SmartKem, Inc. 10-Q

Item 1. Financial Statements SMARTKEM, INC. AND SUBSIDIARIES Condensed Consolidated Balance Sheets (in thousands, except number of shares and per share data) ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ September 30, ​ December 31, ​ 2022 2021 ASSETS (UNAUDITED) ​ ​ ​ ​ ​ ​ ​ ​ Current assets: ​ ​ Cash and cash equivalents ​ $ 6,304 ​ $ 12,226 Accounts receivable ​ 18 ​ — Research and development tax credit receivable ​ 738 ​ 1,070 Prepaid expenses and other current assets ​ 1,426 ​ 802 Total current assets ​ 8,486 ​ 14,098 Property, plant equipment, net of accumulated depreciation of $ 1,019 and $ 1,102 ​ 584 ​ 802 Right-of-use assets, net ​ 495 ​ 154 Other assets ​ 6 ​ 6 Total assets ​ $ 9,571 ​ $ 15,060 ​ ​ ​ ​ ​ ​ ​ LIABILITIES AND STOCKHOLDERS' EQUITY ​ ​ ​ ​ ​ ​ ​ ​ ​ Accounts payable and accrued expenses ​ $ 1,215 ​ $ 1,423 Current lease liabilities ​ 199 ​ 87 Total current liabilities ​ 1,414 ​ 1,510 Non-current lease liabilities ​ 275 ​ 28 Total liabilities ​ 1,689 ​ 1,538 ​ ​ ​ ​ ​ ​ ​ Commitments and contingencies (Note 8) ​ ​ ​ ​ ​ ​ Stockholders’ Equity: ​ ​ Common stock, par value $ 0.0001 per share, 300,000,000 shares authorized, 26,949,282 and 25,554,309 shares issued and outstanding , at September 30, 2022 and December 31, 2021, respectively ​ 3 ​ 3 Additional paid-in capital ​ 92,735 ​ 89,954 Accumulated other comprehensive loss ​ 632 ​ ( 1,363 ) Accumulated deficit ​ ( 85,488 ) ​ ( 75,072 ) Total stockholders’ equity ​ 7,882 ​ 13,522 ​ ​ ​ ​ ​ ​ ​ Total Liabilities and Stockholders’ Equity ​ $ 9,571 ​ $ 15,060 The accompanying notes are an integral part of these unaudited interim condensed consolidated financial statements. ​ 3 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Condensed Consolidated Statements of Operations and Comprehensive Loss (Unaudited) (in thousands, except number of shares and per share data) ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Three Months Ended September 30, ​ Nine Months Ended September 30, ​ 2022 2021 2022 2021 Revenue ​ $ 26 ​ $ — ​ $ 60 ​ $ — Cost of revenue ​ 26 ​ — ​ 50 ​ — Gross profit ​ — ​ — ​ 10 ​ — ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Other operating income ​ 277 ​ 447 ​ 855 ​ 1,135 ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Operating expenses: ​ ​ ​ ​ Research and development ​ 1,346 ​ 1,356 ​ 4,150 ​ 6,725 Selling, general and administrative ​ 1,392 ​ 1,368 ​ 4,002 ​ 6,695 Transaction expenses ​ — ​ — ​ — ​ 1,329 Total operating expenses ​ 2,738 ​ 2,724 ​ 8,152 ​ 14,749 ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Loss from operations ​ ( 2,461 ) ​ ( 2,277 ) ​ ( 7,287 ) ​ ( 13,614 ) ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Non-operating (expense)/income ​ ​ ​ ​ Loss on foreign currency transactions ​ ( 1,493 ) ​ ( 386 ) ​ ( 3,131 ) ​ ( 799 ) Interest expense ​ — ​ — ​ — ​ ( 19 ) Interest income ​ 1 ​ 1 ​ 3 ​ 3 Total non-operating (expense)/income ​ ( 1,492 ) ​ ( 385 ) ​ ( 3,128 ) ​ ( 815 ) ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Loss before income taxes ​ ( 3,953 ) ​ ( 2,662 ) ​ ( 10,415 ) ​ ( 14,429 ) Income tax expense ​ — ​ — ​ — ​ — Net loss ​ $ ( 3,953 ) ​ $ ( 2,662 ) ​ $ ( 10,415 ) ​ $ ( 14,429 ) ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Net loss ​ $ ( 3,953 ) ​ $ ( 2,662 ) ​ $ ( 10,415 ) ​ $ ( 14,429 ) Other comprehensive (loss)/gain: ​ ​ ​ ​ Foreign currency translation gain ​ 1,117 ​ 82 ​ 1,995 ​ 115 Total comprehensive loss ​ $ ( 2,836 ) ​ $ ( 2,580 ) ​ $ ( 8,420 ) ​ $ ( 14,314 ) ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Basic & diluted net loss per common share ​ $ ( 0.14 ) ​ $ ( 0.10 ) ​ $ ( 0.36 ) ​ $ ( 0.59 ) ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Basic & diluted weighted average shares outstanding ​ ​ 29,117,282 ​ ​ 27,671,646 ​ ​ 28,771,372 ​ ​ 24,397,327 ​ The accompanying notes are an integral part of these unaudited interim condensed consolidated financial statements. ​ ​ 4 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Condensed Consolidated Statements of Stockholders’ Equity (Unaudited) For the Three and Nine Months Ended September 30 2022 (in thousands, except share data) ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Accumulated ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Additional ​ Other ​ ​ ​ ​ ​ Total ​ ​ Common Stock ​ Paid-in ​ Comprehensive ​ Accumulated ​ Stockholders’ ​ Shares Amount Capital Loss Deficit Equity (Deficit) Balance at January 1, 2022 ​ 25,554,309 ​ $ 3 ​ $ 89,954 ​ $ ( 1,363 ) ​ $ ( 75,072 ) ​ $ 13,522 Stock-based compensation expense - ​ - ​ 98 ​ - ​ - ​ 98 Issuance of common shares to vendor 12,500 ​ - ​ 43 ​ - ​ - ​ 43 Issuance of common stock in private placement (note 13) 1,000,000 ​ - ​ 2,000 ​ - ​ - ​ 2,000 Issuance costs related to common stock in private placement - ​ - ​ ( 160 ) ​ - ​ - ​ ( 160 ) Foreign currency translation adjustment - ​ - ​ - ​ 156 ​ - ​ 156 Net loss - ​ - ​ - ​ - ​ ( 2,762 ) ​ ( 2,762 ) Balance at March 31, 2022 ​ 26,566,809 ​ ​ 3 ​ ​ 91,935 ​ ​ ( 1,207 ) ​ ​ ( 77,834 ) ​ ​ 12,897 Stock-based compensation expense - ​ - ​ 97 ​ - ​ - ​ 97 Issuance costs related to common stock in private placement ​ - ​ ​ - ​ ​ ( 10 ) ​ ​ - ​ ​ - ​ ​ ( 10 ) Issuance of common shares to vendor 382,473 ​ - ​ 590 ​ - ​ - ​ 590 Foreign currency translation adjustment ​ - ​ ​ - ​ ​ - ​ ​ 722 ​ ​ - ​ ​ 722 Net loss ​ - ​ ​ - ​ ​ - ​ ​ - ​ ​ ( 3,701 ) ​ ​ ( 3,701 ) Balance at June 30, 2022 ​ 26,949,282 ​ $ 3 ​ $ 92,612 ​ $ ( 485 ) ​ $ ( 81,535 ) ​ $ 10,595 Stock-based compensation expense ​ - ​ ​ - ​ ​ 123 ​ ​ - ​ ​ - ​ ​ 123 Foreign currency translation adjustment ​ - ​ ​ - ​ ​ - ​ ​ 1,117 ​ ​ - ​ ​ 1,117 Net loss ​ - ​ ​ - ​ ​ - ​ ​ - ​ ​ ( 3,953 ) ​ ​ ( 3,953 ) Balance at September 30, 2022 ​ 26,949,282 ​ $ 3 ​ $ 92,735 ​ $ 632 ​ $ ( 85,488 ) ​ $ 7,882 ​ ​ The accompanying notes are an integral part of these unaudited interim condensed consolidated financial statements. ​ ​ 5 Table of Contents ​ SMARTKEM, INC. AND SUBSIDIARIES Condensed Consolidated Statements of Stockholders’ Equity (Unaudited) For the Three and Nine Months Ended September 30 2021 (in thousands, except share data) ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Accumulated ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Additional ​ Other ​ ​ ​ ​ ​ Total ​ ​ Common Stock ​ Paid-in ​ Comprehensive ​ Accumulated ​ Stockholders’ ​ Shares Amount Capital Loss Deficit Equity (Deficit) Balance at January 1, 2021 13,627,887 ​ $ 1 ​ $ 61,276 ​ $ ( 1,480 ) ​ $ ( 57,946 ) ​ $ 1,851 Issuance of common shares due to exercise of stock-options ​ 1,404,813 ​ ​ 1 ​ ​ 19 ​ ​ - ​ ​ - ​ ​ 20 Stock-based compensation expense ​ - ​ ​ - ​ ​ 6,020 ​ ​ - ​ ​ - ​ ​ 6,020 Repurchase of common stock ​ ( 2,307,700 ) ​ ​ - ​ ​ - ​ ​ - ​ ​ - ​ ​ - Effect of reverse capitalization ​ 2,500,000 ​ ​ - ​ ​ - ​ ​ - ​ ​ - ​ ​ - Issuance of common shares to vendor ​ 50,000 ​ ​ - ​ ​ 99 ​ ​ - ​ ​ - ​ ​ 99 Issuance of common stock and warrants in private placement ​ 10,162,000 ​ ​ 1 ​ ​ 24,637 ​ ​ - ​ ​ - ​ ​ 24,638 Issuance costs related to common stock and warrants in private placement - ​ - ​ ( 2,454 ) ​ - ​ - ​ ( 2,454 ) Foreign currency translation adjustment - ​ - ​ - ​ 17 ​ - ​ 17 Net loss - ​ - ​ - ​ - ​ ( 9,366 ) ​ ( 9,366 ) Balance at March 31, 2021 ​ 25,437,000 ​ ​ 3 ​ ​ 89,597 ​ ​ ( 1,463 ) ​ ​ ( 67,312 ) ​ ​ 20,825 Stock-based compensation expense ​ - ​ ​ - ​ ​ 75 ​ ​ - ​ ​ - ​ ​ 75 Issuance of common shares to vendor ​ 25,000 ​ ​ - ​ ​ 50 ​ ​ - ​ ​ - ​ ​ 50 Foreign currency translation adjustment ​ - ​ ​ - ​ ​ - ​ ​ 16 ​ ​ - ​ ​ 16 Net loss ​ - ​ ​ - ​ ​ - ​ ​ - ​ ​ ( 2,401 ) ​ ​ ( 2,401 ) Balance at June 30, 2021 ​ 25,462,000 ​ $ 3 ​ $ 89,722 ​ $ ( 1,447 ) ​ $ ( 69,713 ) ​ $ 18,565 Stock-based compensation expense - ​ - ​ 2 ​ - ​ - ​ 2 Issuance of common shares to vendor ​ 60,000 ​ ​ - ​ ​ 107 ​ ​ - ​ ​ - ​ ​ 107 Stock options exercised ​ 19,809 ​ ​ - ​ ​ - ​ ​ - ​ ​ - ​ ​ - Foreign currency translation adjustment ​ - ​ ​ - ​ ​ - ​ ​ 82 ​ ​ - ​ ​ 