Item 7. Management’s Discussion and Analysis
Item 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
You should read the following discussion and analysis of our financial condition and results of operations together with the “Selected Consolidated Financial Data” section of this Annual Report on Form 10-K and our consolidated financial statements and related notes appearing elsewhere in this Annual Report on Form 10-K. Some of the information contained in this discussion and analysis or set forth elsewhere in this Annual Report on Form 10-K, including information with respect to our plans and strategy for our business and related financing, includes forward-looking statements that involve risks and uncertainties. As a result of many factors, including those factors set forth in the “Risk Factors” section of this Annual Report on Form 10-K, our actual results could differ materially from the results described in or implied by the forward-looking statements contained in the following discussion and analysis.
Overview
We are a clinical-stage biopharmaceutical company translating genetic insights into the development of therapies for central nervous system, or CNS, disorders characterized by neuronal imbalance. Normal brain function requires a delicate balance of excitation and inhibition in neuronal circuits, which, when dysregulated, leads to abnormal function and disease. We are applying insights from genetic epilepsies to broader neurological and psychiatric disorders, using our understanding of shared biological targets and circuits in the brain. We apply a deliberate and pragmatic precision approach, leveraging a suite of translational tools including novel transgenic and predictive translational animal models and electrophysiology markers, to enable an efficient path to proof-of-concept in patients. Through this approach, we have established a broad portfolio, including multiple disclosed programs across CNS disorders, including depression, epilepsy, movement disorders and pain syndromes, with three clinical-stage product candidates. We intend to develop differentiated therapies that can deliver long-term benefits to human health by meaningfully impacting patients and society. We expect multiple topline clinical trial readouts from all three programs in the next year and anticipate the launch of a new clinical development program in 2021. We intend to develop differentiated therapies that can deliver long-term benefits to human health by meaningfully impacting patients and society.
Our most advanced programs, PRAX-114 and PRAX-944, are currently in Phase 2 development. PRAX-114 is being developed for the treatment of major depressive disorder and perimenopausal depression. Together, these conditions affect more than 22 million patients in the United States. PRAX-944 is a selective small molecule inhibitor of T-type calcium channels for the treatment of essential tremor, a progressive and debilitating movement disorder affecting up to seven million people in the United States. In addition, we initiated a Phase 1 trial of PRAX-562, a persistent sodium current blocker, for the treatment of a broad range of rare, devastating CNS disorders, such as severe pediatric epilepsies and rare adult cephalgias. In addition to our clinical programs, we have multiple disclosed preclinical product candidates in development for severe genetic epilepsies.
We were incorporated in 2015 and commenced operations in 2016. Since inception, we have devoted substantially all of our resources to developing our preclinical and clinical product candidates, building our intellectual property portfolio, business planning, raising capital and providing general and administrative support for these operations. We employ a “virtual” research and development model, relying heavily upon external consultants, collaborators and contract research organizations to conduct our preclinical and clinical activities. Since inception, we have financed our operations primarily with proceeds from the issuance of convertible debt and sales of our Series A redeemable convertible preferred stock, Series B redeemable convertible preferred stock, Series B-1 redeemable convertible preferred stock, Series C redeemable convertible preferred stock and Series C-1 redeemable convertible preferred stock and the closing of our initial public offering, or IPO.
On October 20, 2020, we completed our IPO in which we issued and sold 11,500,000 shares of our common stock at a public offering price of $19.00 per share, including 1,500,000 shares of common stock sold pursuant to the underwriters’ exercise of their option to purchase additional shares of common stock, for aggregate gross proceeds of $218.5 million. We raised approximately $200.3 million in net proceeds after deducting underwriting discounts and commissions and offering expenses payable by us. Upon the closing of the IPO, all of the outstanding shares of our Series A redeemable convertible preferred stock, Series B redeemable convertible preferred stock, Series B-1 redeemable convertible preferred stock, Series C redeemable convertible preferred stock and Series C-1 redeemable convertible preferred stock automatically converted into 25,067,977 shares of common stock. Subsequent to the closing of the IPO, there were no shares of redeemable convertible preferred stock outstanding. In connection with the closing of the IPO, we filed an Amended and Restated Certificate of Incorporation to change the authorized capital stock to 150,000,000 shares of common stock and 10,000,000 shares of undesignated preferred stock.
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We are a development stage company and we have not generated any revenue from product sales, and do not expect to do so for several years, if at all. All of our programs are still in preclinical and clinical development. Our ability to generate product revenue sufficient to achieve profitability will depend heavily on the successful development and eventual commercialization of one or more of our product candidates, if approved. We have incurred recurring operating losses since inception, including net losses of $61.8 million and $35.5 million for the years ended December 31, 2020 and 2019, respectively. As of December 31, 2020, we had an accumulated deficit of $149.6 million. We expect to incur significant expenses and operating losses for the foreseeable future as we expand our research and development activities. In addition, our losses from operations may fluctuate significantly from quarter-to-quarter and year-to-year, depending on the timing of our clinical trials and our expenditures on other research and development activities. We anticipate that our expenses will increase significantly in connection with our ongoing activities, as we:
• advance our lead product candidates, PRAX-114 and PRAX-944, to late stage clinical trials;
• advance our PRAX-562 product candidate to Phase 2 clinical trials;
• advance our discovery-stage programs to clinical trials;
• further invest in our pipeline;
• further invest in our manufacturing capabilities;
• seek regulatory approval for our investigational medicines;
• maintain, expand, protect and defend our intellectual property portfolio;
• acquire or in-license technology;
• secure facilities to support continued growth in our research, development and commercialization efforts;
• take temporary precautionary measures to help minimize the risk of COVID-19 to our employees;
• increase our headcount to support our development efforts and to expand our clinical development team; and
• incur additional costs and headcount associated with operating as a public company.
