Table of Contents

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

(Mark One)

For the Quarterly Period Ended September 30, 2018

OR

For the transition period from ________ to ________

Commission file number 001-32518

 Nuo Therapeutics, Inc.

(Exact Name of Registrant as Specified in its Charter)

207A Perry Parkway, Suite 1
Gaithersburg, MD 20877

(Address of Principal Executive Offices) (Zip Code)

(240) 499-2680

(Registrant’s Telephone Number, Including Area Code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐   No ☒

APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE PRECEDING FIVE YEARS

Indicate by check make whether the registrant has filed all documents and reports required to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court.   Yes ☒   No ☐

APPLICABLE ONLY TO CORPORATE ISSUERS

As of November 12, 2018, the number of shares outstanding of the registrant’s common stock, $0.0001 par value, was 23,722,400.

TABLE OF CONTENTS

NUO THERAPEUTICS, INC.
 
TABLE OF CONTENTS

Note 1 – Description of Business and Bankruptcy Proceedings

Description of Business

Nuo Therapeutics, Inc. (“Nuo Therapeutics,” the “Company,” “we,” “us,” or “our”) is a biomedical company marketing its products primarily within the U.S. We commercialize innovative cell-based technologies that harness the regenerative capacity of the human body to trigger natural healing. The use of autologous (from self) biological therapies for tissue repair and regeneration is part of a transformative clinical strategy designed to improve long term recovery in complex chronic conditions with significant unmet medical needs.

Currently, our commercial offering consists solely of the Aurix point of care technology for the safe and efficient separation of autologous blood to produce a platelet based therapy for the chronic wound care market. Prior to May 5, 2016 (the “Effective Date”), the effective date of the Company’s emergence from bankruptcy under a confirmed Plan of Reorganization (See Note 6), we had two distinct platelet rich plasma (“PRP”) devices: the Aurix® System for wound care, and the Angel® concentrated Platelet Rich Plasma (“cPRP”) System for orthopedics markets. Prior to the Effective Date, Arthrex, Inc. (“Arthrex”) was our exclusive distributor for Angel. Pursuant to the Plan of Reorganization, on May 5, 2016, the Company assigned its rights, title and interest in and to the existing license agreement with Arthrex to Deerfield Management Company, L.P. and its affiliates (“Deerfield”), as well as rights to collect royalty payments thereunder.

Note 2 – Liquidity and Summary of Significant Accounting Principles

Liquidity

Our operations are subject to certain risks and uncertainties including, among others, current and potential competitors with greater resources, dependence on significant customers, lack of operating history, uncertainty of future profitability and possible fluctuations in financial results. Since our inception, we have financed our operations by raising debt, issuing equity and equity-linked instruments, and executing licensing arrangements, and to a lesser extent by generating royalties and product revenues.  We have incurred, and continue to incur, recurring losses and negative cash flows.  As of September 30, 2018, we have negative working capital and a shareholder deficit.  During the quarter ended September 30, 2017, we withdrew our attempted registered offering and related refinancing of our Series A preferred stock, and exercised our rights under the Backstop Commitment in full.  As a result of that exercise, we issued an aggregate of 12,800,000 shares of common stock (the "Backstop Shares") for gross proceeds of approximately $3.0 million, which more than doubled the number of our outstanding shares of common stock. In June 2018, the Company issued 1,000,000 shares of common stock for gross proceeds of $0.5 million pursuant to a May 28, 2018 securities purchase agreement with Rohto Pharmaceutical Co., Ltd. (“Rohto”). In September 2018, the Company issued two convertible notes for net proceeds of approximately $0.3 million and related stock purchase warrants, which are convertible into and exercisable for common stock as further described in Note 6 – Convertible Notes and Stock Purchase Warrants, and entered into a royalty buyout agreement with the licensee of the Aldeflour product for proceeds of approximately $0.2 million to be received in the fourth quarter of 2018. The convertible notes impose onerous interest and penalty provisions on the Company. At September 30, 2018, we had cash and cash equivalents on hand of approximately $0.25 million, and $0.35 million of convertible notes payable.

The accompanying consolidated financial statements have been prepared assuming that we will continue as a going concern, which contemplates continuity of operations, realization of assets, and satisfaction of liabilities in the ordinary course of business. The propriety of using the going-concern basis is dependent upon, among other things, the achievement of future profitable operations, the ability to generate sufficient cash from operations, and potential other funding sources, including cash on hand, to meet our obligations as they become due.

We believe based on the operating cash requirements and capital expenditures expected for the next twelve months, that our current resources, projected revenue from sales of Aurix and projected receipt of the consideration from the Aldeflour royalty buyout and the agreements with Rohto executed in October 2018 (see Note 9 – Subsequent Events), are insufficient to support our operations beyond the next 90 days.  As such, we believe that substantial doubt about our ability to continue as a going concern exists.