82 Net loss ​ - ​ ​ - ​ ​ - ​ ​ - ​ ​ ( 2,662 ) ​ ​ ( 2,662 ) Balance at September 30, 2021 ​ 25,541,809 ​ $ 3 ​ $ 89,831 ​ $ ( 1,365 ) ​ $ ( 72,375 ) ​ $ 16,094 ​ ​ ​ ​ The accompanying notes are an integral part of these unaudited interim condensed consolidated financial statements. ​ ] ​ 6 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Condensed Consolidated Statements of Cash Flows (Unaudited) (in thousands) ​ ​ ​ ​ ​ ​ ​ ​ Nine Months Ended September 30, ​ 2022 2021 ​ ​ ​ ​ ​ Cash flows from operating activities: ​ ​ Net loss $ ( 10,415 ) ​ $ ( 14,429 ) Adjustments to reconcile net loss to net cash used in operating activities: ​ Depreciation 151 ​ 147 Common shares issued to vendor for services 230 ​ 186 Amortization of right of use asset 197 ​ 164 Stock-based compensation ​ 318 ​ ​ 6,097 Loss on foreign currency transactions 3,131 ​ 799 Change in operating assets and liabilities: ​ ​ ​ Accounts receivable, net ( 21 ) ​ 19 Research & development tax credit receivable 104 ​ 46 Prepaid expenses and other current assets ( 311 ) ​ ( 614 ) Accounts payable and accrued expenses ( 29 ) ​ 478 Lease liabilities ( 190 ) ​ ( 196 ) Other assets — ​ 2 Net cash used in operating activities ( 6,835 ) ​ ( 7,301 ) ​ ​ ​ ​ ​ ​ Cash flows from investing activities: ​ Purchases of property, plant and equipment ( 67 ) ​ ( 282 ) Net cash used by investing activities ( 67 ) ​ ( 282 ) ​ ​ ​ ​ ​ ​ Cash flows from financing activities: ​ Proceeds from term loan payable — ​ 738 Repayment of term loan payable ​ — ​ ​ ( 738 ) Proceeds from the issuance of common stock and warrants in private placement — ​ ​ 24,638 Proceeds from the issuance of common stock in private placement ​ 2,000 ​ ​ — Payment of issuance costs ( 170 ) ​ ​ ( 2,454 ) Proceeds from the exercise of stock options — ​ 20 Net cash provided by financing activities 1,830 ​ 22,204 ​ ​ ​ ​ ​ ​ Effect of exchange rate changes on cash ( 850 ) ​ ( 666 ) ​ ​ ​ ​ ​ ​ Net change in cash ( 5,922 ) ​ 13,955 ​ ​ ​ ​ ​ ​ Cash and cash equivalents, beginning of period 12,226 ​ 764 Cash and cash equivalents, end of period $ 6,304 ​ $ 14,719 ​ ​ ​ ​ ​ ​ Supplemental disclosure of cash and non-cash investing and financing activities ​ Cash paid for interest $ — ​ $ 19 Right of use asset and lease liability additions $ 583 ​ $ 86 ​ The accompanying notes are an integral part of these unaudited interim condensed consolidated financial statements. ​ ​ 7 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Notes to Interim Condensed Consolidated Financial Statements (Unaudited) ​ 1. BUSINESS AND BASIS OF PREPARATION: SmartKem, Inc. (“SmartKem” or the “Company”) a Delaware corporation, formerly known as Parasol Investments Corporation (“Parasol”), was formed on May 13, 2020 and is the successor, as discussed below, of SmartKem Limited, which was formed under the Laws of England and Wales. The Company was founded as a “shell” company registered under the Exchange Act, with no specific business plan or purpose until it began operating the business of SmartKem Limited following the closing of the Exchange described below. SmartKem is seeking to reshape the world of electronics with a revolutionary semiconductor platform that enables a new generation of displays, sensors and logic. SmartKem’s patented TRUFLEX® inks are solution deposited at a low temperature, on low-cost substrates to make organic thin-film transistor (“OTFT”) circuits. The Company’s semiconductor platform can be used in a number of applications including mini-LED displays, AMOLED displays, fingerprint sensors and logic circuits. SmartKem develops its materials at its research and development facility in Manchester, UK and its semiconductor manufacturing process at the Centre of Process Innovation (CPI) in Sedgefield, United Kingdom (“UK”). The Company has an extensive IP portfolio including approximately 120 issued patents. Basis of Presentation These unaudited interim condensed consolidated financial statements have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission and accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim reporting and are presented in thousands, except number of shares and per share data. Accordingly, certain notes or other information that are normally required by U.S. GAAP have been omitted if they substantially duplicate the disclosures contained in the Company’s annual audited consolidated financial statements. Accordingly, the unaudited interim condensed consolidated financial statements should be read in connection with the Company’s audited financial statements and related notes as of and for the year ended December 31, 2021. The accompanying interim condensed consolidated financial statements are unaudited; however, in the opinion of management, they include all normal and recurring adjustments necessary for a fair presentation of the Company’s unaudited interim condensed consolidated financial statements for the periods presented. Results of operations reported for interim periods are not necessarily indicative of results for the entire year. Comprehensive loss of all periods presented is comprised primarily of net loss and foreign currency translation adjustments. Going Concern The accompanying unaudited interim condensed consolidated financial statements have been presented on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities in the ordinary course of business. Since inception, we have incurred recurring losses including net losses of $ 4.0 million and $ 10.4 million for the three and nine months ended September 30, 2022, respectively. As of September 30, 2022 we had an accumulated deficit of $ 85.5 million. The Company’s cash as of September 30, 2022 was $ 6.3 million. We anticipate operating losses to continue for the foreseeable future due to, among other things, costs related to research funding, further development of our technology and products and expenses related to the commercialization of our products. Management believes that the Company’s existing cash as of September 30, 2022 will be sufficient to fund the operations of the Company through to April 2023 and that the Company will require additional capital funding to continue its operations and research and development activity thereafter. There can be no assurance, however, that such financing will be available by April 2023, if at all, or on acceptable terms and conditions. The precise amount and timing of the funding needs cannot be determined 8 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Notes to Interim Condensed Consolidated Financial Statements (Unaudited) ​ accurately at this time, and will depend on a number of factors, including the market demand for the Company’s products, the quality of product development efforts including potential joint collaborations, management of working capital, and the continuation of normal payment terms and conditions for purchase of services. In order to address its capital needs, including its planned research and development activities and other expenditures, the Company is assessing options for financing our working capital requirements through a combination of equity offerings, debt financings, collaborations, strategic alliances and marketing, distribution or licensing arrangements. Adequate financing opportunities might not be available to the Company, when needed, on acceptable terms or at all. If the Company is unable to obtain additional financing in sufficient amounts or on acceptable terms, manage working capital, or secure variation to the normal payment terms and conditions for purchase of services, the Company will be forced to delay, reduce or eliminate some or all of its research and development programs and product portfolio expansion, which could adversely affect its operating results or business prospects. Although management continues to pursue these plans for additional financing, there is no assurance that the Company will be successful in obtaining sufficient funding on terms acceptable to the Company