Board of Directors and Stockholders

CytoBioscience, Inc.

San Antonio, Texas

OPINION ON THE FINANCIAL STATEMENTS

We have audited the accompanying consolidated balance sheets of CytoBioscience, Inc. (the "Company") as of December 31, 2017 and 2016, and the related consolidated statements of operations and comprehensive loss, changes in Stockholders' equity (deficit), and cash flows, for each year in the two‑year period ended December 31, 2017, and the related notes (collectively referred to as the "financial statements"). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2017 and 2016, and the results of its operations and its cash flows for each year in the two‑year period ended December 31, 2017, in conformity with accounting principles generally accepted in the United States of America.

BASIS FOR OPINION

These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company's financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) ("PCAOB") and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion.

Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.

 

 

 

Substantial Doubt about the Company's Ability to Continue as a Going Concern

The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. Management's evaluation of the events and conditions and management's plans regarding those matters also are described in Note 2. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty. Our opinion is not modified with respect to that matter.

/s/ Adeptus Partners, LLC

Adeptus Partners, LLC

August 23, 2018

 

 

Consolidated Balance Sheets

For the Years Ended December 31
(expressed in thousands of U.S. dollars)

Consolidated Statements of Operations

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Consolidated Statements of Comprehensive Loss

For Years Ended December 31

 (expressed in thousands of U.S. dollars)

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Consolidated Statements of Changes in Stockholders' Equity (Deficit)

For Years Ended December 31

 (expressed in thousands of U.S. dollars)

See accompanying notes to the consolidated financial statements

 

 

Consolidated Statements of Cash Flows

For Years Ended December 31

(expressed in thousands of U.S. dollars)

The Company derived a substantial portion of its revenues from four customers which comprised 52% of the Company's revenue for the year ended December 31, 2017.  Five customers accounted for 85% of accounts receivable at December 31, 2017.

The Company derived a substantial portion of its revenues from three customers which comprised 45% of the Company's revenue for the year ended December 31, 2016, respectively.  Two customers accounted for 37% of accounts receivable at December 31, 2016.

 

CytoBioscience, Inc.

Notes to the Consolidated Financial Statements

(expressed in thousands of U.S. dollars)

 

 

Intangible Assets

Definite-lived intangible assets, primarily the Company's patented technology, are amortized over the pattern in which the economic benefits of the intangible assets are utilized and reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the assets or asset group may not be recoverable. These assets are currently amortized over 10 years on a straight-line basis. Determination of recoverability is based on an estimate of undiscounted future cash flows resulting from the use of the asset, which requires the use of customer attribution rates and other assumptions. In the event that such cash flows are not expected to be sufficient to recover the carrying amount of the definite-lived intangible assets, the definite-lived intangible assets are written-down to their fair values.

Impairment of Long-Lived Assets

Revenue Recognition

The Company recognizes revenue when each of the following four criteria is met: 1) a contract or sales arrangement exists; 2) delivery has occurred or services have been rendered; 3) the price of the products or services is fixed or determinable; and 4) collectability is reasonably assured.

Equipment Sales

Revenue from the sale of instrumentation is recognized at the time of shipment to the customer, provided no significant vendor obligations remain and collectability is probable. Revenue from warranties are recognized ratably over the contractual term of the warranty agreement.

Contract Research

Revenue from contract research services is recognized based on a fee per data point at the time services are performed and the final report is issued to the customer.

Consumables

Revenue from the sale of consumables is recognized at the time of shipment to the customer, provided no significant vendor obligations remain and collectability is probable.

Grants

Revenue from grants is recognized at the time of funding or over time based on the specific terms of the individual grants.

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CytoBioscience, Inc.

Notes to the Consolidated Financial Statements

(expressed in thousands of U.S. dollars)

 

 

The Company recorded a bargain purchase gain of $7,372, which represents the excess of the estimated fair value of the net assets acquired over the purchase price. The bargain purchase gain was recorded in other income and not recognized for tax purposes. The Company believes that there were several factors that contributed to this transaction resulting in a significant bargain purchase gain, including the inability of Cyto GmbH prior management to obtain funding for continued product development, geographical limitation to product sales and a limited pool of potential buyers. Cyto GmbH operates as a wholly-owned subsidiary of the Company.

