with at least one measurable and injectable tumor accessible by transcutaneous route of administration. In May 2024, we cleared the safety evaluation window for our third and final dose escalation cohort of the OPAL-1 study. Enrollment in the dose expansion cohort is ongoing. Details of the Phase 1 study can be found at www.clinicaltrials.gov under NCT identifier NCT05970497. Based on the current pace of enrollment, we expect to report interim data in the fourth quarter of 2024. In April 2024, we dosed the first patient in KYANITE-1, an open-label, monotherapy, dose escalation and expansion Phase 1 study, evaluating inhaled KB707 in patients with locally advanced or metastatic solid tumors of the lung. The safety evaluation window for the first dose escalation cohort of the KYANITE-1 study was cleared in June 2024 and enrollment of the second cohort is ongoing. Details of the Phase 1 study can be found at www.clinicaltrials.gov under NCT identifier NCT06228326. We presented preclinical efficacy data generated in syngeneic mouse models using murine equivalents to KB707 at the American Association for Cancer Research Annual Meeting that was held in April 2024. Study results demonstrated that IL-12 and IL-2, delivered intratumorally using Krystal’s HSV-1-based gene delivery platform, enhanced local and systemic T-cell effector responses consistent with previously reported anti-tumor activity. Dermatology KB105 is a topical gel containing our novel vector designed to deliver two copies of the TGM1 transgene encoding the human enzyme transglutaminase-1 (“TGM1”) for the treatment of lamellar icthyosis, a serious rare skin disorder most often caused by missing or mutated TGM1 protein. KB104 is a topical gel formulation of our novel vector designed to deliver two copies of the SPINK5 transgene for the treatment of Netherton Syndrome, a debilitating autosomal recessive skin disorder caused by missing or mutated SPINK5 protein. We expect to resume enrollment in the Phase 2 portion of JADE-1, a randomized, placebo-controlled Phase 1/2 study evaluating KB105 for the treatment of lamellar icthyosis in the first half of 2025, and plan to file an investigational new drug (“IND”) application and initiate a clinical trial of KB104 to treat patients with Netherton Syndrome following initiation of the KB105 Phase 2 study. Details of the JADE-1 Phase 1/2 study can be found at www.clinicaltrials.gov under NCT identifier NCT04047732. Aesthetics In addition to focusing on genetic medicines to treat patients with diseases with high unmet medical needs, we are leveraging the ability of our platform to deliver proteins of interest to cells in the skin in the context of aesthetic medicine via our wholly-owned subsidiary, Jeune Aesthetics, Inc. (“Jeune”). KB301 is a solution formulation of our novel vector for intradermal injection designed to deliver two copies of the COL3A1 transgene to address signs of aging or damaged skin caused by declining levels of, or damaged proteins within the extracellular matrix, including type III collagen. In April 2023, Jeune initiated and treated the first subject in the Phase 1 PEARL-1 Cohort 3 clinical study. The PEARL-1 Cohort 3 study is an open label study to evaluate different doses of KB301 for the improvement of lateral canthal lines at rest in up to 20 subjects. In January 2024, Jeune initiated the PEARL-1 Cohort 4 clinical study, an open label study to evaluate KB301 for the improvement of dynamic wrinkles of the décolleté in up to 20 subjects. Cohorts 3 and 4 were fully enrolled in April 2024 and Jeune plans to announce results for both cohorts in the third quarter of 2024. Following completion of both cohorts, Jeune plans to initiate a Phase 2 study of KB301. Details of the Phase 1 study can be found at www.clinicaltrials.gov under NCT identifier NCT04540900. Jeune has several other aesthetic medicine product candidates in various stages of preclinical development. Financial Overview Product Revenue, Net After FDA approval of VYJUVEK in May 2023, we began commercial marketing and sales throughout the United States and began recognizing revenue during the third quarter of 2023. Our future revenue will fluctuate from quarter to quarter for many reasons, including the uncertain timing and amount of any such sales. 