to fund continuing operations by April 2023 or if at all. After considering the uncertainties, management consider it is appropriate to continue to adopt the going concern basis in preparing the consolidated financial statements. The accompanying unaudited interim condensed consolidated financial statements do not include any adjustments that might be necessary should we be unable to continue as a going concern. Reverse Recapitalization On February 23, 2021 Parasol entered into a Securities Exchange Agreement (“the Exchange Agreement”), with SmartKem Limited. Pursuant to the Exchange Agreement all of the equity interests in SmartKem Limited, except certain deferred shares which had no economic or voting rights (the “Deferred Shares”) and which were purchased by Parasol for an aggregate purchase price of $ 1.40 , were exchanged for shares of Parasol common stock, par value $ 0.0001 per share (“common stock”), and SmartKem Limited became a wholly owned subsidiary of Parasol (the “Exchange”). As a result of the Exchange, Parasol acquired the business of SmartKem Limited, and continues as the existing business operations of SmartKem Limited as a public reporting company under the name SmartKem, Inc. Under ASC 805, Business Combinations, SmartKem Limited was deemed the accounting acquirer based on the following predominate factors: Parasol was created as a “shell” company to effect a business combination and had no operations, the former shareholders of SmartKem Limited own more than a majority of the outstanding voting stock of the Company, the Company’s board of directors and management consists of the former board of directors and management of SmartKem Limited, SmartKem Limited was the largest entity by assets at the time of the Exchange, and the principal operating location of the Company is SmartKem Limited’s premises which are located in Manchester, UK. The Exchange was accounted for as a reverse recapitalization, with no goodwill or other intangible assets recorded, in accordance with U.S. GAAP. Under this method of accounting, Parasol was treated as the “acquired” company for financial reporting purposes. Accordingly, for accounting purposes, the Exchange was treated as the equivalent of SmartKem Limited issuing stock for the net assets of Parasol, accompanied by a recapitalization. The net assets of Parasol are stated at historical cost, with no goodwill or other intangible assets recorded. The consolidated assets, liabilities, and results of operations prior to the Exchange are those of SmartKem Limited. Reported shares and earnings per share available to holders of the Company’s common stock, prior to the Exchange, have been retroactively restated as shares reflecting the exchange ratios established in the Exchange. At the closing of the Exchange (the “Closing”), each SmartKem Limited ordinary share issued and outstanding immediately prior to the Closing (other than the Deferred Shares) was exchanged for 0.0111907 of a share of the Company’s common stock and each SmartKem Limited A ordinary share issued and outstanding immediately prior 9 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Notes to Interim Condensed Consolidated Financial Statements (Unaudited) ​ to the Closing was exchanged for 0.0676668 of a share of the Company’s common stock, with the maximum number of shares of our common stock issuable to the former holders of SmartKem Limited’s ordinary shares and A ordinary shares equal to 12,725,000 . This includes enterprise management incentive options to purchase 124,497,910 SmartKem Limited ordinary shares (the “SmartKem Limited EMI Options”) issued and outstanding immediately prior to the Closing that were accelerated and exercised by the holders thereof for a like number of ordinary shares and exchanged for shares of the Company’s common stock pursuant to the Exchange. In aggregate 1,127,720,477 SmartKem Limited shares were exchanged for 12,725,000 of the Company’s common stock, an average exchange ratio of 0.011283825 . Immediately prior to the Closing, an aggregate of 2,500,000 shares of the Company’s common stock owned by the stockholders of Parasol prior to the Exchange were forfeited and cancelled (the “Stock Forfeiture”). The consolidated entity presented is referred to herein as “SmartKem”, “we”, “us”, “our”, or the “Company”, as the context requires and unless otherwise noted. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: Basis of Consolidation The unaudited interim condensed consolidated financial statements include the accounts of SmartKem, Inc. and its wholly-owned subsidiaries, SmartKem Delaware, Inc. and SmartKem Limited. The Company does not have any nonconsolidated subsidiaries. All intercompany balances and transactions have been eliminated on consolidation, including unrealized gains and losses on transactions between the companies. The Company's formerly wholly-owned subsidiary, SmartKem Delaware Inc. was dissolved on May 13, 2021. Comprehensive Loss Comprehensive loss of all periods presented is comprised primarily of net loss and foreign currency translation adjustments. Management’s Use of Estimates The preparation of interim condensed consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, including disclosure of contingent assets and liabilities, at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. The most significant estimates in the Company’s unaudited interim condensed consolidated financial statements relates to the valuation of common share, fair value of share options, and the valuation allowance of deferred tax assets. These estimates and assumptions are based on current facts, historical experience and various other factors believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities and the recording of expenses that are not readily apparent from other sources. Due to the uncertainty of factors surrounding the estimates or judgments used in the preparation of the financial statements, actual results may materially vary from these estimates. Cash and Cash Equivalents The Company considers all highly liquid investments purchased with original maturities of 90 days or less at acquisition to be cash equivalents. As of September 30, 2022 and December 31, 2021, the Company did no t have any cash equivalents. 10 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Notes to Interim Condensed Consolidated Financial Statements (Unaudited) ​ Accounts Receivable Accounts receivable are stated at the amount the Company expects to collect and do not bear interest. The Company considers the following factors when determining the collectability of specific customer accounts: customer credit-worthiness, past transaction history with the customer, current economic industry trends, and changes in customer payment terms. These receivables have historically been paid timely. Due to the nature of the accounts receivable balance, the Company believes there is no significant risk of non-collection. If the financial condition of the Company’s customers were to deteriorate, adversely affecting their ability to make payments, allowances for doubtful accounts would be required. There was no allowance for doubtful accounts recorded as of September 30, 2022 and December 31, 2021. Impairment of Long-Lived Assets Management continually evaluates whether events or changes in circumstances might indicate that the remaining estimated useful life of long-lived assets may warrant revision, or that the remaining balance may not be recoverable. When factors indicate that long-lived assets should be evaluated for possible impairment, the Company uses an estimate of the related undiscounted cash flows in measuring whether the long-lived asset should be written down to fair value. Measurement of the amount of impairment would be based on generally accepted valuation methodologies, as deemed appropriate. If the carrying amount is greater than the undiscounted cash flows, the carrying amount of the asset is reduced to the asset’s fair