Even assuming we succeed in raising sufficient additional funds in the near future to avoid a cessation of business operations, we require additional capital and will seek to continue financing our operations with external capital for the foreseeable future.   Any equity financings may cause further substantial dilution to our stockholders and could involve the issuance of securities with rights senior to the common stock. Any allowed debt financings (which are severely restricted under the terms of the convertible notes and the Certificate of Designations for our Series A Preferred Stock) may require us to comply with additional onerous financial covenants and restrict our business operations. Our ability to complete additional financings is dependent on, among other things, market reception of the Company and perceived likelihood of success of our business model, the state of the capital markets at the time of any proposed equity or debt offering, state of the credit markets at the time of any proposed loan financing, and on the relevant transaction terms, among other things. We may not be able to obtain additional capital as required to finance our efforts, through equity or debt financings, other transactions or any combination thereof, on satisfactory terms or at all. Additionally, any such financing, if at all obtained, may not be adequate to meet our capital needs and to support our operations.

If we are unable to secure sufficient capital to fund our operating activities or we are unable to increase revenues significantly, we may be forced to further delay the completion of, or significantly reduce the scope of, our current business plan, delay the pursuit of commercial insurance reimbursement for our wound treatment technologies, and postpone the hiring of new personnel.   Moreover, if we are unable within the next 90 days to secure sufficient capital to fund our ongoing operating activities, we will likely be required to cease operations.

Basis of Presentation

The accompanying unaudited interim consolidated financial statements have been prepared in accordance with the rules and regulations of the U.S. Securities and Exchange Commission (“SEC”) for interim financial information. Accordingly, they do not include all the information and footnotes required by accounting principles generally accepted in the United States of America (“U.S. GAAP”). In our opinion, the accompanying unaudited interim consolidated financial statements include all adjustments, consisting of normal recurring adjustments, which are necessary to present fairly our financial position, results of operations and cash flows. The consolidated balance sheet at December 31, 2017, has been derived from audited financial statements of the Company as of that date. The interim unaudited consolidated results of operations are not necessarily indicative of the results that may occur for the full fiscal year. Certain information and footnote disclosure normally included in financial statements prepared in accordance with U.S. GAAP have been omitted pursuant to instructions, rules and regulations prescribed by the SEC. We believe that the disclosures provided herein are adequate to make the information presented not misleading when these unaudited interim consolidated financial statements are read in conjunction with the audited financial statements and notes previously included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2017.

Principles of Consolidation

The consolidated financial statements include the accounts of the Company and its wholly-owned and controlled subsidiary Aldagen, Inc. (“Aldagen”). All significant inter-company accounts and transactions are eliminated in consolidation.

Use of Estimates

The preparation of financial statements in conformity with U.S. GAAP requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amount of revenues and expenses during the reporting period. In the accompanying consolidated financial statements, estimates are used for, but not limited to, stock-based compensation, allowance for inventory obsolescence, allowance for doubtful accounts, contingent liabilities, fair value and depreciable lives of long-lived assets (including property and equipment, intangible assets and goodwill), deferred taxes and associated valuation allowance and the classification of our long-term debt. Actual results could differ from those estimates.

Credit Concentration

We generate accounts receivable from the sale of our product. In addition, other receivables consist primarily of (i) a receivable for the royalty buyout by the licensee of Aldeflour as of September 30, 2018, and (ii) royalties due for sales of Aldeflour and a settlement amount for a prior value added tax receivable due from the contract manufacturer of the prior Angel product line as of December 31, 2017. Customers or other receivables balances in excess of 10% of total receivables at September 30, 2018 and December 31, 2017 were as follows:

Revenue from significant customers exceeding 10% of total revenues for the periods presented was as follows:

Historically, we have used single suppliers for several components of the Aurix product line. We outsource the manufacturing of various product components to contract manufacturers. While we believe these manufacturers demonstrate competency, reliability and stability, there is no assurance that one or more of them will not experience an interruption or inability to provide us with the products needed to satisfy customer demand. Additionally, while most of the components of Aurix are generally readily available on the open market, a reagent, bovine thrombin, is available exclusively through Pfizer, with whom we have an established vendor relationship.

Cash Equivalents

We consider all highly liquid instruments purchased with an original maturity of three months or less to be cash equivalents. We maintain our cash and cash equivalents in the form of money market deposit accounts and qualifying money market funds, and checking accounts with financial institutions that we believe are credit worthy.

Accounts Receivables, net

We generate accounts receivables from the sale of our products. We provide for an allowance against receivables for estimated losses that may result from a customer’s inability or unwillingness to pay. The allowance for doubtful accounts is estimated primarily based upon historical write-off percentages, known problem accounts, and current economic conditions. Accounts are written off against the allowance for doubtful accounts when we determine that amounts are not collectable. Recoveries of previously written-off accounts are recorded when collected. At September 30, 2018, we maintained an allowance for doubtful accounts of approximately $2,000. At December 31, 2017, we maintained an allowance for doubtful accounts of approximately $306,000 as we fully reserved for a value added tax receivable. Effective with an executed settlement agreement as of March 29, 2018, we recognized a bad debt recovery of approximately $240,000 and received the settlement amount in April 2018.

Inventory, net

Our inventory is produced by third-party manufacturers and consists of raw materials and finished goods. Inventory cost is determined on a first-in, first-out basis and is stated at the lower of cost or net realizable value. We maintain an inventory of kits, reagents, and other disposables that have shelf-lives that generally range from 18 months to two years.