20 We have contracted to sell VYJUVEK to a limited number of specialty pharmacy providers (“SPs”) that mix the medication and administer it to patients in the patient’s home by a healthcare professional and through a specialty distributor (“SD”) to hospitals and outpatient clinics where patients are administered the medication at a healthcare professional’s office. The transaction price that we recognize as revenue for VYJUVEK sales includes an estimate of variable consideration, which includes discounts, returns, copay assistance and rebates that are offered within contracts. Refer to Note 3 of the notes to condensed consolidated financial statements included in this Form 10-Q and Note 2 of our consolidated financial statements in our 2023 10-K for additional information. Cost of Goods Sold Cost of goods sold includes direct and indirect costs related to the manufacturing of VYJUVEK. These costs consist of manufacturing costs, personnel costs including stock-based compensation, facility costs, and other indirect overhead costs. Cost of goods sold may also include period costs related to certain manufacturing services and inventory adjustment charges. Prior to receiving FDA approval in May 2023, costs associated with the manufacturing of VYJUVEK were expensed as research and development expenses. Research and Development Expenses Research and development expenses consist primarily of costs incurred to advance our preclinical and clinical candidates, which include: • expenses incurred under agreements with contract manufacturing organizations, contract research organizations, consultants and other vendors that conduct our preclinical activities; • costs of acquiring, developing and manufacturing clinical trial materials and lab supplies; • facility costs, depreciation and other expenses, which include direct expenses for rent and maintenance of facilities and other supplies; and • payroll related expenses, including stock-based compensation expense. We expense internal research and development costs to operations as incurred. We expense third-party costs for research and development activities, such as the manufacturing of preclinical and clinical materials, based on an evaluation of the progress to completion of specific tasks such as manufacturing of drug substance, fill/finish and stability testing, which is provided to us by our vendors. We expect our research and development expenses will increase as we continue the manufacturing of preclinical and clinical materials and manage the clinical trials of, and seek regulatory approval for, our product candidates and as we expand our product portfolio. In the near term, we expect that our research and development expenses will increase as we continue our Phase 1 trials for KB407, KB408, intratumoral KB707, and inhaled KB707, resume dosing with KB105 in our Phase 1/2 clinical trial, complete the Phase 1, Cohorts 3 and 4 study and initiate a Phase 2 trial for KB301, begin our open label study evaluating ophthalmic B-VEC, and incur preclinical expenses for our other product candidates. Due to the numerous risks and uncertainties associated with product development, we cannot determine with certainty the duration, costs and timing of clinical trials, and, as a result, the actual costs to complete clinical trials may exceed the expected costs. Selling, General and Administrative Expenses Selling, general and administrative expenses consist principally of salaries and other related costs, including stock-based compensation for personnel in our executive, finance, legal, commercial, business development, information technology and other general and administrative functions. Selling, general and administrative expenses also include professional fees associated with corporate and intellectual property-related legal expenses, consulting and accounting services, insurance, facility-related costs and expenses associated with obtaining and maintaining patents. Other selling, general and administrative costs include travel expenses, patient access program costs, management service fees, marketing expenses, and selling expenses which include transportation, shipping and handling fees. We anticipate that our selling, general and administrative expenses will increase in the future relating to our commercialization efforts and to support the development of our product candidates. These increases will likely include increased costs for insurance, costs related to the hiring of additional personnel and payments to outside consultants, lawyers and accountants, among other expenses. Additionally, we anticipate that we will continue to increase our salary and personnel costs and other expenses to support B-VEC commercialization globally. ASTRA Capital Expenditures In March 2021, we closed on the purchase of the building that was constructed to house our second commercial scale CGMP facility, ASTRA. In March 2023, we received the permanent occupancy permit for ASTRA which allowed the Company to begin utilizing certain parts of the building for research and development operations once qualification was 21 completed and a portion of the assets were placed into service throughout 2023. We incurred significant capital expenditures related to the construction of ASTRA in 2023 and expect to continue