In addition, as we progress toward marketing approval for any of our product candidates, we expect to incur significant commercialization expenses related to product manufacturing, marketing, sales and distribution.
As a result, we will need substantial additional funding to support our continuing operations and pursue our growth strategy. Until such time as we can generate significant revenue from product sales, if ever, we expect to finance our operations through the sale of equity, debt financings or other capital sources, including potential collaborations with other companies or other strategic transactions. We may be unable to raise additional funds or enter into such other agreements or arrangements when needed on favorable terms, or at all. If we fail to raise capital or enter into such agreements as, and when, needed, we may have to significantly delay, scale back or discontinue the development and commercialization of one or more of our product candidates or delay our pursuit of potential in-licenses or acquisitions.
Because of the numerous risks and uncertainties associated with product development, we are unable to predict the timing or amount of increased expenses or when or if we will be able to achieve or maintain profitability. Even if we are able to generate product sales, we may not become profitable. If we fail to become profitable or are unable to sustain profitability on a continuing basis, then we may be unable to continue our operations at planned levels and be forced to reduce or terminate our operations.
As of December 31, 2020, we had cash and cash equivalents of $296.6 million. We believe that our existing cash and cash equivalents will enable us to fund our operating expenses and capital expenditures into the fourth quarter of 2022. We have based this estimate on assumptions that may prove to be wrong, and we could exhaust our available capital resources sooner than we expect. See “—Liquidity and Capital Resources.”
COVID-19 Business Update
With the global spread of the ongoing COVID-19 pandemic in 2020, we have implemented business continuity plans designed to address and mitigate the impact of the COVID-19 pandemic on our employees and our business, including our preclinical studies and clinical trials. Our operations are considered an essential business and we are
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continuing to operate during this period. We have taken measures to secure our research and development activities. While we are experiencing limited financial impacts at this time, given the global economic slowdown, the overall disruption of global healthcare systems and the other risks and uncertainties associated with the pandemic, our business, financial condition and results of operations could be materially adversely affected. We continue to closely monitor the COVID-19 pandemic as we evolve our business continuity plans, clinical development plans and response strategy.
In addition, while we have taken and are continuing to take steps to mitigate against COVID-19 pandemic-related delays, our planned clinical trials may be affected by the COVID-19 pandemic, including (i) delays or difficulties in enrolling and retaining patients in our planned clinical trials, including patients that may not be able or willing to comply with clinical trial protocols if quarantines impede patient movement or interrupt healthcare services; (ii) delays or difficulties in clinical site initiation, including difficulties in recruiting and retaining clinical site investigators and clinical site staff; (iii) diversion or prioritization of healthcare resources away from the conduct of clinical trials and towards the COVID-19 pandemic, including the diversion of hospitals serving as our clinical trial sites and hospital staff supporting the conduct of our clinical trials, and because, who, as healthcare providers, may have heightened exposure to COVID-19 and adversely impact our clinical trial operations; (iv) interruption of our future clinical supply chain or key clinical trial activities, such as clinical trial site monitoring, due to limitations on travel imposed or recommended by federal, state/provincial or municipal governments, employers and others; and (v) limitations in outsourced third-party resources that would otherwise be focused on the conduct of our planned clinical trials, including because of sickness of third-party personnel or their families, or the desire of third-party personnel to avoid contact with large groups of people.
Financial Operations Overview
Revenue
We have not generated any revenue since inception and do not expect to generate any revenue from the sale of products for several years, if at all. If our development efforts for our current or future product candidates are successful and result in marketing approval or collaboration or license agreements with third parties, we may generate revenue in the future from a combination of product sales or payments from collaboration or license agreements that we may enter into with third parties.
Operating Expenses
Research and Development Expense
The nature of our business and primary focus of our activities generate a significant amount of research and development costs. Research and development expenses represent costs incurred by us for the following:
• costs to develop our portfolio;
• discovery efforts leading to development candidates;
• clinical development costs for our programs; and
• costs to develop our manufacturing technology and infrastructure.
The costs above comprise the following categories:
• personnel-related expenses, including salaries, benefits and stock-based compensation expense;
• expenses incurred under agreements with third parties, such as consultants, investigative sites and contract research organizations, or CROs, that conduct our preclinical and clinical studies and in-licensing arrangements;
• costs incurred to maintain compliance with regulatory requirements;
• costs incurred with third-party contract development and manufacturing organizations, or CDMOs, to acquire, develop and manufacture materials for preclinical and clinical studies; and
• depreciation, amortization and other direct and allocated expenses, including rent, insurance and other operating costs, incurred as a result of our research and development activities.