value. An impairment loss is recognized immediately as an operating expense in the condensed consolidated statements of operations. Reversal of previously recorded impairment losses are prohibited. As of September 30, 2022 and December 31, 2021, Company’s management believed that no revision to the remaining useful lives or impairment of the Company’s long-lived assets was required. Warrants The accounting treatment of warrants issued is determined pursuant to the guidance provided by ASC 480, Distinguishing Liabilities from Equity , and ASC 815, Derivatives and Hedging , as applicable. Each feature of a freestanding financial instruments including, without limitation, any rights relating to subsequent dilutive issuance, dividend issuances, equity sales, rights offerings, forced conversions, dividends, and exercise are assessed with determinations made regarding the proper classification in the Company’s unaudited interim condensed consolidated financial statements. The Company determined that all outstanding warrants meet the criteria to be classified as equity. Leases Operating lease assets are included within operating lease right-of-use assets, and the corresponding operating lease obligation on the unaudited condensed consolidated balance sheets as of September 30, 2022 and December 31, 2021. The Company has elected not to present short-term leases as these leases have a lease term of 12 months or less at lease inception and do not contain purchase options or renewal terms that the Company is reasonably certain to exercise. All other lease assets and lease liabilities are recognized based on the present value of lease payments over the lease term at commencement date. Because most of the Company’s leases do not provide an implicit rate of return, the Company used an incremental borrowing rate based on the information available at adoption date in determining the present value of lease payments. Revenue The Company applies the provisions of ASC 606 Revenue from Contracts with Customers . The Company recognizes revenue under the core principle to depict the transfer of control to the Company’s customers in an amount reflecting the consideration the Company expects to be entitled to. In order to achieve that core principle, the Company applies the following five step approach: (1) identify the contract with a customer, (2) identify the 11 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Notes to Interim Condensed Consolidated Financial Statements (Unaudited) ​ performance obligations in the contract, (3) determine the transaction price, (4) allocate the transaction price to the performance obligations in the contact and (5) recognize revenue when a performance obligation is satisfied. The Company’s current contracts with customers do not contain significant estimates or judgments. All of the Company’s revenue contains a single performance obligation that is recognized upon fulfilment of the sales order. The Company derives its revenues primarily from sales of TRUFLEX® inks and demonstrator units to customers evaluating organic semiconductor technology. The transaction price is stated in each customer agreement and is allocated to a single performance obligation. Revenue is recognized upon shipment of each consignment of inks or each demonstrator, at a point in time. The Company does not have any significant financing components as payment is received at or shortly after the point of sale. Costs incurred to obtain a contract will be expensed as incurred when the amortization period is less than a year. Other Operating Income The Company’s other operating income is related to government grant incentives received for qualifying research and development projects, and research and development tax credits related to the United Kingdom’s Research and Development Expenditure Credit scheme, which is a government tax incentive designed to reward innovative companies for investing in research and development. Such incentives are recorded as other income when it is probable the amounts are collectible and can be reasonably estimated. For the three months ended September 30, 2022 and 2021, the Company recorded grant income and research & development tax credits of $ 273 thousand and $ 446 thousand, respectively, and $ 851 thousand and $ 1,126 thousand for the nine months ended September 30, 2022 and 2021, respectively. As of September 30, 2022, and December 31, 2021, the Company had receivables related to research & development tax credits for payments not yet received of $ 738 thousand and $ 1,070 thousand, respectively. Share-based Compensation All share-based payments, including grants of stock options, are measured based on the fair value of the share-based awards at the grant date and recognized over their respective vesting periods. Outstanding options generally expire 10 years after the grant date. The Company has issued options that vest based on service requirements and options become exercisable when service requirements are met. Due to the Exchange, all options outstanding immediately prior to the event with a performance obligation requirement became vested and exercisable. The estimated fair value of stock options at the grant date is determined using the Black-Scholes pricing model. The Black-Scholes option pricing model requires inputs such as the fair value of common stock on date of grant, expected term, expected volatility, dividend yield, and risk-free interest rate. The assumptions used in calculating the fair value of stock-based awards represent management’s best estimates and involve inherent uncertainties and the application of management’s judgment. As a result, if factors change and management uses different assumptions, stock-based compensation expense could be materially different for future awards. The Company records forfeitures when they occur. Functional Currency and Operations Prior to the Exchange, Smartkem Limited’s (“the predecessor’s”) functional currency was the British Pound Sterling (“GBP”), and the consolidated financial statements were presented in United States dollars (“USD”). The predecessor’s functional currency was the respective local currency of the primary economic environment in which an entity’s operations are conducted. The predecessor translated the financial statements into the presentation currency using exchanges rates in effect on the balance sheet date for assets and liabilities and average exchanges rates for the period for statement of operations accounts, with the difference recognized in accumulated other comprehensive income /(loss). 12 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Notes to Interim Condensed Consolidated Financial Statements (Unaudited) ​ From the date of the Exchange forward, the Company’s functional currency is the USD. The functional currency of the Company’s foreign operation is the respective local currency. Assets and liabilities of foreign operation denominated in local currencies are translated at the spot rate in effect at the applicable reporting date. The condensed consolidated statements of operations and comprehensive loss are translated at the weighted average rate of exchange during the applicable period. The resulting unrealized gain/loss is recognized as foreign currency translation as a component of other comprehensive income. Foreign Currency Transactions The Company measures foreign currency denominated monetary assets and liabilities using exchange rates in effect at the end for the period. Transaction gains and losses are included in net loss. Foreign exchange losses, primarily driven by foreign exchange revaluation of our dollar borrowings held by non-dollar group undertakings, were $ 1,493 thousand and $ 3,131 thousand for the three- and nine-month periods ended September 30, 2022, respectively. Foreign exchange gains were $ 386 thousand and foreign exchanges losses were $ 799 thousand for the three-and nine-month periods ended September 30, 2021, respectively. Income Taxes