As of September 30, 2018, our inventory consisted of approximately $30,000 of finished goods and $20,000 of raw materials. As of December 31, 2017, our inventory consisted of approximately $40,000 of finished goods and $18,000 of raw materials.

We provide for an allowance against inventory for estimated losses that may result in excess and obsolete inventory (i.e., from the expiration of products). Our allowance for expired inventory is estimated based upon the inventory’s remaining shelf-life and our anticipated ability to sell such inventory, which is estimated using historical usage and future forecasts, within its remaining shelf life. At September 30, 2018 and December 31, 2017, the Company maintained an allowance for expired and excess and obsolete inventory of approximately $16,000 and $23,000, respectively. Expired products are segregated and used for demonstration purposes only; the Company records the associated expense for this reserve to cost of sales in the consolidated statements of operations.

Property and Equipment, net

Property and equipment is stated at cost less accumulated depreciation and is depreciated, using the straight-line method, over its estimated useful life ranging from one to six years. Leasehold improvements are amortized, using the straight-line method, over the lesser of the expected lease term or its estimated useful life ranging from one to three years. Amortization of leasehold improvements is included in depreciation expense. Maintenance and repairs are charged to operations as incurred. When assets are disposed of, the cost and related accumulated depreciation are removed from the accounts and any gain or loss is included in other income (expense).

Centrifuges may be sold or placed at no charge with customers. Depreciation expense for centrifuges that are available for sale or placed at no charge with customers are charged to cost of sales. Depreciation expense for centrifuges used for sales and marketing and other internal purposes are charged to general and administrative expenses.

Property and equipment is reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to future undiscounted net cash flows expected to be generated by the asset. Recoverability measurement and estimating of undiscounted cash flows is done at the lowest possible level for which we can identify assets. If such assets are considered to be impaired, impairment is recognized as the amount by which the carrying amount of assets exceeds the fair value of the assets.

Revenue Recognition

Prior to January 1, 2018, revenues were recognized when the four basic criteria for recognition were met: (1) persuasive evidence of an arrangement exists; (2) delivery has occurred or services have been rendered; (3) consideration is fixed or determinable; and (4) collectability is reasonably assured. The Company adopted new accounting guidance for revenue recognition effective January 1, 2018 which did not have a material impact on the Company’s financial statements.

Beginning January 1, 2018, the Company analyzes contracts to determine the appropriate revenue recognition using the following steps: (i) identification of contracts with customers; (ii) identification of distinct performance obligations in the contract; (iii) determination of contract transaction price; (iv) allocation of contract transaction price to the performance obligations; and (v) determination of revenue recognition based on timing of satisfaction of the performance obligation. The Company recognizes revenues upon the satisfaction of its performance obligations (upon transfer of control of promised goods or services to customers) in an amount that reflects the consideration to which it expects to be entitled in exchange for those goods or services.

We provide for the sale of our products, including disposable processing sets and supplies to customers. Revenue from the sale of products is recognized upon shipment of products to the customers. We do not maintain a reserve for returned products, as in the past those returns have not been material and are not expected to be material in the future. Percentage-based fees on licensee sales of covered products are generally recorded as products are sold by licensees, and are reflected as royalties in the consolidated statements of operations. Direct costs associated with product sales and royalty revenues are recorded at the time that revenue is recognized.

License Agreement with Rohto

The Company’s license agreement with Rohto (See Note 3 – Distribution, Licensing and Collaboration Arrangements) contains multiple promises that include the delivery of a “functional” license and other ancillary activities such as maintaining its intellectual property and providing regulatory support and training to Rohto. The Company has determined that the ancillary activities do not constitute distinct promises and, accordingly, the Company combined the ancillary activities with the delivered license as a single performance obligation.  The Company recognized the total non-contingent transaction price of $3.0 million as revenue when the functional license was delivered to Rohto.  Other contingent elements of transaction price, such as contingent fees and sales-based royalties related to the supply and future sale of the product, would be recognized as revenue if and when the contingencies are satisfied.  See Note 9 – Subsequent Events for information on the pending termination of the Company’s license agreement with Rohto.

Segments and Geographic Information

Approximately 75% and 25% of our total revenue was generated outside of the United States for the three months ended September 30, 2018 and 2017, respectively, and approximately 52% and 27% of our total revenue was generated outside the United States for the nine months ended September 30, 2018 and 2017, respectively. All revenue generated outside the United States is attributable to royalty revenue.

Stock-Based Compensation

The fair value of employee stock options is measured at the date of grant. Expected volatilities for the 2016 Omnibus Plan options are based on the equally weighted average historical volatility from five comparable public companies with an expected term consistent with ours. Expected years until exercise represents the period of time that options are expected to be outstanding. The risk-free rate for periods within the contractual life of the option is based on the U.S. Treasury yield curve in effect at the time of grant. The Company estimated that the dividend rate on its common stock will be zero.

Stock-based compensation for awards granted to non-employees is periodically re-measured as the underlying awards vest. The Company recognizes an expense for such awards throughout the performance period as the services are provided by the non-employees, based on the fair value of these options and warrants at each reporting period. The fair value of stock options and compensatory warrants issued to service providers utilizes the same methodology with the exception of the expected term. For awards to non-employees, the Company estimates that the options or warrants will be held for the full term.