We expense research and development costs as incurred. We recognize external development costs based on an evaluation of the progress to completion of specific tasks using information provided to us by our vendors and
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our clinical investigative sites. Payments for these activities are based on the terms of the individual agreements, which may differ from the pattern of costs incurred, and are reflected in our consolidated balance sheets as prepaid expenses or accrued research and development expenses. Non-refundable advance payments for goods or services to be received in the future for use in research and development activities are deferred and capitalized, even when there is no alternative future use for the research and development. The capitalized amounts are expensed as the related goods are delivered or the services are performed.
A significant portion of our research and development costs have been external costs. We track direct external research and development expenses to specific programs upon commencement. Due to the number of ongoing programs and our ability to use resources across several projects, indirect or shared operating costs incurred for our research and development programs, such as personnel, facility costs and certain consulting costs, are not recorded or maintained on a program-specific basis.
Our major programs, PRAX-114, PRAX-944 and PRAX-562, are those for which we have initiated clinical activities. Our discovery-stage programs are those which are at an earlier point in the development process. The following table reflects our research and development expenses, including direct program-specific expenses summarized by major program, discovery-stage program costs and indirect or shared operating costs recognized as research and development expenses during each period presented (in thousands):
Year Ended
December 31,
2020 2019
PRAX-114 $ 13,071 $ 7,192
PRAX-944 4,158 4,035
PRAX-562 4,566 4,276
Discovery-stage programs 6,093 5,909
Personnel-related (including stock-based compensation) 13,483 5,398
Other indirect research and development expenses 3,605 2,747
Total research and development expenses $ 44,976 $ 29,557
Research and development activities are central to our business model. Product candidates in later stages of clinical development generally have higher development costs than those in earlier stages of clinical development, primarily due to the increased size and duration of later-stage clinical trials. We expect that our research and development expenses will continue to increase in the foreseeable future as we advance our product candidates through the development phase, and as we continue to discover and develop additional product candidates, build manufacturing capabilities and expand into additional therapeutic areas.
At this time, we cannot reasonably estimate or know the nature, timing and estimated costs of the efforts that will be necessary to complete the development of, and obtain regulatory approval for, any of our product candidates. We are also unable to predict when, if ever, material net cash inflows will commence from sales or licensing of our product candidates. This is due to the numerous risks and uncertainties associated with drug development, including the uncertainty of:
• our ability to add and retain key research and development personnel;
• the timing and progress of preclinical and clinical development activities;
• the number and scope of preclinical and clinical programs we decide to pursue;
• our ability to successfully complete clinical trials with safety, tolerability and efficacy profiles that are satisfactory to U.S. Food and Drug Administration, or the FDA, or any comparable foreign regulatory authority;
• our ability to successfully develop, obtain regulatory approval for, and then successfully commercialize, our product candidates;
• our successful enrollment in and completion of clinical trials;
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• the costs associated with the development of any additional product candidates we identify in-house or acquire through collaborations;
• our ability to discover, develop and utilize biomarkers to demonstrate target engagement, pathway engagement and the impact on disease progression of our product candidates;
• our ability to establish and maintain agreements with third-party manufacturers for clinical supply for our clinical trials and commercial manufacturing, if our product candidates are approved;
• the terms and timing of any collaboration, license or other arrangement, including the terms and timing of any milestone payments thereunder;
• our ability to obtain and maintain patent, trade secret and other intellectual property protection and regulatory exclusivity for our product candidates if and when approved;
• our receipt of marketing approvals from applicable regulatory authorities;
• our ability to commercialize products, if and when approved, whether alone or in collaboration with others; and
• the continued acceptable safety profiles of the product candidates following approval.
A change in any of these variables with respect to the development of any of our product candidates would significantly change the costs, timing and viability associated with the development of that product candidate. For example, if the FDA or another regulatory authority were to delay our planned start of clinical trials or require us to conduct clinical trials or other testing beyond those that we currently expect, or if we experience significant delays in enrollment in any of our planned clinical trials, we could be required to expend significant additional financial resources and time to complete our clinical development activities. We may never obtain regulatory approval for any of our product candidates. Drug commercialization will take several years and millions of dollars in development costs.
General and Administrative Expense
General and administrative expenses consist primarily of personnel-related costs, including salaries, benefits and stock-based compensation, for personnel in our executive, finance, legal, business development and administrative functions. General and administrative expenses also include legal fees relating to corporate matters; professional fees for accounting, auditing, tax and administrative consulting services; insurance costs; administrative travel expenses; and facility-related expenses, which include direct depreciation costs and allocated expenses for office rent and other operating costs. These costs relate to the operation of the business, unrelated to the research and development function, or any individual program. Costs to secure and defend our intellectual property, or IP, are expensed as incurred and are classified as general and administrative expenses.