Income taxes are recorded in accordance with ASC 740, Income Taxes (“ASC 740”), which provides for deferred taxes using an asset and liability approach. The Company recognizes deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements or tax returns. Deferred tax assets and liabilities are determined based on the difference between the financial statement and tax basis of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. Valuation allowances are provided, if based upon the weight of available evidence, it is more likely than not that some or all of the deferred tax assets will not be realized. The Company accounts for uncertain tax positions in accordance with the provisions of ASC 740. When uncertain tax positions exist, the Company recognizes the tax benefit of tax positions to the extent that the benefit would more likely than not be realized assuming examination by the taxing authority. The determination as to whether the tax benefit will more likely than not be realized is based upon the technical merits of the tax position as well as consideration of the available facts and circumstances. The Company recognizes any interest and penalties accrued related to unrecognized tax benefits as income tax expense. As of September 30, 2022 and December 31, 2021, there were no accruals for uncertain tax positions. Contingent Liabilities A provision for contingent liabilities is recorded when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. With respect to legal matters, provisions are reviewed and adjusted to reflect the impact of negotiations, estimated settlements, legal rulings, advice of legal counsel and other information and events pertaining to a particular matter. The Company is a party to certain litigation and disputes arising in the normal course of business. As of September 30, 2022, the Company does not expect that such matters will have a material adverse effect on the Company’s business, financial position, results of operations, or cash flows. Offering Costs Direct and incremental legal and accounting costs associated with the Company’s issuance of common stock and warrants are deferred and classified as a component of other assets on the condensed consolidated balance sheet until completion of the issuance. Upon completion of the issuance, deferred offering costs are reclassified from other assets to equity and recorded against the net proceeds received in the issuance. For the nine months ended September 30, 2022 and 2021 respectively, $ 170 thousand and $ 2,454 thousand of offering costs were recorded in additional paid-in capital. No offering costs were deferred as of both September 30, 2022 and December 31, 2021. 13 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Notes to Interim Condensed Consolidated Financial Statements (Unaudited) ​ Segment Information The Company has determined that it operates and reports in one segment , which focuses on the development of materials and processes used to make organic thin-film transistors (OTFTs) for the manufacture of flexible electronics. The Company’s operating segment is reported in a manner consistent with the internal reporting provided to the chief operating decision maker (“CODM”). The Company’s CODM has been identified as its Chairman and Chief Executive Officer. Basic and Diluted Loss Per Share Basic and diluted net loss per share is determined by dividing net loss by the weighted average ordinary shares outstanding during the period. For all periods presented with a net loss, the shares underlying the ordinary share options and warrants have been excluded from the calculation because their effect would be anti-dilutive. Therefore, the weighted-average shares outstanding used to calculate both basic and diluted loss per share are the same for periods with a net loss. The loss per share information in these unaudited interim condensed consolidated financial statements is reflected and calculated as if the Company had existed since January 1, 2020. Accordingly, loss per share for all periods was calculated based on the number of shares retroactively adjusted for the exchange ratio determined in the reverse recapitalization (see also note 1). The Company has 2,168,000 pre-funded common stock warrants outstanding as of September 30, 2022, which became exercisable on April 24, 2021 based on terms and conditions of the agreements. As the pre-funded common stock warrants are exercisable for $ 0.01 , these shares are considered outstanding common shares and included in computation of basic and diluted Earnings Per Share as the exercise of the pre-funded common stock warrants is virtually assured. The Company included these pre-funded common stock warrants in basic and diluted earnings per share when all conditions were met on April 24, 2021. The following potentially dilutive securities have been excluded from the computation of diluted weighted average shares outstanding as they would be anti-dilutive: ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ September 30, ​ 2022 2021 Options ​ ​ 2,384,632 ​ ​ 2,036,882 Warrants ​ 985,533 ​ 985,533 Total ​ ​ 3,370,165 ​ ​ 3,022,415 ​ Recent Accounting Pronouncements Adopted In May 2021, the Financial Accounting Standards Board (“FASB”) issued Accounting Standard Update (“ASU”) No. 2021-04, Issuer's Accounting for Certain Modifications or Exchanges of Freestanding Equity Classified Written Call Options " ("ASU 2021-04"), which introduces a new way for companies to account for warrants either as stock compensation or derivatives. Under the new guidance, if the modification does not change the instrument's classification as equity, the Company accounts for the modification as an exchange of the original instrument for a new instrument. In general, if the fair value of the "new" instrument is greater than the fair value of the "original" instrument, the excess is recognized based on the substance of the transaction, as if the issuer has paid cash. The effective date of the standard is for interim and annual reporting periods beginning after December 15, 2021 for all entities, and early adoption is permitted. The Company adopted ASU 2021-04 on January 1, 2022. As a result of Management’s evaluation, the adoption of ASU 2021-04 did not have a material impact on the consolidated financial statements. In November 2021, the FASB issued ASU 2021-10, Government Assistance (Topic 832) ("ASU 2021-10"), which provides guidance on disclosing government assistance. Under the new guidance, the Company is required to 14 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Notes to Interim Condensed Consolidated Financial Statements (Unaudited) ​ including the disclosure of (1) the types of assistance, (2) an entity's accounting for the assistance, and (3) the effect of the assistance on the entity's financial statements. The effective date of the standard is for annual periods beginning after December 15, 2021. The Company adopted ASU 2021-10 on January 1, 2022. As a result of Management’s evaluation, the adoption of ASU 2021-10 did not have a material on the consolidated financial statements. Recent Accounting Pronouncements Not Adopted In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments: Credit Losses (Topic 326) , which requires measurement and recognition of expected losses for financial assets held. The new standard changes the impairment model for most financial instruments, including trade receivables, from an incurred loss method to a new-forward looking approach, based on expected losses. The estimate of expected credit losses will require organizations to incorporate considerations of historical information, current conditions and reasonable and supportable forecasts. The standards update is effective prospectively for annual and interim periods in fiscal years beginning after December 15, 2019, with early adoption permitted, for U.S. Securities Exchange filer, excluding entities eligible to be smaller reporting companies. The standards update is effective prospectively for annual and interim periods beginning after December 15, 2022. Management is currently evaluating the impact of these changes on the Financial Statements. Reclassifications Certain amounts in prior periods' interim condensed consolidated financial statements have been reclassified to conform to the current period’s presentation. 