to incur capital expenditures related to ASTRA throughout the operational life of the facility. Interest and Other Income, Net Interest and other income, net consists primarily of income earned from our cash, cash equivalents and investments. Critical Accounting Policies, Significant Judgments and Estimates There have been no significant changes during the six months ended June 30, 2024 to our critical accounting policies, significant judgments and estimates as disclosed in our management’s discussion and analysis of financial condition and results of operations included in our 2023 10-K. Results of Operations Our management’s discussion and analysis of our financial position and results of operations is based on our financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles, or GAAP. The preparation of financial statements in conformity with GAAP requires us to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Three Months Ended June 30, 2024 and 2023 Three Months Ended June 30, 2024 2023 Change (in thousands) (unaudited) Product revenue, net $ 70,284 $ — $ 70,284 Expenses Cost of goods sold 6,009 — 6,009 Research and development 15,583 12,144 3,439 Selling, general and administrative 27,626 25,904 1,722 Litigation settlement 12,500 — 12,500 Total operating expenses 61,718 38,048 23,670 Income (loss) from operations 8,566 (38,048) 46,614 Other income Interest and other income, net 7,479 4,838 2,641 Income (loss) before income taxes 16,045 (33,210) 49,255 Income tax expense (477) — (477) Net income (loss) $ 15,568 $ (33,210) $ 48,778 Product Revenue, Net Product revenue, net was $70.3 million for the three months ended June 30, 2024, as compared to zero for the three months ended June 30, 2023 due to sales of VYJUVEK after FDA approval was obtained on May 19, 2023. As VYJUVEK initial product sales revenue did not begin until the third quarter of 2023, there was no comparative period revenue. Cost of Goods Sold Cost of goods sold was $6.0 million for the three months ended June 30, 2024, as compared to zero for the three months ended June 30, 2023 due to sales of VYJUVEK after FDA approval was obtained on May 19, 2023. Prior to receiving FDA approval for VYJUVEK in May 2023, costs associated with the manufacturing of VYJUVEK were expensed as research and development expense. Research and Development Expenses Research and development expenses increased $3.4 million in the three months ended June 30, 2024 compared to the three months ended June 30, 2023. The increase was primarily driven by the following: • an increase in manufacturing expenses of $2.0 million related to our product candidates, including on-going manufacturing efficiency and process optimization costs for which such processes have not yet been approved by the FDA, 22 • an increase of $820 thousand in clinical development costs, • an increase in depreciation of $621 thousand due to the Company's second CGMP facility being placed into service in 2023 partially offset by the capitalization of depreciation associated with commercial batches of VYJUVEK after FDA approval in May 2023 and • an increase in other research and development expenses of $678 thousand primarily relating to licensing and regulatory costs. The increases were partially offset by: • a decrease of $407 thousand due to the capitalization of allocated overhead costs for commercial batches of VYJUVEK after FDA approval in May 2023 and • a net decrease in direct manufacturing expenses of $269 thousand primarily due to the capitalization of costs to manufacture VYJUVEK into inventory following FDA approval. Research and development expenses consist primarily of costs relating to our preclinical development, the development of our product candidates and our clinical trial programs. Direct research and development expenses associated with our product candidates or development programs consist of compensation related expenses for our internal resources conducting research and development activities, fees paid to external consultants, contract research organizations, or for costs to support our clinical trials. Indirect research and development expenses that are allocated to our product candidates or programs consist of lab supplies and software fees. A significant portion of our research and development expenses are not allocated to individual product candidates and preclinical programs, as certain expenses benefit multiple product candidates and preclinical programs. For example, we do not allocate costs associated with stock-based compensation, manufacturing of preclinical or clinical development products or costs relating to facilities and equipment to individual product candidates and preclinical programs. The following table summarizes our research and development expenses by product