We anticipate that our general and administrative expenses will increase in the future as we increase our headcount to support the expected growth in our research and development activities and the potential commercialization of our product candidates. We also expect to incur increased expenses associated with being a public company, including increased costs of accounting, audit, legal, regulatory and tax-related services associated with maintaining compliance with exchange listing and SEC requirements, director and officer insurance costs and investor and public relations costs. We also expect to incur additional IP-related expenses as we file patent applications to protect innovations arising from our research and development activities.
Total Other Income
Interest Income
Interest income consists of interest earned on our cash and cash equivalents.
Income Taxes
Since our inception, we have not recorded any U.S. federal or state income tax benefits for the net losses we have incurred in each year or for our earned research and development tax credits, due to our uncertainty of realizing a benefit from those items. As of December 31, 2020 and 2019, we had U.S. federal and state net operating loss carryforwards which may be available to offset future taxable income and which would begin to expire in 2035. As of December 31, 2020 and 2019, we also had federal and state research and development tax credit carryforwards which may be available to offset future income tax liabilities and which would begin to expire in 2031.
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Income taxes are determined at the applicable tax rates adjusted for non-deductible expenses, research and development tax credits and other permanent differences. Our income tax provision may be significantly affected by changes to our estimates. The income tax benefit recognized for the years ended December 31, 2020 and 2019 related to income tax benefits associated with our operations in Australia.
Results of Operations
Comparison of the Years Ended December 31, 2020 and 2019
The following table summarizes our consolidated statements of operations for each period presented (in thousands):
Year Ended
December 31, Change
2020 2019
Operating expenses:
Research and development $ 44,976 $ 29,557 $ 15,419
General and administrative 16,992 6,232 10,760
Total operating expenses 61,968 35,789 26,179
Loss from operations (61,968) (35,789) (26,179)
Total other income:
Interest income 140 193 (53)
Total other income, net 140 193 (53)
Loss before benefit from income taxes (61,828) (35,596) (26,232)
Benefit from income taxes (8) (84) 76
Net loss $ (61,820) $ (35,512) $ (26,308)
Research and Development Expense
The following table summarizes our research and development expenses for each period presented, along with the changes in those items (in thousands):
Year Ended
December 31, Change
2020 2019
PRAX-114 $ 13,071 $ 7,192 $ 5,879
PRAX-944 4,158 4,035 123
PRAX-562 4,566 4,276 290
Discovery-stage programs 6,093 5,909 184
Personnel-related (including stock-based compensation) 13,483 5,398 8,085
Other indirect research and development expenses 3,605 2,747 858
Total research and development expenses $ 44,976 $ 29,557 $ 15,419
Research and development expenses increased $15.4 million from $29.6 million for the year ended December 31, 2019 to $45.0 million for the year ended December 31, 2020. The increase in research and development expenses was primarily attributable to the following:
• $8.1 million increase in personnel-related costs primarily due to increased headcount, including an increase of $0.9 million in stock-based compensation expense;
• $5.9 million increase in expense related to our PRAX-114 program, primarily driven by a $6.4 million increase in clinical-related spend for our ongoing Phase 2a clinical trial for this program, partially offset by a $0.5 million decrease in preclinical spend;
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• $0.9 million increase in other indirect research and development expenses, primarily driven by an increase in facility, office, software and other overhead costs due to increased research and development headcount; and
• $0.3 million increase in expense related to our PRAX-562 program, primarily driven by a $2.0 million increase in clinical and manufacturing spend related to our Phase 1 clinical trial for this program, partially offset by a $1.7 million decrease in preclinical spend due to prior year work to nominate our clinical candidate.
General and Administrative Expense
General and administrative expenses increased $10.8 million from $6.2 million for the year ended December 31, 2019 to $17.0 million for the year ended December 31, 2020. The increase in general and administrative expenses was primarily attributable to the following:
• $7.0 million increase in personnel-related costs, primarily driven by increased headcount, including an increase of $3.6 million in stock-based compensation expense, of which $2.1 million related to a stock option modification in the fourth quarter of 2020;
• $2.5 million increase in professional fees including legal and consulting services, driven by a $2.1 million increase in consulting costs, including $1.0 million in the accounting function in support of our IPO and $0.9 million of increased corporate development spend, primarily to support commercial assessments of our clinical-stage programs, and a $0.4 million increase in legal fees, primarily related to intellectual property filing and defense matters as we expand our research and development activities and develop our patent portfolio; and
• $1.3 million increase in other general and administrative expenses expenses, including a $1.1 million increase in insurance and related costs, primarily due to becoming a public company and a $0.2 million increase in other expenses to support our growing organization.
Total other income
Total other income for the years ended December 31, 2020 and 2019, was comprised of interest income on our cash and cash equivalents.
Liquidity and Capital Resources
Sources of Liquidity
Since our inception, we have incurred significant losses in each period. We have not yet commercialized any of our product candidates, which are in various phases of preclinical and clinical development, and we do not expect to generate revenue from sales of any products for several years, if at all.