The purchase was executed for consideration valued at approximately $23,000, consisting of cash ($1,500), convertible notes ($12,500), preferred ($4,100) and common stock ($4,900). The total fair value of assets acquired from Cyto GmbH was approximately $32,202. The table below summarizes the amounts recognized for assets acquired and liabilities assumed as of the acquisition date.

 

 

Acquisitions (continued

Zenas Technologies, LLC (Zenas)

In May 2015, the Company acquired Zenas, a contract research organization or CRO, that is a leading provider of cardiac ion assays and cardiovascular studies. The acquisition was to add a quality research organization with industry and governmentally recognized expertise in ion channel studies which compliments the Company's existing ion channel technology. Zenas is now an operating division of CytoBioscience.

The purchase was executed for consideration valued at approximately $231, consisting of cash ($60) and common stock ($171). The following table summarizes the amounts recognized for assets acquired as of the acquisition date.

Zenas Technologies, LLC (Zenas)

Soluble Therapeutics, Inc. (Soluble)

In November 2016, the Company acquired Soluble, a leading provider of enhanced drug development processes using technology that rapidly optimizes protein solubility and stability. The acquisition expands the Company's product offering in the market and strengthens its scientific team. The name was changed to Soluble BioScience to reflect its expanded capacities as a wholly-owned subsidiary of the Company.

The purchase was executed for consideration valued at approximately $3,701, consisting of common stock. The following table summarizes the amounts recognized for assets acquired as of the acquisition date.

 

 

 

 

 

 

Convertible Notes

As part of the Cytocentrics Bioscience acquisition (Note 3), the Company assumed convertible notes which as of December 31, 2017 $3,822 remain outstanding.  During the year ended December 31, 2017 entered into one convertible note. Management believes the carrying amounts of the above convertible notes payable represents fair value based on the terms of the loan and the convertible feature. Details of the convertible notes are as follows:

Convertible Note 1

On April 15, 2016, the Company entered an agreement to restructure the convertible note payable involving a cash payment of $750, issuance of a new convertible note of $4,052 and the issuance of preferred stock valued at $4,750.  The note bears interest at 6% with a maturity date of December 31, 2016 and is convertible into preferred shares at a 1 share to $1 ratio, which increases to 1.5 shares to $1 if the note is default. The balance outstanding was $3,052 and $3,052 as of December 31, 2017 and 2016, respectively. Accrued interest payable was $315 and $163 as of December 31, 2017 and 2016, respectively.  During November 2017, the note holder exercised its right to convert and converted all principal and accrued interest into 5,058,415 shares of preferred stock which was executed in March 2018. The conversion resulted in a loss of $1,691 in 2018.

Convertible Note 2

The Note bears interest at 6% (which increases to 11% upon default), has a maturity date of April 20, 2016, and is convertible into preferred shares at a 1 share to $1 ratio. The balance outstanding was $770 and $778 as of December 31, 2017 and 2016, Respectively. Accrued interest payable was $157 and $107 as of December 31, 2017 and 2016, respectively. During November 2017, the note holder exercised its right to convert and converted all principal and accrued interest into 927,050 shares of preferred stock which was executed in March 2018.

Convertible Note 3

During December 2017, the Company entered a convertible promissory note with BOCO Investments, LLC in the amount of $150 bearing interest at 6%. The note is convertible in the event of a Conversion Event into common stock on a 1 to 1 basis. The note is due and payable on February 28, 2018. Interest due as of December 31, 2017 was less than $1.

As a result of a merger that was consummated on March 19, 2018, the full principal outstanding and accrued interest was converted into 150,000 shares of common stock. See Note 14 for further discussion of the merger.

Promissory Notes

During 2017, the Company borrowed $1,070 for continued operations from Skyline Medical, Inc. ("Skyline") pursuant to a definitive merger agreement signed on August 9, 2017. The notes bear interest at 8% and have a maturity date of December 31, 2017. As of December 31, 2017, $29 is included in accrued interest payable on the consolidated balance sheet.