candidate or program, and for unallocated expenses, by type, for the three months ended June 30, 2024 and 2023. Three Months Ended June 30, 2024 2023 Change (in thousands) (unaudited) B-VEC $ 3,594 $ 2,130 $ 1,464 KB407 713 442 271 KB408 249 309 (60) KB301 223 77 146 KB707 1,770 943 827 Ophthalmology programs 612 — 612 Other dermatology programs 21 16 5 Other aesthetics programs 823 1 822 Other research programs 393 131 262 Other development programs 193 194 (1) Stock-based compensation 2,772 2,863 (91) Other unallocated manufacturing expenses (1) 2,288 3,536 (1,248) Other unallocated expenses (2) 1,932 1,502 430 Research and development expense $ 15,583 $ 12,144 $ 3,439 (1) Unallocated manufacturing expenses consist of shared pre-commercial manufacturing costs, primarily relating to raw materials, contract manufacturing, contract testing, process development, quality control and quality assurance activities and other manufacturing costs which support the development of multiple product candidates in our preclinical and clinical development programs. (2) Other unallocated expenses include rental, storage, depreciation, and other facility related costs that we do not allocate to our individual product candidates. The primary changes in our research and development expenses by product candidate or program in the three months ended June 30, 2024 compared to the three months ended June 30, 2023 are as follows: • a net increase in B-VEC costs of $1.5 million largely due to the following: 23 ◦ on-going manufacturing efficiency and process optimization costs for which such processes have not yet been approved by the FDA, ◦ an increase in overseas preclinical and clinical trial costs and ◦ overseas licensing and regulatory costs; ◦ partially offset by costs being to research and development expense prior to receiving FDA approval in May 2023 that are now included as part of the cost of inventory, • an increase in KB707 costs of $827 thousand following the expansion of our research and development pipeline to oncology consisting of an increase in payroll related costs to support our research and an increase in contract research expenses in preparation for the Phase 1 clinical trial of inhaled KB707 that has now commenced, • an increase in other aesthetics programs of $822 thousand, • an increase in ophthalmology programs of $612 thousand, inclusive of $214 thousand for ophthalmic B-VEC and • an increase in other unallocated expenses of $430 thousand, which largely relates to depreciation due to the Company's second CGMP facility being placed into service in 2023 partially offset by the capitalization of depreciation associated with commercial batches of VYJUVEK after its approval in May 2023. The increases were partially offset by: • a decrease in other unallocated manufacturing expenses of $1.2 million primarily due to costs related to the manufacturing of VYJUVEK being recorded as inventory and cost of goods sold following FDA approval. Selling, General and Administrative Expenses Selling, general and administrative expenses increased $1.7 million in the three months ended June 30, 2024 as compared to the three months ended June 30, 2023. The increase was primarily driven by the following: • an increase in stock-based compensation of $1.9 million, • an increase related to professional services incurred to support our commercial growth of $938 thousand and • an increase in selling expenses related to the launch of VYJUVEK of $909 thousand, which includes $184 thousand related to our patient access program. The increases were partially offset by: • a decrease in marketing costs of $1.5 million due to the timing of marketing activities ahead of the VYJUVEK launch and • a decrease in information technology infrastructure costs of $355 thousand. Litigation Settlement Litigation settlement for the three months ended June 30, 2024 and 2023 was $12.5 million and zero, respectively, and consisted of amounts related to the settlement of litigation with PeriphaGen. See “Legal Proceedings” in Note 7 of the notes to condensed consolidated financial statements included in this Form 10-Q for more information. Interest and Other Income, Net Interest and other income, net for the three months ended June 30, 2024 and 2023 was $7.5 million and $4.8 million, respectively, and consisted of interest and dividend income earned from our cash, cash equivalents and investments. The increase in interest and dividend income is the result of increased investment activity and more favorable interest rates as compared to the prior period and an increase in our balance of cash, cash equivalents and investments. Income Tax Expense Income tax expense for the three months ended June 30, 2024 and 2023 was $477 thousand and zero, respectively. 