Since our inception, we have funded our operations with proceeds from the sales of our redeemable convertible preferred stock, the issuance of convertible promissory notes and proceeds from our IPO. We raised an aggregate of $206.7 million in proceeds from the sale of our redeemable convertible preferred stock, $4.0 million in proceeds from the issuance of convertible promissory notes, and $200.3 million in net proceeds from our IPO, after deducting underwriting discounts and commissions and offering expenses payable by us. As of December 31, 2020, we had cash and cash equivalents of $296.6 million.
Historical Cash Flows
The following table provides information regarding our cash flows for each period presented (in thousands):
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Year Ended
December 31,
2020 2019
Net cash provided by (used in):
Operating activities $ (52,623) $ (33,420)
Investing activities — (103)
Financing activities 304,416 60,388
Net increase in cash, cash equivalents and restricted cash $ 251,793 $ 26,865
Operating Activities
Our cash flows from operating activities are greatly influenced by our use of cash for operating expenses and working capital requirements to support the business. We have historically experienced negative cash flows from operating activities as we invested in developing our portfolio, drug discovery efforts and related infrastructure. The cash used in operating activities resulted primarily from our net losses adjusted for non-cash charges and changes in components of working capital, which are primarily the result of increased expenses and timing of vendor payments.
During the year ended December 31, 2020, net cash used in operating activities of $52.6 million was primarily due to our $61.8 million net loss, partially offset by $6.0 million of non-cash charges and $3.2 million in changes in operating assets and liabilities.
During the year ended December 31, 2019, net cash used in operating activities of $33.4 million was primarily due to our $35.5 million net loss, partially offset by $1.3 million of non-cash charges and $0.7 million in changes in operating assets and liabilities.
Investing Activities
There were no cash flows from investing activities during the year ended December 31, 2020. During the year ended December 31, 2019, net cash used in investing activities related to the purchase of property and equipment.
Financing Activities
During the year ended December 31, 2020, net cash provided by financing activities of $304.4 million primarily consisted of net proceeds from our IPO and from the issuance of our Series C and Series C-1 redeemable convertible preferred stock, partially offset by our repurchase of Series C redeemable convertible preferred stock.
During the year ended December 31, 2019, net cash provided by financing activities of $60.4 million was primarily from net proceeds from the issuance of our Series B-1 redeemable convertible preferred stock and from the issuance of our Series C redeemable convertible preferred stock.
Plan of Operation and Future Funding Requirements
We expect our expenses to increase substantially in connection with our ongoing research and development activities, particularly as we advance the preclinical activities and clinical trials of our product candidates. We also expect to continue to incur additional costs associated with operating as a public company. As a result, we expect to incur substantial operating losses and negative operating cash flows for the foreseeable future. We anticipate that our expenses will increase substantially if and as we:
• advance the clinical development of our PRAX-114, PRAX-944 and PRAX-562 product candidates;
• advance the development of any additional product candidates;
• conduct research and continue preclinical development of potential product candidates;
• make strategic investments in manufacturing capabilities;
• maintain our current intellectual property portfolio and opportunistically acquire complementary intellectual property;
• seek to obtain regulatory approvals for our product candidates;
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• potentially establish a sales, marketing and distribution infrastructure and scale-up manufacturing capabilities to commercialize any products for which we may obtain regulatory approval;
• add clinical, scientific, operational, financial and management information systems and personnel, including personnel to support our product development and potential future commercialization efforts and to support our transition to a public company; and
• experience any delays or encounter any issues with any of the above, including but not limited to failed studies, complex results, safety issues or other regulatory challenges.
We are unable to estimate the exact amount of our working capital requirements, but based on our available cash resources, we expect to have sufficient cash and cash equivalents on hand to support current operations into the fourth quarter of 2022.
Because of the numerous risks and uncertainties associated with product development, and because the extent to which we may enter into collaborations with third parties for the development of our product candidates is unknown, we may incorrectly estimate the timing and amounts of increased capital outlays and operating expenses associated with completing the research and development of our product candidates. Our funding requirements and timing and amount of our operating expenditures will depend on many factors, including, but not limited to:
• the scope, progress, results and costs of preclinical studies and clinical trials for our programs and product candidates;
• the number and characteristics of programs and technologies that we develop or may in-license;
• the costs and timing of future commercialization activities, including manufacturing, marketing, sales and distribution, for any of our product candidates for which we receive marketing approval;
• the costs necessary to obtain regulatory approvals, if any, for products in the United States and other jurisdictions, and the costs of post-marketing studies that could be required by regulatory authorities in jurisdictions where approval is obtained;
• the costs and timing of preparing, filing and prosecuting patent applications, maintaining and enforcing our intellectual property rights and defending any intellectual property-related claims;
• the continuation of our existing licensing arrangements and entry into new collaborations and licensing arrangements;
• the costs we incur in maintaining business operations;
• the costs associated with being a public company;
• the revenue, if any, received from commercial sales of any product candidates for which we receive marketing approval;
• the effect of competing technological and market developments;
• the impact of any business interruptions to our operations or to those of our manufacturers, suppliers or other vendors resulting from the COVID-19 pandemic or similar public health crisis; and
• the extent to which we acquire or invest in businesses, products and technologies, including entering into licensing or collaboration arrangements for product candidates, although we currently have no commitments or agreements to complete any such acquisitions or investments in businesses.