The Company adopted new accounting guidance on January 1, 2017 related to stock-based compensation arrangements. Under the new guidance, excess tax benefits and tax deficiencies related to stock-based compensation awards are recognized as income tax expenses or benefits in the income statement, and excess tax benefits are classified along with other income tax cash flows in the operating activities section of the condensed consolidated statement of cash flows. Additionally, the Company elected to account for forfeitures of stock-based awards as they occur, as opposed to estimating those prior to their occurrence. The adoption of this new guidance did not have a material impact on the Company's consolidated financial statements in any period.

Income Taxes

The Company accounts for income taxes using the asset and liability method. Under the asset and liability method, current income tax expense or benefit is the amount of income taxes expected to be payable or refundable for the current year. A deferred income tax asset or liability is recognized for future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and tax credits and loss carryforwards. Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized. Tax rate changes are reflected in income during the period such changes are enacted. All of our tax years remain subject to examination by the tax authorities.

The Company’s policy for recording interest and penalties associated with audits is to record such items as a component of income before taxes. There were no such items in 2018 and 2017.

Earnings (Loss) per Share

Basic earnings (loss) per share is computed by dividing net income (loss) available to common shareholders by the weighted average number of shares of common stock outstanding (including contingently issuable shares when the contingencies have been resolved) during the period.

For periods of net loss, diluted loss per share is calculated similarly to basic loss per share because the impact of all dilutive potential common shares is anti-dilutive. For periods of net income, and when the effects are not anti-dilutive, diluted earnings per share is computed by dividing net income available to common shareholders by the weighted-average number of shares outstanding (including contingently issuable shares when the contingencies have been resolved) plus the impact of all potential dilutive common shares, consisting primarily of common stock options and stock purchase warrants using the treasury stock method, and convertible debt using the if-converted method. 

All of the Company’s outstanding stock options and warrants were considered anti-dilutive for the three and nine months ended September 30, 2018 and 2017. The total number of anti-dilutive shares underlying common stock options and warrants exercisable for common stock, which have been excluded from the computation of diluted loss per share for the periods presented, was as follows:

Reclassifications

Certain reclassification have been made to the prior year financial statements to conform to the current year presentation, including the addition of restricted cash to cash and cash equivalents on the consolidated statements of cash flows as a result of the adoption of new accounting guidance.

Recently Adopted Accounting Standards

The Company adopted new accounting guidance for revenue recognition effective January 1, 2018 using the modified retrospective approach which did not have a material impact on the Company's financial statements.

In November 2016, the Financial Accounting Standards Board (“FASB”) issued an Accounting Standards Update (“ASU”) amending the presentation of restricted cash within the consolidated statements of cash flows. The new guidance requires that restricted cash be added to cash and cash equivalents on the consolidated statements of cash flows. The Company adopted this ASU on January 1, 2018 on a retrospective basis with the following impacts to our consolidated statements of cash flows for the nine months ended September 30, 2017:

Following is a summary of cash, cash equivalents and restricted cash:

In January 2017, the FASB issued guidance intended to simplify the subsequent measurement of goodwill by eliminating Step 2 from the goodwill impairment test. Under the existing guidance, in computing the implied fair value of goodwill under Step 2, an entity is required to perform procedures to determine the fair value at the impairment testing date of its assets and liabilities (including unrecognized assets and liabilities), following the procedure that would be required in determining the fair value of assets acquired and liabilities assumed in a business combination. Under the new guidance, an entity should perform its annual, or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. An entity should recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. Additionally, an entity should consider income tax effects from any tax deductible goodwill on the carrying amount of the reporting unit when measuring the goodwill impairment loss, if applicable. The guidance also eliminates the requirements for any reporting unit with a zero or negative carrying amount to perform a qualitative assessment and, if it fails that qualitative test, to perform Step 2 of the goodwill impairment test. An entity is required to adopt the new guidance on a prospective basis. The new guidance is effective for the Company for its annual or any interim goodwill impairment tests for fiscal years beginning after December 15, 2021. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. We adopted this pronouncement effective January 1, 2017; the adoption did not have a material impact to our consolidated financial statements upon adoption since goodwill was not considered impaired with the adoption of Accounting Standards Update 2017-04. However, when we performed our interim goodwill impairment test, comparing the fair value of our one reporting unit with its carrying amount as of June 30, 2017, the carrying amount exceeded our reporting unit's fair value by approximately $2.8 million. As a result we recognized a non-cash goodwill impairment charge of approximately $2.1 million to write-down goodwill to its estimated fair value of zero as of June 30, 2017.

In July 2017, the FASB issued guidance intended to simplify the accounting for certain financial instruments with down round features. The amendments require companies to disregard the down round features when assessing whether the instrument is indexed to its own stock for purposes of determining liability or equity classification. The Company adopted this guidance with no impact on the financial statements as of July 1, 2018.

We have evaluated all other issued and unadopted Accounting Standards Updates and believe the adoption of these standards will not have a material impact on our results of operations, financial position, or cash flows.