On November 6, 2017, the merger agreement was terminated. As of December 31, 2017, the Company is in default on the notes. On February 28, 2018, subsequent to year end, the terms of the note were re-negotiated with principal outstanding of $1,113 (including interest accrued as of that date) bearing interest at 8% per annum. Interest only payments are due monthly with a balloon payment due on February 28, 2020.

 

 

 

 

 

Notes Payable - Stockholders

Stockholder 1

The Company entered into 3 notes with this stockholder during 2017.  The total value of the notes was $1,000 with an interest rate of 12% (increases to 18% upon default) and maturity dates in June, July, and August 2017, respectively.  As of December 31, 2017, the Company is in default on these notes.  As of December 31, 2017, $1,000 was outstanding. As of December 31, 2017, $85 is included in accrued interest payable on the consolidated balance sheet.

Subsequent to year end, the notes were renegotiated whereby the individual notes were combined into a single note bearing interest at 5% per annum. As a result of a merger that was consummated on March 19, 2018, the holder of the notes converted $576 into 767,388 shares of common stock resulting in principal outstanding of $785. Interest is payable quarterly commencing on May 1, 2018 with a balloon payment due for the principal outstanding on February 26, 2021. See Note 14 for further discussion of the merger.

Stockholder 2

The Company entered into a $50 note with an interest rate of 12% (increases to 18% upon default) and a maturity date of September 17, 2017. As of December 31, 2017, the Company is in default on the note.  As of December 31, 2017, $50 was outstanding. As of December 31, 2017, $1 is included in accrued interest payable on the consolidated balance sheet.

As a result of a merger that was consummated on March 19, 2018, the holder of the notes converted the entire principal and interest outstanding into 73,190 shares of common stock. See Note 14 for further discussion of the merger.

Stockholder 3

In March 2017, the Company entered into a $200 note with this stockholder.  The note has an interest rate of 12% and a maturity date of September 17, 2017.  The note was issued with 60,000 warrants which had a fair value of $18.  This was recorded as debt discount and amortized over the life of the note.  The amortization expense is included in interest expense in the consolidated statement of operations.

In July 2017, the Company entered into a $100 note with this stockholder.  The note has an interest rate of 12% and a maturity date of September 17, 2017.

In December 2017, the Company entered into a $200 note with this stockholder of which $156 was outstanding at December 31, 2017. The note has an interest rate of 12% and a maturity date of the earlier of February 6, 2018 or the date of a change of control.

As of December 31, 2017, the Company is in default on the March and July notes. As of December 31, 2017, $456 was outstanding.  As of December 31, 2017, $25 is included in accrued interest payable on the consolidated balance sheet.

 

10.     Mezzanine Equity (Continued)

Preferred Stock (Continued)

In March 2015, in connection with the acquisition of Cyto GmbH, the Company offered and sold, in an initial closing, 2,500,000 shares of the Series A Convertible Preferred Stock to certain accredited investors and received gross proceeds of approximately $2,500. In March 2015, the Company also issued 1,446,845 million preferred shares in conjunction with its acquisition of Cyto GmbH. See "Acquisitions" in note 3 above for further discussion.

During the year ended December 31, 2015, the Company offered and sold in subsequent closings 4,050,000 shares of its Series A Convertible Stock to accredited investors with whom it had a prior relationship or who were Stockholders for $4,050.

During 2016, to fund continuing research and fund working capital, the Company offered and sold 6,475,000 shares of Series A shares to accredited investors and received proceeds of approximately $6,475.

The conversion option embedded in the Series A Preferred Stock was evaluated pursuant to ASC 470-20 to determine whether a beneficial conversion feature existed as of the issuance of the shares which would be recognized separately from the Series A Preferred Stock in the Company's consolidated financial statements. The conversion option is considered beneficial if, at the commitment closing date, the effective conversion price (represented by the proceeds received less the allocated value of the Class A warrants and Class A common stock) for the Series A Preferred Stock is less than the fair value of the Class A common stock into which it is convertible at the commitment closing date. As a result of this evaluation, the Company separately recognized in equity, with an offsetting reduction in the carrying amount of the Series A Preferred Stock, the value of the beneficial conversion feature at the issuance dates of the shares totaling $0 and $1,630 for the years ended December 31, 2017 and 2016, respectively. Since the Company's Series A Preferred Stock is perpetual and has no stated maturity date and no restrictions on conversion, the value attributable to the nondetachable conversion option was recognized immediately as a non-cash deemed dividend on the date that the Series A Preferred Stock was issued.