Identifying potential product candidates and conducting preclinical testing and clinical trials is a time consuming, expensive and uncertain process that takes years to complete, and we may never generate the necessary data or results required to obtain marketing approval and achieve product sales. In addition, our product candidates, if approved, may not achieve commercial success. Our commercial revenues, if any, will be derived from sales of products that we do not expect to be commercially available for many years, if ever. Accordingly, we will need to obtain substantial additional funds to achieve our business objectives.
Adequate additional funds may not be available to us on acceptable terms, or at all. We do not currently have any committed external source of funds. Market volatility resulting from the COVID-19 pandemic or other factors could also adversely impact our ability to access capital as and when needed. To the extent that we raise additional capital through the sale of equity or convertible debt securities, your ownership interest will be diluted, and the terms
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of these securities may include liquidation or other preferences that adversely affect your rights as a common stockholder. Additional debt financing and equity financing, if available, may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, making capital expenditures or declaring dividends and may require the issuance of warrants, which could potentially dilute your ownership interest.
If we raise additional funds through collaborations, strategic alliances or licensing arrangements with third parties, we may have to relinquish valuable rights to our technologies, future revenue streams, research programs or product candidates or grant licenses on terms that may not be favorable to us. If we are unable to raise additional funds through equity or debt financings when needed, we may be required to delay, limit or terminate our product development programs or any future commercialization efforts or grant rights to develop and market product candidates to third parties that we would otherwise prefer to develop and market ourselves.
Contractual Obligations and Commitments
The following table summarizes our contractual obligations as of December 31, 2020 and the effects that such obligations are expected to have on our liquidity and cash flows in future periods (in thousands):
Payments Due by Period
Total Less Than
1 Year 1 to 3
Years 3 to 5
Years More
Than 5
Years
Operating lease commitments(1) $ 791 $ 791 $ — $ — $ —
Total $ 791 $ 791 $ — $ — $ —
________________________________
(1) We sublease building space in Cambridge, Massachusetts. Our sublease will expire on December 30, 2021. The amounts in the table above represent the fixed contractual lease obligations.
We have collaboration and license agreements with Purdue Neuroscience Company, or Purdue, RogCon Inc., or RogCon, and Ionis Pharmaceuticals, Inc., or Ionis, under which we could be obligated to pay certain fees, milestone payments and cost reimbursements.
Under our license agreement with Purdue, we are obligated to make future milestone payments of up to $33.0 million based on the achievement of specified development and sales milestones. Furthermore, we will pay Purdue royalties of a low-single-digit percentage of annual net sales of licensed products. Either party may terminate the license agreement for convenience or in the event of a material breach by the other party and failure to cure such breach within a certain period of time. If the agreement is voluntarily terminated by Purdue, our license rights will survive such termination and such rights will become fully paid, perpetual and irrevocable. As the agreement may be terminated for convenience, the payments are not included in the table above. See “Business—License Agreements—License Agreement with Purdue.”
Under our license agreement with RogCon, we will reimburse RogCon for its out-of-pocket costs incurred for activities performed under the license agreement. Additionally, we may pay RogCon a milestone payment of $3.0 million and profit share payments. The $3.0 million milestone payment will become due when the first profit share payment has become due and payable and certain contingent payments have become due and payable to Ionis under our collaboration agreement with Ionis. The profit share payments will be based on a low-double-digit percentage of net profits, depending on sales volume. Either party may terminate the license agreement for material breach or insolvency of the other party. Additionally, we may terminate for convenience with prior notice to RogCon. As such, we do not include variable and contingent payments under our agreement with RogCon in the table above as they are not fixed and estimable. See “Business—License Agreements—License Agreement with RogCon.”
Under our collaboration agreement with Ionis, we are obligated to reimburse any out-of-pocket costs incurred by Ionis related to research activities, identification of a development candidate and conducting an IND-enabling toxicology study. We also have an exclusive option to obtain the rights and license related to the development candidate following the completion of the IND-enabling toxicology study. If we exercise our development candidate option, we may be required to make additional payments to Ionis including a license fee, development milestone payments, additional milestone payments and sales royalties or sublicense fees. However, we are not obligated to
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exercise our development candidate option and are able to terminate our collaboration agreement with Ionis for convenience. Either party may terminate the collaboration agreement upon material breach or insolvency of the other party or if Ionis is unable to identify a development candidate. Ionis may terminate if we fail to achieve a performance milestone. As such, payments due pursuant to the exercise of our development candidate option are contingent and therefore excluded from the table above as they are not fixed and estimable. See “Business—License Agreements—Ionis Collaboration Agreement.”