Note 3 – Distribution, Licensing and Collaboration Arrangements

Distribution and License Agreement with Rohto

See Note 9 – Subsequent Events for information on the pending termination of the Amended Exclusive License and Distribution Agreement (as defined below).

In January 2015, we granted to Rohto Pharmaceutical Co., Ltd. (“Rohto”) a royalty bearing, nontransferable, exclusive license, with limited right to sublicense, to use certain of the Company’s intellectual property for the development, import, use, manufacturing, marketing, sale and distribution for all wound care and topical dermatology applications of the Aurix System and related intellectual property and know-how in human and veterinary medicine in Japan in exchange for an upfront payment from Rohto of $3.0 million. The related agreement (the “Exclusive License and Distribution Agreement”) also contemplated additional royalty payments as described below and an additional future cash payment if and when the pricing event has occurred as described below. In connection with and effective as of the entering into the Rohto agreement, we amended an existing licensing and distribution agreement with Millennia Holdings, Inc. (“Millennia”) to terminate it and allow us to transfer the exclusivity rights from Millennia to Rohto. In connection with this amendment we paid a one-time, non-refundable fee of $1.5 million to Millennia upon our receipt of the $3.0 million upfront payment from Rohto, and we are required to make certain future payments to Millennia if we receive the milestone payment from Rohto as well as future royalty payments based upon net sales in Japan. The Millennia agreement, as amended, specifies that it automatically terminates upon termination of the Exclusive License and Distribution Agreement.

On May 28, 2018, the Company entered into an amendment (the “Amendment”) to the Exclusive License and Distribution Agreement, reflecting the following material revisions:

The Exclusive License and Distribution Agreement, as so amended, is referred to herein as the “Amended License and Distribution Agreement".  See Note 9 – Subsequent Events for information on the pending termination of the Amended Exclusive License and Distribution Agreement.

Collaboration Agreement with Restorix Health

On March 22, 2016, we entered into a Collaboration Agreement (the “Collaboration Agreement”) with Restorix Health (“Restorix”), pursuant to which we agreed to provide Restorix with certain limited geographic exclusivity benefits over a defined period of time for the usage of the Aurix System in up to 30 of the approximately 200 hospital outpatient wound care clinics with which Restorix has a management contract (the “RXH Partner Hospitals”), in exchange for Restorix making minimum commitments of patients enrolled in three prospective clinical research studies primarily consisting of patient data collection (the “Protocols”) necessary to maintain exclusivity under the Collaboration Agreement. The initial term of the Collaboration Agreement expired in March 2018 and has so far not been extended by the parties.

Pursuant to the Collaboration Agreement, the Company agreed to provide: (i) clinical support services by its clinical staff as reasonably agreed between the Company and Restorix as necessary and appropriate, (ii) reasonable and necessary support regarding certain reimbursement activities, (iii) coverage of Institutional Review Board (“IRB”) fees and payment to Restorix for certain training costs subject to certain limitations and (iv) community-focused public relations materials for participating RXH Partner Hospitals to promote the use of Aurix and participation in the Protocols. Pursuant to the Collaboration Agreement, Restorix agreed to: (i) provide access and support as reasonably necessary and appropriate at up to 30 RXH Partner Hospitals to identify and enroll patients into the Protocols, including senior executive level support and leadership to the collaboration and its enrollment goals and (ii) reasonably assist the Company to correct through a query process, any patient data submitted having incomplete or inaccurate data fields. 

Pursuant to the Collaboration Agreement and subject to the satisfaction of certain conditions, during the term of the Collaboration Agreement: (i) Restorix had site specific geographic exclusivity for usage of Aurix in connection with treatment of patients in the Protocols within a 30 mile radius of each RXH Partner Hospital, and (ii) other than with respect to existing CED sites, the Company did not provide corporate exclusivity with any other wound management company operating in excess of 19 wound care facilities for any similar arrangement.

Under the Collaboration Agreement, the Company was required to pay Restorix or the RXH Partner Hospital, as the case may be, a per patient data collection (administrative) fee upon full completion and delivery of a patient data set. In addition, the Company was responsible for payment of any IRB fees necessary to conduct the Protocols and enroll patients, and to pay Restorix a training cost stipend per site. Each RXH Partner Hospital paid the Company the then-current product price ($700 in 2018) as set forth in the Collaboration Agreement.