As a result of a merger that was consummated on March 19, 2018, all outstanding preferred shares were converted to common stock inclusive of cumulative dividends payable. See Note 14 for further discussion of the merger.

11.     Stockholder's Equity

Common Stock

The Company is authorized to issue up to 100 million shares designated as common stock. The common stock has a par value of $0.0001 per share.

As a result of a merger that was consummated on March 19, 2018, all shares of common stock issued and outstanding including common stock issued as a result of the conversion of preferred stock as discussed above was exchanged for common stock of the other party to the merger. See Note 14 for further discussion of the merger.

 

 

11.     Stockholder's Equity (Continued)

Stock Options (continued)

 

The fair value of stock options and warrants granted are estimated using Black-Scholes option pricing model. The expected life is computed using the "simplified" method as permitted under the provisions of ASC 718-10-S99. The Company uses the simplified method to calculate expected term of share options and similar instruments as the Company does not have sufficient historical exercise data to provide a reasonable basis upon which to estimate expected term. The stock price is based off a valuation performed by the Company.  The expected volatility was benchmarked against comparable publicly traded companies. The risk-free interest rate is based on the U.S. Treasury yields with terms equivalent to the expected term of the related option at the valuation date. Dividend yield is based on historical trends.

Stock based compensation expense was $336 and $556 for the year ended December 31, 2017 and 2016, respectively.  As of December 31, 2017, unrecognized compensation expense related to unvested stock options expected to vest was $534.

As a result of a result of a merger that was consummated on March 19, 2018, the option plan was cancelled. The Company intends to establish a new option plan by the end of fiscal year 2018. See Note 14 for further discussion of the merger.

Warrants

In March 2015, in connection with a private placement, the Company issued an aggregate of 442,113 common stock purchase warrants to placement agents. The warrants were issued with an exercise price of $0.65 per share.

During the year ended December 31, 2017, the Company issued 60,000 warrants in connection with a note payable to a stockholder.  The warrants were issued with an exercise price of $1.00 per share.  The fair value of the warrants was $18.

The following table summarizes warrant activity:

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Expected life (in years)		5.00
Expected volatility		66.40%
Risk free interest rate		1.93%
Expected dividend yield		-%

 

Year Ended December 31,		2017				2016
Income (loss) from operations before income taxes:
U.S.		$	(9,200	)		$	(8,405	)
Non-U.S.			(471	)			(702	)
			(9,671	)			(9,107	)
Income Tax Provision:
Current:
Federal			-				-
Foreign			-				-
State			-				-
Total Current			-				-
Deferred:
Federal			823				(346	)
Foreign			-				-
State			(60	)			(52	)
Total Tax Provisions (Benefit)::		$	763			$	(398	)

Year Ending December 31,		2017				2016
Deferred tax assets:
Net operating loss carryforward		$	3,019			$	3,284
Allowance for doubtful accounts			20				-
Deferred revenue			45
Other			3				10
Total deferred tax assets			3,087				3,293
Less: valuation allowance			(3,019	)			(3,284	)
Total deferred tax assets		$	68			$	9

Deferred tax liabilities:
Intangible assets		$	1,925			$	2,452
Equipment			105
Other			-				282
Total deferred tax liabilities			2,030				2,734
Net deferred tax liabilities		$	1,962			$	2,725

Year Ending December 31,		2017				2016
Income tax at the federal statutory rate		21.00	%			34.00	%
State tax, net of federal tax effect		(0.08	)			(0.12	)
Change in the valuation allowance		(10.66	)			(29.08	)
Reduction in tax rate		(18.38	)			-
Meals and entertainment		(0.02	)			(0.07	)
Key man life insurance		(0.02	)			(0.03	)
Effective tax rate		(8.16	%)			4.70	%