24 Six Months Ended June 30, 2024 and 2023 Six Months Ended June 30, 2024 2023 Change (in thousands) (unaudited) Product revenue, net $ 115,535 $ — $ 115,535 Expenses Cost of goods sold 8,428 — 8,428 Research and development 26,539 24,432 2,107 Selling, general and administrative 53,685 49,939 3,746 Litigation settlement 25,000 12,500 12,500 Total operating expenses 113,652 86,871 26,781 Income (loss) from operations 1,883 (86,871) 88,754 Other income Interest and other income, net 15,095 8,364 6,731 Income (loss) before income taxes 16,978 (78,507) 95,485 Income tax expense (477) — (477) Net income (loss) $ 16,501 $ (78,507) $ 95,008 Products Revenue, net Product revenue, net was $115.5 million for the six months ended June 30, 2024 as compared to zero for the six months ended June 30, 2023 due to initial sales of VYJUVEK after FDA approval was obtained on May 19, 2023. As VYJUVEK was approved by the FDA in May 2023, there were no comparative period revenue. Cost of Goods Sold Cost of goods sold was $8.4 million for the six months ended June 30, 2024 as compared to zero for the six months ended June 30, 2023 due to initial sales of VYJUVEK after FDA approval was obtained on May 19, 2023. Prior to receiving FDA approval for VYJUVEK in May 2023, costs associated with the manufacturing of VYJUVEK were expensed as research and development expense. Research and Development Expenses Research and development expenses increased $2.1 million in the six months ended June 30, 2024 compared to the six months ended June 30, 2023. The increase was primarily driven by the following: • an increase in manufacturing expenses of $1.8 million related to our product candidates, • an increase in clinical development costs of $983 thousand, • an increase in depreciation of $893 thousand due to the Company's second CGMP facility being placed into service in 2023 partially offset by the capitalization of depreciation associated with commercial batches of VYJUVEK after FDA approval in May 2023 and • an increase in other research and development expenses of $1.0 million primarily relating to licensing and regulatory costs. The increases were partially offset by: • a decrease of $1.3 million due to the capitalization of allocated overhead costs for commercial batches of VYJUVEK after FDA approval in May 2023 partially offset by increased payroll related expenses, including stock-based compensation, primarily driven by an increase in headcount to support overall growth and • a net decrease in direct manufacturing expenses of $1.2 million due to the capitalization of costs to manufacture VYJUVEK into inventory following FDA approval. 25 The following table summarizes our research and development expenses by product candidate or program, and for unallocated expenses, by type, for the six months ended June 30, 2024 and 2023: Six Months Ended June 30, 2024 2023 Change (in thousands) (unaudited) B-VEC $ 5,815 $ 4,520 $ 1,295 KB407 1,451 819 632 KB408 495 419 76 KB301 383 329 54 KB707 3,156 1,408 1,748 Ophthalmology programs 712 — 712 Other dermatology programs 35 257 (222) Other aesthetics programs 958 14 944 Other research programs 643 258 385 Other development programs 425 529 (104) Stock-based compensation 4,640 5,359 (719) Other unallocated manufacturing expenses (1) 4,419 7,456 (3,037) Other unallocated expenses (2) 3,407 3,064 343 Research and development expense $ 26,539 $ 24,432 $ 2,107 (1) Unallocated manufacturing expenses consist of shared pre-commercial manufacturing costs, primarily relating to raw materials, contract manufacturing, contract testing, process development, quality control and quality assurance activities and other manufacturing costs which support the development of multiple product candidates in our preclinical and clinical development programs. (2) Other unallocated expenses include rental, storage, depreciation, and other facility related costs that we do not allocate to our individual product candidates. The primary changes in our research and development expenses by product candidate or program in the six months ended June 30, 2024 compared to the six months ended June 30, 2023 are as follows: • an increase in KB707 costs of $1.7 million following the expansion of our research and development pipeline to oncology consisting of increase in payroll related costs to support our research and an increase in contract research expenses in preparation for the Phase 1 clinical trial of inhaled KB707that has now commenced, • a net increase in B-VEC costs of $1.3 million largely due to: ◦ on-going manufacturing efficiency and process optimization costs for which such processes have not yet been approved by the FDA, ◦ an increase in overseas preclinical and clinical trial costs and ◦ overseas licensing and regulatory costs partially offset by costs being