Boyalife Distribution Agreement

Effective as of May 5, 2016, the Company and Boyalife Hong Kong Ltd. (“Boyalife”), an entity affiliated with the Company’s significant shareholder, Boyalife Investment Fund I, Inc., entered into an Exclusive License and Distribution Agreement (the “Boyalife Distribution Agreement”) with an initial term of five years, unless the agreement is terminated earlier in accordance with its terms.  Under this agreement, Boyalife received a non-transferable, exclusive license, with limited right to sublicense, to use certain of the Company’s intellectual property relating to its Aurix System for the purposes and in the territory specified below.  Under the agreement, Boyalife is entitled to import, use for development, promote, market, sell and distribute the Aurix Products in greater China (China, Hong Kong, Taiwan and Macau) for all regenerative medicine applications, including but not limited to wound care and topical dermatology applications in human and veterinary medicine.  “Aurix Products” are defined as the combination of devices to produce a wound dressing from the patient’s blood - as of May 5, 2016 consisting of centrifuge, wound dressing kit and reagent kit.  Under the Boyalife Distribution Agreement, Boyalife is obligated to pay the Company (a) $500,000 within 90 days of approval of the Aurix Products by the China Food and Drug Administration (“CFDA”), but no earlier than December 31, 2018, and (b) a distribution fee per wound dressing kit and reagent kit of $40, payable quarterly, subject to an agreement by the parties to discuss in good faith the appropriate distribution fee if the pricing of such kits exceeds the current general pricing in greater China.   Under the agreement, Boyalife is entitled, with the Company’s approval (not to be unreasonably withheld or delayed) to procure devices from a third party in order to assemble them with devices supplied by the Company to make the Aurix Products.  Boyalife also has a right of first refusal with respect to the Aurix Products in specified countries in the Asia Pacific region excluding Japan and India, exercisable in exchange for a payment of no greater than $250,000 in the aggregate.  If Boyalife files a new patent application for a new invention relating to wound dressings, the Aurix Products or the Company’s technology, Boyalife will grant the Company a free, non-exclusive license to use such patent application outside greater China during the term of the Boyalife Distribution Agreement.

Note 4 – Receivables

Accounts and other receivables, net consisted of the following:

Other receivables at December 31, 2017 primarily consisted of an agreed settlement amount on the prior value added tax receivable due from the contract manufacturer of the former Angel product line which was received in April 2018 and a quarter end royalty receivable for the Aldeflour product. Other receivables at September 30, 2018 consisted of a royalty buyout receivable from the licensee of the Aldeflour product. The allowance for doubtful accounts at September 30, 2018 of approximately $2,000 reflects the estimated reserve for trade receivables and the December 31, 2017 allowance reflects a full reserve against the value added tax receivable. A bad debt recovery of approximately $240,000 was recognized concurrent with the execution of the settlement agreement with the contract manufacturer in the nine months ended September 30, 2018.

Note 5 – Property and Equipment

Property and equipment, net consisted of the following:

Depreciation expense of property and equipment was approximately $77,000 and $230,000 for the nine months ended September 30, 2018 and 2017, respectively. Depreciation expense of property and equipment was approximately $25,000 and $51,000 for the three months ended September 30, 2018 and 2017, respectively.

Note 6 – Convertible Notes and Stock Purchase Warrants

On September 17, 2018, the Company entered into securities purchase agreements with Auctus Fund, LLC (“Auctus”) and EMA Financial, LLC (“EMA” and, collectively with Auctus, the “Investors”) for the issuance and sale to the Investors of 12% convertible promissory notes, each in the principal amount of $175,000, for an aggregate purchase price of $315,800 (reflecting a combined $34,200 in original issue discount and transaction fees). On September 17, 2018, the Company issued the notes to the Investors. Pursuant to the purchase agreements, the Company also issued to each Investor a warrant exercisable to purchase 233,333 shares of the Company’s common stock, for an aggregate of 466,666 shares of common stock, subject to adjustment as referenced below.

The purchase agreements contain certain representations, warranties and covenants by, among and for the benefit of the respective parties. The purchase agreements also provide for customary indemnification of the Investors by the Company.

The notes mature nine months from the date of issuance (June 17, 2019) and, in addition to any original issue discount, accrue interest at a rate of 12% per year. The Company may prepay the notes, in whole or in part, for 130% of outstanding principal and interest ending on the date that is 90 days following the date of issuance, and for 145% of outstanding principal and interest at any time commencing on the date that is 91 days following the date of issuance and ending on the date that is 180 days following the date of issuance, but only if the Company is not then in default under the notes. Beginning on the date that is 181 days following the date of issuance, the Company may no longer prepay the notes. The maturity date of the note issued to EMA may be extended up to one year beyond the original maturity date at the option of EMA.

After six months from the date of issuance, the Investors may convert the notes, at any time, in whole or in part, into shares of the Company’s common stock, at a conversion price corresponding to a 40% discount to the average of the two lowest trading prices of the common stock during the 25 trading days prior to the conversion, subject to certain adjustments and price-protection provisions contained in the notes, including full-ratchet anti-dilution protection in the case of dilutive issuances of securities that do not meet the requirements of “exempt issuances” as defined in the notes. The Company is required to maintain authorized and unissued shares of its common stock equal to seven times the number issuable upon conversion of the notes. Each note contains potential additional discounts to the conversion price upon the occurrence of an event of default or specified other events related to the trading status of the Company’s common stock (which would result in a higher number of shares issued upon conversion). The notes include certain event of default provisions, a default interest rate of 24% per year and certain penalties for specified breaches that would be added to the principal amount of the relevant note. Upon the occurrence of an event of default, an Investor may require the Company to redeem their note (or convert it into shares of common stock) at 150% of the outstanding principal balance plus accrued and unpaid interest. The notes also restrict the Company’s ability to make distributions to its shareholders, repurchase its shares, borrow funds, or sell its assets (with limited exceptions).

The warrants are exercisable at any time, at an exercise price per share equal to $0.15, subject to certain adjustments and price protection provisions (including full ratchet anti-dilution protection) contained in the warrants. The warrants have five-year terms.