We have agreements with certain vendors for various services, including services related to clinical operations and support, for which we are not contractually able to terminate for convenience and avoid any and all future obligations to the vendors. Under such agreements, we are contractually obligated to make certain payments to vendors to reimburse them for their unrecoverable outlays incurred prior to cancellation. The exact amounts of such obligations are dependent on the timing of termination and the exact terms of the relevant agreement and cannot be reasonably estimated. We do not include these payments in the table above as they are not fixed and estimable.
In addition, we enter into indemnification agreements and agreements containing indemnification provisions in the ordinary course of business. Pursuant to these agreements, we agree to indemnify, hold harmless and reimburse the indemnified party for losses suffered or incurred by the indemnified party, generally our business partners, in connection with any U.S. patent or any copyright or other intellectual property infringement claim by any third party with respect to our products. The term of these indemnification agreements is generally perpetual upon execution of the agreement. The maximum potential amount of future payments we could be required to make under these indemnification agreements cannot be reasonably estimated and therefore is not included in the table above.
Off-Balance Sheet Arrangements
We did not have during the periods presented, and we do not currently have, any off-balance sheet arrangements, as defined in the rules and regulations of the SEC.
Critical Accounting Policies and Significant Judgments 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 generally accepted accounting principles in the United States, or GAAP. The preparation of these consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements, as well as the reported expenses incurred during the reporting periods. Our estimates are based on our historical experience and on various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
While our significant accounting policies are described in more detail in the notes to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K, we believe the following accounting policies used in the preparation of our consolidated financial statements require the most significant judgments and estimates.
Research and Development Expenses and Related Accruals
Research and development expenses include costs directly attributable to the conduct of research and development programs, including personnel-related expenses such as salaries, benefits and stock-based compensation expense; materials; supplies; manufacturing and external costs related to outside vendors engaged to conduct both preclinical studies and clinical trials; and the allocable portions of facility costs, such as rent, utilities, depreciation and general support services. All costs associated with research and development activities are expensed as incurred.
As part of the process of preparing our consolidated financial statements, we are required to estimate our accrued research and development expenses. This process involves reviewing open contracts and purchase orders, communicating with our personnel to identify services that have been performed on our behalf, and estimating the level of service performed and the associated costs incurred for the services when we have not yet been invoiced or otherwise notified of the actual costs. The majority of our service providers invoice us in arrears for services performed, on a pre-determined schedule or when contractual milestones are met; however, some require advance payments. We make estimates of our accrued expenses as of each balance sheet date in our financial
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statements based on facts and circumstances known to us at that time. When evaluating the adequacy of the accrued liabilities, we analyze progress of the studies or trials, including the phase or completion of events, invoices received and contracted costs. Examples of estimated accrued research and development expenses include fees paid to:
• CROs in connection with performing research services and preclinical and clinical studies;
• investigative sites or other providers in connection with preclinical and clinical studies;
• vendors in connection with preclinical and clinical development activities; and
• vendors related to product manufacturing, development and distribution of preclinical and clinical supplies.
The financial terms of our agreements with CROs are subject to negotiation, vary from contract to contract, and may result in uneven payment flows. There may be instances in which payments made to our vendors will exceed the level of services provided and result in a prepayment of the clinical expense. Payments under some of these contracts depend on factors such as the successful enrollment of patients and the completion of milestones. In accruing service fees, we estimate the time period over which services will be performed, enrollment of patients, number of sites activated and the level of effort expended in each period. If the actual timing of the performance of services or the level of effort varies from our estimate, we adjust the accrual or amount of prepaid expense accordingly. Significant judgments and estimates are made in determining the accrued balances at the end of any reporting period. Although we do not expect our estimates to be materially different from amounts actually incurred, our understanding of the status and timing of services performed relative to the actual status and timing of services performed may vary and may result in us reporting amounts that are too high or too low in any particular period.
Stock-Based Compensation
We issue stock-based awards to employees and non-employees, generally in the form of stock options, restricted stock awards and restricted stock units. We measure all stock-based awards granted to employees and non-employees as stock-based compensation expense at fair value in accordance with FASB ASC Topic 718, Compensation—Stock Compensation, or ASC 718.
For stock-based awards issued to employees, non-employees and members of the board of directors, or the Board, for their services on the Board, we measure the estimated fair value of the stock-based award on the date of the grant. We recognize compensation expense for those awards granted to employees and members of the Board over the requisite service period, which is generally the vesting period of the respective award. For non-employee awards, compensation expense is recognized as the services are provided, which is generally ratably over the vesting period. We issue stock-based awards with service-based vesting conditions and record the expense for these awards on a straight-line basis over the vesting period. To date, we have not issued any stock-based awards with performance or market-based vesting conditions. We account for forfeitures as they occur.
We classify stock-based compensation expense in our consolidated statements of operations and comprehensive loss in the same manner in which the award recipient’s salary or service payments are classified.
Fair Value of Stock-Based Awards
We determine the fair value of restricted stock based on the fair value of our common stock less purchase price.