expensed to research and development expense prior to receiving FDA approval in May 2023 that are now included as part of the cost of inventory, • an increase in other aesthetics programs of $944 thousand, • an increase in ophthalmology programs of $712 thousand, inclusive of $214 thousand for ophthalmic B-VEC, • an increase in KB407 costs of $632 thousand and • an increase in other unallocated expenses of $343 thousand, which largely relates to depreciation due to the Company's second CGMP facility being placed into service in 2023 partially offset by the capitalization of depreciation associated with commercial batches of VYJUVEK after its approval in May 2023. The increases were partially offset by: • a decrease in other unallocated manufacturing expenses of $3.0 million primarily due to the costs related to the manufacturing of VYJUVEK following FDA approval being recorded as inventory and cost of goods sold and • a decrease in stock-based compensation of $719 thousand due to the allocation of labor costs related to work performed to manufacture VYJUVEK to inventory following FDA approval. 26 Selling, General and Administrative Expenses Selling, general and administrative expenses increased $3.7 million in the six months ended June 30, 2024 as compared to the six months ended June 30, 2023. The increase was primarily driven by the following: • an increase in selling expenses related to the launch of VYJUVEK of $3.0 million, which includes $1.7 million related to our patient access program, • an increase related to professional services incurred to support our commercial growth of $1.7 million, • an increase in stock-based compensation of $1.4 million and • an increase in payroll related expenses of $1.0 million, which was primarily driven by an increase in headcount to support overall growth. The increases were partially offset by: • a decrease in marketing costs of $2.5 million due to the timing of marketing activities ahead of the VYJUVEK launch and • a decrease in information technology infrastructure costs of $436 thousand. Litigation Settlement Litigation settlement for the six months ended June 30, 2024 and 2023 was $25.0 million and $12.5 million, respectively, and consisted of amounts related to the settlement of litigation with PeriphaGen. See “Legal Proceedings” in Note 7 of the notes to condensed consolidated financial statements included in this Form 10-Q for more information. Interest and Other Income, Net Interest and other income, net for the six months ended June 30, 2024 and 2023 was $15.1 million and $8.4 million, respectively, and consisted of interest and dividend income earned from our cash, cash equivalents and investments. The increase in interest and dividend income is the result of increased investment activity and more favorable interest rates as compared to the prior period and an increase in our balance of cash, cash equivalents and investments. Income Tax Expense Income tax expense for the six months ended June 30, 2024 and 2023 was $477 thousand and zero, respectively. Liquidity and Capital Resources Overview As of June 30, 2024, our cash, cash equivalents and short-term investments balance was approximately $559.6 million. As of June 30, 2024, we had an accumulated deficit of $253.3 million. We believe that our cash, cash equivalents and short-term investments as of June 30, 2024 will be sufficient to allow us to fund our operations for at least 12 months from the filing date of this Quarterly Report on Form 10-Q. Our ability to continue to achieve operating profitability is dependent upon the continued successful commercialization of VYJUVEK and the successful development, approval, manufacturing, and commercialization of product candidates. Furthermore, we expect to incur increasing costs associated with satisfying regulatory and quality standards, maintaining and initiating product clinical trials, and furthering our efforts to discover, develop, manufacture, and commercialize current and future product candidates. We intend to fund future operations through on hand cash and cash equivalents, revenue generated from the sale of VYJUVEK, the sale of equity, debt financings, and we may also seek additional capital through arrangements with strategic partners or other sources. Costs related to clinical trials can be unpredictable and, therefore, there can be no guarantee that we will have sufficient capital to fund the continued or planned pre-clinical and clinical studies for our product candidates, or our operations. Further, we expect future revenue to fluctuate from quarter to quarter for many reasons, including the uncertain timing and amount of any product sales. While we are in the process of building out our internal vector manufacturing capacity, some of our manufacturing activities