The transaction documents also include most favored nations provisions and limitations on the Company’s ability to offer additional securities (unless the use of proceeds is to repay the notes).

The warrants are treated as equity and the fair market value at issuance of approximately $18,000 was recorded as a credit to additional paid-in-capital based on the relative fair values of the debt and warrant at issuance.  The notes were evaluated and found to have a bifurcated embedded conversion option requiring the variable conversion option to be recorded at fair market value at issuance and each quarterly reporting period.  The embedded conversion option at issuance was valued at $532,000 using a Monte Carlo analysis with the following assumptions: 2.46% risk free interest rate, 364% volatility over a nine-month period, 0.75 year term, a dividend yield of 0%, and the 40% discount to market price conversion price formula.  As the fair market value of the embedded liability exceeds the net proceeds received, the difference is recorded as a loss in the income statement under fair value of derivatives in excess of convertible notes.  The full $350,000 face value of the note is reflected as a discount at note issuance and is being amortized as interest expense via the straight line method which closely approximates the effective interest method given the short nine-month term of the notes.

Note 7 – Equity and Stock-Based Compensation

Under the Second Amended and Restated Certificate of Incorporation of the Company, as amended, it has the authority to issue a total of 101,000,000 shares of capital stock, consisting of: (i) 100,000,000 shares of common stock and 1,000,000 shares of preferred stock, par value $0.0001 per share, which will have such rights, powers and preferences as the board of directors of the Company (the “Board of Directors”) shall determine.

Series A Preferred Stock

On May 5, 2016 (the “Effective Date”), the effective date of the Company’s emergence from bankruptcy under a confirmed Plan of Reorganization (the “Plan of Reorganization”), the Company filed a Certificate of Designations of Series A Preferred Stock with the Delaware Secretary of State, designating 29,038 shares of the Company’s undesignated preferred stock, par value $0.0001 per share, as Series A Preferred Stock (the “Series A Preferred Stock”). On the Effective Date, the Company issued 29,038 shares of Series A Preferred Stock to Deerfield in accordance with the Plan of Reorganization pursuant to the exemption from the registration requirements of the Securities Act provided by Section 1145 of the Bankruptcy Code. Deerfield did not receive any shares of common stock or other equity interests in the Company.

The Series A Preferred Stock has no stated maturity date, is not convertible or redeemable, and carries a liquidation preference of $29,038,000, which is required to be paid to holders of such Series A Preferred Stock before any payments are made with respect to shares of common stock (and other capital stock that is not issued on parity or senior to the Series A Preferred Stock) upon a liquidation or change in control transaction.  For so long as Series A Preferred Stock is outstanding, the holders of Series A Preferred Stock have the right to nominate and elect one member of the Board of Directors.   The Series A Preferred Stock has voting rights, voting with the common stock as a single class, with each share of Series A Preferred Stock having the right to five votes, which currently represents approximately one percent (1%) of the voting rights of the capital stock of the Company.  The holders of Series A Preferred Stock have the right to approve certain transactions and incurrences of debt. Among other restrictions, the Certificate of Designations for our Series A Preferred Stock limits the Company’s ability to (i) issue securities that are senior or pari passu with the Series A Preferred Stock, (ii) incur debt other than for working capital purposes not in excess of $3.0 million, (iii) issue securities that are junior to the Series A Preferred Stock and that provide certain consent rights to the holders of such junior securities in connection with a liquidation or contain certain liquidation preferences, (iv) pay dividends on or purchase shares of its capital stock, and (v) change the authorized number of members of its Board of Directors to a number other than five, in each case without the consent of holders representing at least two-thirds of the outstanding shares of Series A Preferred Stock. The Series A Preferred Stock is classified in equity.

Common Stock

On May 28, 2018, the Company sold 1,000,000 common shares for $500,000 to Rohto. See Note 7 – Convertible Notes for information on the issuance of notes convertible into common stock in September 2018.

Stock Purchase Warrants

As part of the Plan of Reorganization, the Company also issued warrants to purchase 6,180,000 shares of unregistered common stock to certain investors participating in the recapitalization of the Company. The warrants terminate on May 5, 2021 and are currently exercisable at exercise prices ranging from $0.50 per share to $0.75 per share. The number of shares of common stock underlying a warrant and its exercise price are subject to customary adjustments upon subdivisions, combinations, payment of stock dividends, reclassifications, reorganizations and consolidations. The warrants are classified in equity. 

See Note 6 – Convertible Notes for information on the issuance of warrants to purchase an aggregate of 466,666 shares of unregistered common stock to the convertible note investors in September 2018.

Stock-Based Compensation

In July 2016, the Board of Directors approved the Company’s 2016 Omnibus Incentive Plan (the “2016 Omnibus Plan”), and on August 4, 2016, the Board amended such plan to include an evergreen provision, intended to increase the maximum number of shares issuable under the Omnibus Plan on the first day of each fiscal year (starting on January 1, 2017) by an amount equal to six percent (6%) of the shares reserved as of the last day of the preceding fiscal year, provided that the aggregate number of all such increases may not exceed 1,000,000 shares. As of November 21, 2016, holders of a majority of our capital stock executed a written consent adopting and approving the 2016 Omnibus Plan, as amended and restated, which provides for the Company to grant equity and cash incentive awards to officers, directors and employees of, and consultants to, the Company and its subsidiaries. We were authorized to issue up to 1,685,400 shares of common stock under the 2016 Omnibus Plan as of September 30, 2018. 