3. PREPAID EXPENSES AND OTHER CURRENT ASSETS: Prepaid expenses and other current assets consist of the following: ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ September 30, ​ December 31, ​ 2022 2021 Prepaid service charges and property taxes ​ $ 64 ​ $ 58 Prepaid utilities ​ 32 ​ 51 Prepaid insurance ​ 512 ​ 412 Prepaid administrative expenses ​ 43 ​ 63 Prepaid technical fees ​ ​ 199 ​ ​ 141 Prepaid consulting fees ​ ​ 455 ​ ​ 27 VAT receivable ​ 77 ​ 50 Other receivable and other prepaid expenses ​ ​ 44 ​ ​ — Total prepaid expenses and other current assets ​ $ 1,426 ​ $ 802 ​ As of September 30, 2022 and December 31, 2021, there was $ 178 thousand and $ 217 thousand respectively, of non-current prepaid insurance related to directors’ and officers’ liability insurance that was included in the amounts above. As of September 30, 2022, prepaid consulting fees includes amounts paid for a one-year internet advertising campaign (note 9). 15 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Notes to Interim Condensed Consolidated Financial Statements (Unaudited) ​ 4. PROPERTY, PLANT AND EQUIPMENT: Property, plant and equipment consist of the following: ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ September 30, ​ December 31, ​ 2022 2021 Plant and equipment ​ $ 1,377 ​ $ 1,633 Furniture and fixtures ​ 203 ​ 245 Computer hardware and software ​ 23 ​ 26 ​ ​ 1,603 ​ 1,904 Less: Accumulated depreciation ​ ( 1,019 ) ​ ( 1,102 ) Property, plant and equipment, net ​ $ 584 ​ $ 802 ​ Depreciation expense was $ 46 thousand and $ 52 thousand for the three months ended September 30, 2022 and 2021, respectively, and $ 151 thousand and $ 147 thousand for the nine months ended September 30, 2022 and 2021, respectively and is classified as research and development expense. 5. ACCOUNTS PAYABLE AND ACCRUED EXPENSES: Accounts payable and accrued expenses consist of the following: ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ September 30, ​ December 31, ​ 2022 2021 Accounts payable ​ $ 408 ​ $ 510 Accrued expenses – lab refurbishments ​ 108 ​ 131 Accrued expenses – technical fees ​ 59 ​ 66 Accrued expenses – variable rent & utilities ​ 10 ​ 20 Accrued expenses – audit & accounting fees ​ 224 ​ 191 Accrued expenses – other ​ 68 ​ 112 Credit card liabilities ​ 29 ​ 10 Payroll and social security liabilities ​ 309 ​ 383 Total accounts payable and accrued expenses ​ $ 1,215 ​ $ 1,423 ​ ​ 6. LEASES: The Company has operating leases consisting of office space, lab space, and equipment with remaining lease terms of 1 to 3 years , subject to certain renewal options as applicable. In April 2022, the Company renewed its lease for research & development, engineering, testing and corporate offices in Manchester. The renewed lease term expires in 2025 with an option for the Company to end the lease in 2024. In July 2022, the Company entered into a lease for office accommodation in Hsinchu City Taiwan. The lease term expires in 2025. There was no sublease rental income for the three and nine months ended September 30, 2022 and 2021. The Company is not the lessor in any lease agreement, and no related party transactions for lease arrangements have occurred. 16 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Notes to Interim Condensed Consolidated Financial Statements (Unaudited) ​ The table below presents certain information related to the lease costs for the Company’s operating and finance leases for the periods ended: ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ For the Three Months Ended September 30, ​ For the Nine Months Ended September 30, ​ 2022 2021 2022 2021 Operating lease cost ​ $ 65 ​ $ 60 ​ $ 196 ​ $ 159 Short-term lease cost ​ 2 ​ 3 ​ 6 ​ 29 Variable lease cost ​ 48 ​ 7 ​ 143 ​ 105 Total lease cost ​ $ 115 ​ $ 70 ​ $ 345 ​ $ 293 ​ The total lease cost is included in the unaudited condensed consolidated statements of operations as follows: ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ For the Three Months Ended September 30, ​ For the Nine Months Ended September 30, ​ 2022 2021 2022 2021 Research and development ​ $ 107 ​ $ 64 ​ $ 325 ​ $ 271 Selling, general and administrative ​ 8 ​ 6 ​ 20 ​ 22 Total lease cost ​ $ 115 ​ $ 70 ​ $ 345 ​ $ 293 ​ Right of use lease assets and lease liabilities for our operating leases were recorded in the unaudited condensed consolidated balance sheet as follows: ​ ​ ​ ​ ​ ​ ​ ​ ​ September 30, ​ December 31, ​ 2022 2021 Assets ​ ​ ​ Operating lease right of use assets ​ $ 495 ​ $ 154 Total lease assets ​ $ 495 ​ $ 154 Liabilities ​ ​ Current liabilities: ​ ​ Operating lease liability – current portion ​ $ 199 ​ $ 87 Noncurrent liabilities: ​ ​ ​ Operating lease liability, net of current portion ​ 275 ​ 28 Total lease liabilities ​ $ 474 ​ $ 115 ​ The Company had no right of use lease assets and lease liabilities for financing leases as of September 30, 2022 and December 31, 2021. 17 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Notes to Interim Condensed Consolidated Financial Statements (Unaudited) ​ The table below presents certain information related to the cash flows for the Company’s operating leases for the periods ended: ​ ​ ​ ​ ​ ​ ​ ​ For the Nine Months Ended September 30, ​ 2022 2021 Operating cash outflows from operating leases $ 190 ​ $ 196 Supplemental non-cash amounts of operating lease liabilities arising from obtaining right of use assets $ 583 ​ $ 86 ​ The table below presents certain information related to the weighted average remaining lease term and the weighted average discount rate for the Company’s operating and finance leases as of the period ended: ​ ​ ​ ​ ​ ​ ​ ​ For the Nine Months Ended September 30, ​ 2022 ​ ​ 2021 ​ Weighted average remaining lease term (in years) – operating leases 2.40 ​ 0.89 Weighted average discount rate – operating leases 7.69 % ​ 6.07 % ​ Undiscounted operating lease liabilities as of September 30, 2022, by year and in the aggregate, having non-cancelable lease terms in excess of one year were as follows: ​ ​ ​ ​ ​ ​ As of ​ ​ September 30, ​ ​ 2022 2022 ​ $ 66 2023 ​ 218 2024 ​ 217 2025 ​ 17 Total undiscounted lease payments ​ 518 Less imputed interest ​ ( 44 ) Total net lease liabilities ​ $ 474 ​ ​ 7. NOTES PAYABLE: On January 26, 2021, the Company entered into a term loan facility agreement for the amount of $ 739 thousand. The funds were available to be drawn on from the effective date of the agreement through January 27, 2021. The Company drew down the full loan amount on January 26, 2021. The Company’s research and development tax credit was to be utilized as collateral. The Lender was to be paid immediately following payment of research and development tax credit from the United Kingdom’s HM Revenue and Customs. The final repayment was due six months from the agreement date, if the loan and any interest was not repaid in full prior to this date. The loan carried a monthly interest rate of 1.25 %. The interest accrued daily and compounded monthly on the monthly anniversary of the draw down date of the loan. The Company repaid the note payable in full on March 2, 2021. For nine months ended September 30, 2021, the Company incurred an effective interest rate of 26.20 % relating to notes payable. The interest expense recognized based on the debt’s effective interest rate for nine months ended September 30, 2021, was $ 19 thousand. There were no notes payable outstanding during the nine months ended September 30, 2022 and no associated interest expense during the period. ​ 18 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Notes to Interim Condensed Consolidated Financial Statements (Unaudited) ​ 8. COMMITMENTS AND CONTINGENCIES: Legal proceedings In the normal course of business, the Company may become involved in legal disputes regarding various litigation matters. In the opinion of management, any potential liabilities resulting from such claims would not have a material effect on the financial statements. Capital expenditure commitments and unconditional purchase obligations contracted for but not yet incurred as of September 30, 2022, totaled $ 770 thousand and primarily consists of purchase commitments in the normal course of business for research & development services, communications infrastructure and administrative services. 