will be contracted out to third parties. Additionally, we currently utilize third-party contract research organizations to carry out some of our clinical development activities. As we seek to obtain regulatory approval for our product candidates, we expect to continue to incur significant manufacturing and commercialization expenses as we prepare for product sales, marketing, commercial manufacturing, packaging, labeling and distribution. Furthermore, pursuant to our settlement agreement with PeriphaGen, we will be required to pay three $12.5 million contingent milestone payments upon reporting $100.0 million in cumulative sales, $200.0 million in cumulative sales and $300.0 million in cumulative sales. Our funds may not be sufficient to enable us to conduct pivotal clinical trials for, seek marketing approval for or commercially launch our product candidates. Accordingly, to obtain marketing approval for and to commercialize these or any other product 27 candidates, we may be required to obtain further funding through public or private equity offerings, debt financings, collaboration and licensing arrangements or other sources. Adequate additional financing may not be available to us on acceptable terms, if at all. Our failure to raise capital when needed could have a negative effect on our financial condition and our ability to pursue our business strategy. Operating Capital Requirements Our primary uses of capital are, and we expect will continue to be for the near future, compensation and related expenses, manufacturing costs for preclinical and clinical materials, regulatory expenses, third-party clinical trial research and development services, laboratory and related supplies, selling expenses, costs to manufacture our commercial product, legal expenses, payments of settlement amounts to PeriphaGen and general overhead costs. In order to complete the process of obtaining regulatory approval for any of our product candidates and to build the sales, manufacturing, marketing and distribution infrastructure that we believe will be necessary to commercialize our product candidates, if approved, we may require substantial additional funding. We have based our projections of operating capital requirements on assumptions that may prove to be incorrect, and we may use all of our available capital resources sooner than we expect. Because of the numerous risks and uncertainties associated with research, development, manufacturing and commercialization of genetic medicines, we are unable to estimate the exact amount of our operating capital requirements. Our future funding requirements will depend on many factors, including, but not limited to: • the costs needed to commercialize and market our lead product, VYJUVEK; • the progress, timing and costs of clinical trials of our current product candidates; • the progress, timing and costs of manufacturing VYJUVEK and revenue received from commercial sale of VYJUVEK; • the continued development and the filing of IND applications for current and future product candidates; • the initiation, scope, progress, timing, costs and results of drug discovery, laboratory testing, manufacturing, preclinical studies and clinical trials for any product candidates that we may pursue in the future, if any; • the costs of maintaining our own commercial-scale CGMP manufacturing facilities; • the outcome, timing and costs of seeking regulatory approvals; • the costs associated with the manufacturing process development and evaluation of third-party manufacturers; • the extent to which the costs of VYJUVEK and our product candidates, if approved, will be paid by health maintenance, managed care, pharmacy benefit and similar healthcare management organizations, or will be reimbursed by government authorities, private health coverage insurers and other third-party payors; • the costs of commercialization activities for our current and future product candidates if we receive marketing approval for such product candidates, including the costs and timing of establishing product sales, medical affairs, marketing, distribution and manufacturing capabilities; • subject to receipt of marketing approval, if any, revenue received from commercial sale of our current and future product candidates; • the terms and timing of any future collaborations, licensing, consulting or other arrangements that we may establish; • the amount and timing of any payments we may be required to make, or that we may receive, in connection with the licensing, filing, prosecution, maintenance, defense and enforcement of any patents or other intellectual property rights, including milestone and royalty payments and patent prosecution fees that we are obligated to pay pursuant to our license agreements; • our current license agreements