A summary of stock option activity under the 2016 Omnibus Plan during the nine months ended September 30, 2018 is presented below: 

There were 815,626 stock options granted under the 2016 Omnibus Plan during the nine months ended September 30, 2018 to settle accrued compensation liabilities with the Company’s officers and directors. The fair value of these stock options granted and immediately vested during the nine months ended September 30, 2018 was approximately $51,000. As the options issued were to related parties, the $321,250 of settled liabilities was credited to additional paid-in-capital. No stock options were exercised during the nine months ended September 30, 2018. As of September 30, 2018, there was approximately $1,000 of total unrecognized compensation cost related to non-vested stock options, and that cost was expected to be recognized over a weighted-average period of 0.25 years.

The Company recorded stock-based compensation expense in the periods presented as follows:

Note 8 – Commitments and Contingencies

As of the Effective Date, the Company entered into a registration rights agreement (the “Registration Rights Agreement”) with certain accredited investors who acquired common shares in accordance with the Plan of Reorganization (the “Recapitalization Investors”).  The Registration Rights Agreement provides certain resale registration rights to the Recapitalization Investors with respect to the common shares they received.  Pursuant to the Registration Rights Agreement, the Company filed, and has to update periodically, a registration statement with the U.S. Securities and Exchange Commission that covers the resale of all shares of common stock issued to the Investors on the Effective Date until such time as such shares have been sold or may be sold without registration or restriction pursuant to Rule 144 under the Securities Act, subject to the Company's ability to suspend sales under the registration statement in certain circumstances. As the Company does not qualify for forward incorporation by reference, the Company has caused the suspension of sales under the registration statement pending the filing and effectiveness of a post-effective amendment containing updated financial information.

Our primary office and warehouse facilities are located in Gaithersburg, Maryland, and comprise approximately 12,000 square feet. The facilities fall under two leases with monthly rent, including our share of certain annual operating costs and taxes, at approximately $18,000 in total per month and expiring in September 2019. Effective August 1, 2018, we executed a first amendment to the more significant of the lease agreements permitting the deferral of a portion of the monthly rent until the final three months of the lease period and totaling approximately $100,000.

In addition, we subleased an approximately 2,100 square foot facility in Nashville, Tennessee, which was utilized as a commercial operations office. The sublease was approximately $4,000 per month excluding our share of annual operating expenses, and was due to expire April 30, 2018. Effective January 28, 2018, we executed a sublease termination agreement which terminated our obligations remaining on the sublease in exchange for our forfeiture of the approximately $4,000 security deposit on the sublease.

We also leased a 16,300 square foot facility located in Durham, North Carolina. Monthly rent, including our share of certain annual operating costs and taxes, was approximately $22,000 per month and the lease was due to expire on December 31, 2018. As a result of our discontinuance of the ALD-401 clinical trial, the Company ceased use of the facility in Durham, North Carolina on July 31, 2014, and sublet the facility beginning August 1, 2014. The sublease rent was approximately $14,000 per month and was also due to expire on December 31, 2018. Due to non-payment on the lease subsequent to December 31, 2017, we were in default on the lease since year end. Effective June 29, 2018, we executed a lease termination agreement which terminated all of our remaining financial obligations under the lease in exchange for release of the approximately $32,000 security deposit on the lease and a one-time payment of $26,000.

Note 9 – Subsequent Events

On October 24, 2018, the Company entered into an Agreement for Sale of Intellectual Property (the “IP Sale Agreement”) and a License and Service Agreement (the “Service Agreement” and collectively the “Agreements”) with Rohto.

The IP Sale Agreement provides for the sale to Rohto of the intellectual property under license pursuant to the Amended License and Distribution Agreement (consisting of two of our patents in Japan, our know-how in Japan and trademarks for Aurix and AutoloGel in Japan). The IP Sale Agreement provides that, upon the completion of such transfers and payments, the Amended License and Distribution Agreement will be terminated. Under the IP Sale Agreement, we are subject to a five-year non-compete in Japan.

Under the Service Agreement, we agreed to the sale of a patent application in Brazil, the grant of a royalty free license to our know how in the Field of Use in Brazil and India, and the grant of a royalty-free non-exclusive license to the use of our device patent in the Field of Use in the United States, Canada and Mexico. The latter license becomes effective if and only if we cease our business with respect to the Aurix System or grant a non-exclusive license to a third party to use the device patent in the Field of Use in the United States, Canada and Mexico. The “Field of Use” is defined as the use of the Aurix System and the modified medical device being developed by Rohto under the Japan patents sold to Rohto for all wound care and topical dermatology applications in human and animal medicine. Under the Service Agreement, we are subject to a non-compete in Brazil and India.

The aggregate consideration receivable under the Agreements is $750,000, with $500,000 received on November 8, 2018 and the balance due within 15 days of the delivery by us of the executed documents necessary to effect the transfer of the relevant intellectual property rights to Rohto.