9. STOCKHOLDERS’ EQUITY: Common Stock Voting Rights Each holder of common stock is entitled to one vote for each share on all matters submitted to a vote of the stockholders, including the election of directors. The Company’s amended and restated certificate of incorporation and the Company’s amended and restated bylaws do not provide for cumulative voting rights. The holders of one-third of the stock issued and outstanding and entitled to vote, present in person or represented by proxy, shall constitute a quorum for the transaction of business at all meetings of the stockholders. Dividends The Company has never paid any cash dividends to shareholders and do not anticipate paying any cash dividends to shareholders in the foreseeable future. Any future determination to pay cash dividends will be at the discretion of our board of directors and will be dependent upon financial condition, results of operations, capital requirements and such other factors as the board of directors deems relevant. Market Information Quotations on our common stock on the OTC Market Group’s OTCQB® Market quotation system (“OTCQB”) commenced under the ticker symbol “SMTK” in February 2022. There was no trading of our common stock on the OTCQB or any other over-the-counter market prior to February 2022. Common Stock Issued to Vendors for Services On February 28, 2022 and on May 27, 2022, the Company issued 12,500 and 22,473 shares of common stock, respectively, as payment for investor relations services. On June 29, 2022, the Company issued 360,000 shares of common stock as payment for a one-year internet advertising contract. Preferred Stock The Company currently has no shares of preferred stock outstanding, and the Company has no present plan to issue any shares of preferred stock. The board of directors has the authority, without further action by the stockholders, to issue up to 10,000,000 shares of preferred stock in one or more series and to fix the rights, preferences, privileges and restrictions thereof. These rights, preferences, and privileges could include dividend rights, conversion rights, voting rights, redemption rights, liquidation preferences, sinking fund terms, and the 19 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Notes to Interim Condensed Consolidated Financial Statements (Unaudited) ​ number of shares constituting any series or the designation of such series, any or all of which may be greater than the rights of common stock. Common Stock Warrants On February 23, 2021, a total of 985,533 fully vested common stock warrants were issued to a vendor for financial advisory services provided in connection with the sale of the Company’s common stock. The common stock warrants are exercisable at a per share price of $ 2.00 until they expire on February 23, 2026. During the nine months ended September 30, 2022 and 2021, respectively, no warrants issued to vendors for financial advisory services were exercised. The grant date fair value for these warrants of $ 0.91 per warrant for a total fair value of $ 896 thousand, was determined using the Black-Scholes options valuation model. The Company recorded the warrants at fair value, as both an increase and decrease in additional paid-in capital during the nine months ended September 30, 2021. There were no warrants issued during the three and nine months ended September 30, 2022. A summary of the Company’s warrants to purchase common stock activity is as follows: ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Weighted- ​ ​ ​ ​ ​ ​ ​ Average ​ ​ ​ ​ Weighted- ​ Remaining ​ ​ ​ ​ Average ​ Contractual ​ ​ Number of ​ Exercise ​ Term ​ ​ Shares ​ Price ​ (Years) Warrants outstanding at January 1, 2022 985,533 ​ $ 2.00 4.15 Exercised — ​ — — Forfeited or Expired — ​ — — Granted — ​ - — Warrants outstanding at September 30, 2022 985,533 ​ $ 2.00 3.40 ​ On February 23, 2021, a total of 2,168,000 pre-funded common stock warrants were issued to investors with an exercise price of $ 0.01 per share for total proceeds to the Company of $ 4,314 thousand. During the three and nine months ended September 30, 2022, no warrants issued to investors were exercised. The grant date fair value for these warrants of $ 1.99 is based on the stock price at issuance date of $ 2.00 less the exercise price of $ 0.01 . The pre-funded common stock warrants have no expiration date and terminate upon exercise. A summary of the Company’s pre-funded warrants to purchase common stock activity is as follows: ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Weighted- ​ ​ ​ ​ Average ​ ​ Number of ​ Exercise ​ ​ Shares ​ Price Pre-funded warrants outstanding at January 1, 2022 2,168,000 ​ $ 0.01 Exercised — ​ — Forfeited or Expired — ​ — Granted — ​ ​ Pre-funded warrants outstanding at September 30, 2022 2,168,000 ​ $ 0.01 ​ The grant date fair value of common stock warrants is determined using the Black Scholes option-pricing model. There was no public trading market for our shares before February 2022 and the Company estimates its expected stock volatility based on historical volatility of publicly traded peer companies. The Company did no t issue any warrants in the nine months ended September 30, 2022. ​ 20 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Notes to Interim Condensed Consolidated Financial Statements (Unaudited) ​ 10. SHARE-BASED COMPENSATION: Prior to the Exchange discussed in Note 1, SmartKem Limited had stock option plans. SmartKem Limited had issued Enterprise Management Incentive options (“EMI Options”) and non-tax-advantaged options (“Unapproved Options”) to eligible employees, officers, non-employee directors and other individual service providers as a means for them to develop a sense of proprietorship and personal involvement in the development and financial success of SmartKem Limited. The options generally expired 10 years after the grant date and were subject to vesting conditions and became fully vested and exercisable when there was a liquidity event, such as a change in control, and the employee, or consultant, was providing services to the Company at the time of the event. As of December 31, 2020, there were 1,810,749 options outstanding. These options were either exercised or cancelled as a result of the reverse merger and recapitalization. On February 23, 2021, the Company approved the 2021 Equity Incentive Plan (“2021 Plan”), in which a maximum aggregate number of shares of common stock that may be issued under the 2021 Plan is 2,275,000 shares. Subject to the adjustment provisions of the 2021 Plan, the number of shares of the Company’s common stock available for issuance under the 2021 Plan will also include an annual increase on the first day of each fiscal year beginning with 2022 fiscal year and ending on the Company’s 2031 fiscal year in an amount equal to the least of: 1) 2,275,000 shares of the Company’s common stock; 2) four percent ( 4 %) of the outstanding shares of the Company’s common stock on the last day of the immediately preceding fiscal year; or 3) such number of shares of the Company’s common stock as the administrator may determine. As a result of the reverse merger and recapitalization, an aggregate of 402,586 options were issued during February 2021 under the 2021 Plan in consideration for the cancellation of the SmartKem Limited options that were outstanding. Of