remaining in effect and our achievement of milestones under those agreements; • our ability to establish and maintain collaborations and licenses on favorable terms, if at all; and • the extent to which we acquire or in-license other product candidates and technologies. We may need to obtain substantial additional funding in order to receive regulatory approval and to commercialize our product candidates. To the extent that we raise additional capital through the sale of common stock, convertible securities or other equity securities, the ownership interests of our existing stockholders may be materially diluted and the terms of these securities could include liquidation or other preferences that could adversely affect the rights of our existing stockholders. In addition, debt financing, if available, would result in increased fixed payment obligations and may involve agreements that 28 include restrictive covenants that limit our ability to take specific actions, such as incurring additional debt, making capital expenditures or declaring dividends, that could adversely affect our ability to conduct our business. If we are unable to raise capital when needed or on attractive terms, we could be forced to significantly delay, scale back or discontinue the development or commercialization of our product candidates, seek collaborators at an earlier stage than otherwise would be desirable or on terms that are less favorable than might otherwise be available, and relinquish or license, potentially on unfavorable terms, our rights to our product candidates that we otherwise would seek to develop or commercialize ourselves. Sources and Uses of Cash The following table summarizes our sources and uses of cash for the six months ended June 30, 2024 and 2023: Six Months Ended June 30, 2024 2023 (in thousands) (unaudited) Net cash provided by (used in) operating activities $ 11,720 $ (60,346) Net cash (used in) investing activities (45,333) (12,394) Net cash provided by financing activities 21,221 186,743 Effect of exchange rate changes on cash and cash equivalents (150) (28) Net (decrease) increase in cash $ (12,542) $ 113,975 Operating Activities Net cash provided by operating activities for the six months ended June 30, 2024 was $11.7 million and consisted primarily of net income of $16.5 million adjusted for $22.2 million of non-cash items and a $27.0 million decrease in working capital. Non-cash adjustments included depreciation of $3.3 million, amortization of operating lease right-of-use assets of $368 thousand, stock-based compensation expense of $22.5 million and other adjustments of $89 thousand, offset by realized gain on investments of $2.9 million and accretion on marketable securities of $1.1 million. Net cash used in operating activities for the six months ended June 30, 2023 was $60.3 million and consisted primarily of net loss of $78.5 million adjusted for $21.2 million of non-cash items and a $3.0 million decrease in working capital. Non-cash adjustments included depreciation of $2.3 million, amortization of operating lease right-of-use assets of $441 thousand, stock-based compensation expense of $21.8 million and other adjustments of $50 thousand, offset by realized gain on investments of $2.4 million and accretion on marketable securities of $1.0 million. Investing Activities Net cash used in investing activities for the six months ended June 30, 2024 was $45.3 million and consisted of $201.7 million in purchases of short-term and long-term investments and $2.4 million in purchases of property and equipment, partially offset by $158.8 million received from the maturities and early calls of short- and long-term investments. Net cash used in investing activities for the six months ended June 30, 2023 was $12.4 million and consisted of $320.0 million in purchases of short-term and long-term investments and $8.2 million in purchases of property and equipment, partially offset by $315.7 million received from the maturities of short-term investments. Financing Activities Net cash provided by financing activities for the six months ended June 30, 2024 was $21.2 million and consisted of proceeds of $26.6 million from exercises of stock options, partially offset by $4.2 million used for employee tax withholding payments related to vested restricted stock units and $1.2 million used for employee tax withholding payments for settlement of vested restricted stock awards. Net cash provided by financing activities for the six months ended June 30, 2023 was $186.7 million and consisted of proceeds of $159.8 million from issuances of common stock, proceeds of $27.7 million from exercises of stock options, partially offset by $749 thousand used for employee tax withholding payments for settlement of vested restricted stock awards.