We estimate the fair value of our stock options using the Black-Scholes option pricing model, which requires inputs of subjective assumptions, including: (i) the expected volatility of our stock; (ii) the expected term of the award; (iii) the risk-free interest rate; (iv) expected dividends; and (v) the fair value of common stock. Due to the lack of company-specific historical and implied volatility data for our common stock, we determine the volatility for awards granted based on an analysis of reported data for a group of guideline publicly-traded companies that issued options with substantially similar terms. For this analysis, we select companies with comparable characteristics to ours including enterprise value, risk profiles and with historical share price information sufficient to meet the expected life of the stock-based awards. We determine expected volatility using a weighted average of the historical volatilities of the guideline group of companies. We will continue to apply this process until such a time as we have adequate historical data regarding the volatility of our own traded stock price. As permitted under ASC 718, we have elected to use the contractual term as the expected term for certain non-employee awards, on an award-by-award basis. For all other awards, we determined the expected term utilizing the “simplified” method whereby the
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expected term equals the average of the vesting term and the original contractual term of the option, on a weighted basis based on the vesting of each tranche. We utilize this method as we have insufficient historical exercise data to provide a reasonable basis upon which to estimate the expected term. For the determination of the risk-free interest rate, we utilize the U.S. Treasury yield curve for instruments in effect at the time of measurement with a term commensurate with the expected term assumption. The expected dividend yield is assumed to be zero as we have never paid dividends, and do not have current plans to pay any dividends on our common stock.
Determination of Fair Value of Common Stock
Prior to our IPO, we determined the estimated fair value of our common stock based on a number of objective and subjective factors, including external market conditions affecting the biotechnology industry sector. We utilized various valuation methodologies in accordance with the framework of the American Institute of Certified Public Accountants’ Technical Practice Aid, Valuation of Privately-Held Company Equity Securities Issued as Compensation , to estimate the fair value of our common stock. Each valuation methodology included estimates and assumptions that required our judgment. These estimates and assumptions included a number of objective and subjective factors in determining the value of our common stock at each grant date, such as the following: (i) prices paid for our redeemable convertible preferred stock, and the rights, preferences, and privileges of our redeemable convertible preferred stock and common stock; (ii) our stage of development; (iii) the fact that the grants of stock-based awards related to illiquid securities in a private company; and (iv) the likelihood of achieving a liquidity event for the common stock underlying the stock-based awards, such as an IPO or sale of the company, given prevailing market conditions. Prior to the IPO, the methodologies utilized to estimate the fair value of our common stock were the option-pricing method (“OPM”) and, beginning in the year ended December 31, 2020, the hybrid probability-weighted expected return method (“PWERM”). The OPM was used to back-solve the estimated value of our equity and corresponding value of our common stock. The hybrid PWERM determined the fair value of our common stock using a probability-weighted present value of expected future investment returns considering various outcomes, as well as the rights of each class of stock, with one of the outcomes calculated using an OPM. The hybrid PWERM considered three scenarios: an “early” IPO completed in 2020, a “late” IPO completed in 2021, and a “remain private” scenario in which value was allocated using the OPM. An incremental discount for lack of marketability (“DLOM”) was applied to the values of the common stock. The DLOM was estimated using a put option model which considered the expected time to liquidity and the volatility of the common shares. The hybrid PWERM used a risk-adjusted discount rate. The fair value of our common stock was calibrated to contemporaneous transactions in our redeemable convertible preferred stock.
Subsequent to the IPO, the fair value of the common stock underlying our stock-based awards is the closing price of our common stock on the date of grant.
JOBS Act and Emerging Growth Company Status
In April 2012, the JOBS Act was enacted. As an emerging growth company, or EGC, under the JOBS Act, we may delay the adoption of certain accounting standards until such time as those standards apply to private companies. Other exemptions and reduced reporting requirements under the JOBS Act for EGCs include presentation of only two years of audited financial statements in a registration statement for an initial public offering, an exemption from the requirement to provide an auditor’s report on internal controls over financial reporting pursuant to Section 404(b) of the Sarbanes-Oxley Act of 2002, an exemption from any requirement that may be adopted by the Public Company Accounting Oversight Board regarding mandatory audit firm rotation and less extensive disclosure about our executive compensation arrangements. Additionally, the JOBS Act provides that an EGC can take advantage of an extended transition period for complying with new or revised accounting standards. This allows an EGC to delay the adoption of certain accounting standards until those standards would otherwise apply to private companies. We have elected to avail ourselves of the extended transition period and, therefore, while we are an EGC we will not be subject to new or revised accounting standards at the same time that they become applicable to other public companies that are not EGCs, unless we choose to early adopt a new or revised accounting standard.
We will remain classified as an EGC until the earlier of: (i) the last day of our first fiscal year in which we have total annual gross revenues of $1.07 billion or more, (ii) the last day of the fiscal year following the fifth anniversary of completion of our initial public offering, (iii) the date on which we have issued more than $1.0 billion of non-convertible debt instruments during the previous three fiscal years or (iv) the date on which we are deemed a “large accelerated filer” under the rules of the SEC.
Recently Issued Accounting Pronouncements
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We have reviewed all recently issued standards and have determined that, other than as disclosed in Note 2 to our consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K, such standards will not have a material impact on our financial statements or do not otherwise apply to our current operations.