these options, 336,557 had an exercise price of $ 0.001 per share and 66,029 had an exercise price of $ 2.00 per share and all expire on the ten year anniversary of the grant date. These options were fully vested on the grant date. Determining the appropriate fair value of share-based awards requires the input of subjective assumptions, including the fair value of the Company’s common shares, and for share options, the expected life of the option, and expected share price volatility. The Company uses the Black-Scholes option pricing model to value its share option awards. The assumptions used in calculating the fair value of share-based awards represent management’s best estimates and involves inherent uncertainties and the application of management’s judgment. As a result, if factors change and management uses different assumptions, the share-based compensation expense could be materially different for future awards. Options granted under the 2021 Plan for the three months ended September 30, 2022 were valued using the Black-Scholes option pricing model with the following assumptions: ​ ​ ​ ​ Three Months Ended ​ September 30, 2022 Expected term (years) 6.3 Risk-free interest rate 3.1 % Expected volatility 64 % Expected dividend yield 0 % ​ In the absence of a public trading market of the common share, on each grant date, the Company develops an estimate of the fair value of the common shares underlying the option grants. The Company estimated the fair value of the common shares by referencing arms-length transactions inclusive of the common shares underlying which occurred on or near the valuation date(s). From February 2022, the Company’s common shares are publicly traded and where an active market exists, the Company will no longer have to estimate the fair value of the common share, rather the value will be determined based on quoted market prices. The Company determined the fair value of common share using methodologies, approaches and assumptions consistent with the AICPA Practice Guide, Valuation of Privately Held Company Equity Securities Issued as Compensation and based in part on input from an independent third-party valuation firm. 21 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Notes to Interim Condensed Consolidated Financial Statements (Unaudited) ​ The Company estimates its expected volatility by using a combination of historical share price volatilities of similar companies within our industry. The risk-free interest rate assumption is based on observed interest rates for the appropriate term of the Company’s options on a grant date. The expected option term assumption is the contractual term, as the service period is implied under the practical expedient since the Company does not have sufficient exercise history to estimate expected term of its historical option awards. The following table reflects share activity under the share option plans for nine months ended September 30, 2022: ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Weighted- ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Average ​ ​ ​ ​ ​ ​ ​ ​ ​ Weighted- ​ Remaining ​ Weighted- ​ Aggregate ​ ​ ​ ​ Average ​ Contractual ​ Average ​ Intrinsic ​ ​ Number of ​ Exercise ​ Term ​ Fair Value at ​ Value ​ ​ Shares ​ Price ​ (Years) ​ Grant Date ​ (in thousands) Options outstanding at January 1, 2022 1,953,882 ​ $ 1.72323 9.31 ​ $ 1.12355 ​ ​ ​ Exercised — ​ — ​ ​ ​ ​ Cancelled — ​ — ​ ​ ​ ​ Forfeited ​ ( 37,250 ) ​ ​ 2.00000 ​ ​ ​ ​ ​ ​ ​ ​ Granted 468,000 ​ 2.00000 ​ ​ ​ ​ Options outstanding at September 30, 2022 2,384,632 ​ $ 1.77322 8.79 ​ $ 1.11185 ​ ​ ​ Options exercisable at September 30, 2022 ​ 887,888 ​ $ 1.39093 ​ 8.51 ​ ​ ​ ​ $ 216 Vested and expected to vest after September 30, 2022 ​ 2,384,632 ​ $ 1.77322 ​ 8.79 ​ ​ ​ ​ $ 216 ​ As of September 30, 2022, there were 887,888 exercisable options outstanding. Stock-based compensation, including stock options and warrants is included in the unaudited interim condensed consolidated statements of operations as follows: ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ For the Three Months Ended September 30, ​ For the Nine Months Ended September 30, ​ ​ 2022 2021 2022 2021 Research and development ​ $ 36 ​ $ ( 2 ) ​ $ 114 ​ $ 2,930 Selling, general and administrative ​ 87 ​ 4 ​ 204 ​ 3,167 Total ​ $ 123 ​ $ 2 ​ $ 318 ​ $ 6,097 ​ Total compensation cost related to non-vested stock option awards not yet recognized as of September 30, 2022 was $ 1,470 thousand and will be recognized on a straight-line basis through the end of the vesting periods in July 2026. The amount of future stock option compensation expense could be affected by any future option grants or by any forfeitures. 22 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Notes to Interim Condensed Consolidated Financial Statements (Unaudited) ​ 11. SELLING, GENERAL AND ADMINISTRATIVE EXPENSES: Selling, general and administrative expenses are comprised of the following items: ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ For the Three Months Ended September 30, For the Nine Months Ended September 30, ​ 2022 2021 2022 2021 Salaries and benefits ​ $ 508 ​ $ 577 ​ $ 1,513 ​ $ 4,792 Rent and property tax expense ​ 9 ​ 6 ​ 24 ​ 22 Insurance ​ ​ 164 ​ ​ 168 ​ ​ 495 ​ ​ 323 Utilities ​ — ​ 1 ​ 2 ​ 3 Sales and marketing ​ 369 ​ 316 ​ 803 ​ 421 Legal and professional fees ​ 310 ​ 248 ​ 1,048 ​ 956 Other selling, general, and administrative expenses ​ 32 ​ 52 ​ 117 ​ 178 Total ​ $ 1,392 ​ $ 1,368 ​ $ 4,002 ​ $ 6,695 ​ ​ 12. DEFINED CONTRIBUTION PENSION: The Company operates a defined contribution pension scheme. The assets of the scheme are held separately from those of the Company in an independently administered fund. The pension cost charge represents contributions payable by the Company to the fund. Pension cost is included in the unaudited interim condensed consolidated statements of operations as follows: ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ For the Three Months Ended September 30, ​ For the Nine Months Ended September 30, ​ 2022 2021 2022 2021 Research and development ​ $ 25 ​ $ 25 ​ $ 78 ​ $ 73 Selling, general and administrative ​ 13 ​ 13 ​ 40 ​ 30 Total pension cost ​ $ 38 ​ $ 38 ​ $ 118 ​ $ 103 ​ As of September 30, 2022 and December 31, 2021 there were no amounts owed to the pension scheme. 13. RELATED PARTY TRANSACTIONS: In addition to transactions and balances related share-based compensation to officers and directors, the Company incurred expenses of $ 37 thousand and $ 18 thousand, for the three months ended September 30, 2022 and 2021, respectively, and $ 84 thousand and $ 43 thousand, for the nine months ended September 30, 2022 and 2021 due to reimbursement of expenses and compensation for members of the Board of Directors. These expenses are recorded in selling, general & administrative in the unaudited interim condensed consolidated statements of operations. As of September 30, 2022 and December 31, 2021, there was $ 27 thousand and $ 18 thousand respectively payable to members of the Board of Directors that are recorded in accounts payable and accrued expenses on the unaudited interim condensed consolidated balance sheets. Octopus Share Purchase On January 27, 2022, we sold an aggregate of 1,000,000 shares of our common stock at a purchase price of $ 2.00 per share to Octopus Titan VCT plc and Octopus Investments Nominees Limited in accordance with the Letter Agreement, dated as of February 23, 2021, between the Company and Octopus Titan VCT plc and certain related parties. ​ 23 Table of Contents SMARTKEM, INC. AND SUBSIDIARIES Notes to Interim Condensed Consolidated Financial Statements (Unaudited) ​ 14. SUBSEQUENT EVENTS: The Company has evaluated subsequent events through to the issuance of these financial statements and is not aware of any material items that would require disclosure in the notes to the financial statements or would be required to be recognized as of September 30, 2022. ​ ​ ​ ​ 24 Table of Contents