SEC Connect
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
________________
FORM 10-Q
________________
☑ QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF
1934
For
the quarterly period ended September 30, 2016
or
☐
TRANSITION REPORT PURSUANT TO
SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For
the transition period from _________ to __________
Commission
File Number: 000-35218
ECHO THERAPEUTICS, INC.
(Exact name of registrant as specified in its charter)
________________
Delaware
|
41-1649949
|
(State or other jurisdiction of incorporation or
organization)
|
(I.R.S. Employer Identification Number)
|
99
Wood Avenue South, Suite 302, Iselin, NJ
|
08830
|
(Address of principal executive offices)
|
(Zip Code)
|
732-201-4194
(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 and posted
on its corporate Web site, if any, every Interactive Data File
required to be submitted and posted 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 and post such files). Yes ☑ No
☐
Indicate by check
mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting
company. See the definitions of “large accelerated
filer,” “accelerated filer,” and “smaller
reporting company” in Rule 12b-2 of the Exchange
Act.
Large
accelerated filer ☐
|
Accelerated filer
☐
|
Non-accelerated
filer ☐ (Do not check if a
smaller reporting company)
|
Smaller
reporting company ☑
|
Indicate by check
mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act). Yes ☐ No
☑
As of
October 30, 2016, 12,004,308
shares of the registrant’s Common Stock, $0.01 par
value, were issued and outstanding.
ECHO
THERAPEUTICS, INC.
QUARTERLY REPORT ON FORM 10-Q
FOR THE QUARTER ENDED
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1
|
|
|
2
|
|
|
3
|
|
|
4
|
|
|
5
|
|
|
13
|
|
|
17
|
|
|
17
|
|
|
|
|
|
|
|
17
|
|
|
|
|
18
|
|
19
|
PART I—FINANCIAL
INFORMATION
ITEM
1. FINANCIAL
STATEMENTS.
ECHO THERAPEUTICS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
|
|
|
|
|
|
ASSETS
|
|
|
|
|
|
Current
assets:
|
|
|
Cash
and cash equivalents
|
$172,725
|
$56,210
|
Prepaid
and other
|
229,229
|
244,534
|
Total
current assets
|
401,954
|
300,744
|
|
|
|
Property
and equipment, net
|
188,936
|
267,671
|
|
|
|
Other
assets:
|
|
|
Cash
restricted pursuant to letters of credit
|
217,556
|
236,425
|
Capitalized software development
costs
|
267,811
|
—
|
Other
|
250
|
250
|
Total
other assets
|
485,617
|
236,675
|
Total
assets
|
$1,076,507
|
$805,090
|
|
|
|
LIABILITIES AND STOCKHOLDERS’ DEFICIT
|
|
|
|
|
|
Current
liabilities:
|
|
|
Accounts
payable
|
$1,851,043
|
$2,176,083
|
Accrued
and other
|
884,253
|
602,345
|
Secured
convertible notes, net
|
3,248,731
|
—
|
Bridge loans
|
250,000
|
330,000
|
Premium
financing
|
22,638
|
—
|
Derivative liabilities
|
1,010,694
|
127,000
|
Total
current liabilities
|
7,267,359
|
3,235,428
|
Deferred
revenue, net
|
95,535
|
95,535
|
Total
liabilities
|
7,362,894
|
3,330,963
|
|
|
|
Commitments
and contingencies
|
|
|
|
|
|
Stockholders’
deficit:
|
|
|
Preferred
Stock, $0.01 par value; 40,000,000 shares authorized:
|
|
|
Convertible
Series
|
|
|
C - 10,000 shares authorized;1,000 issued and
outstanding
|
10
|
10
|
D -
3,600,000 shares authorized;1,000,000 issued and
outstanding
|
10,000
|
10,000
|
E - 1,748,613 shares authorized; issued and
outstanding
|
17,486
|
17,486
|
F -
6,000,000 shares authorized; 5,276,180 issued and
outstanding
|
52,762
|
52,762
|
Common
stock, $0.01 par value; 150,000,000 shares authorized; issued and
outstanding 11,635,915 and 11,124,496 shares,
respectively
|
|
|
Common
stock, $0.01 par value; 150,000,000 shares authorized; issued and
outstanding 11,635,915 and 11,124,496 shares,
respectively
|
116,358
|
111,243
|
Additional
paid-in capital
|
148,414,835
|
147,412,559
|
Accumulated
deficit
|
(154,897,838)
|
(150,129,933)
|
Total
stockholders’ deficit
|
(6,286,387)
|
(2,525,873)
|
Total liabilities and stockholders’
deficit
|
$1,076,507
|
$805,090
|
See
accompanying notes to the condensed consolidated financial
statements.
ECHO THERAPEUTICS, INC.
CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
|
For the Three Months Ended
September 30,
|
For the Nine Months Ended
September 30,
|
|
|
|
|
|
|
|
|
|
|
Licensing
revenue
|
$—
|
$—
|
$—
|
$—
|
Total
revenues
|
—
|
—
|
—
|
—
|
|
|
|
|
|
Operating
expenses:
|
|
|
|
|
Research and
development
|
588,551
|
558,995
|
1,943,287
|
2,027,896
|
Selling, general and
administrative
|
1,198,328
|
820,662
|
2,927,716
|
3,815,746
|
Impairment
charge
|
—
|
—
|
—
|
9,625,000
|
Loss (gain) on disposal of
property and equipment
|
—
|
39,382
|
(4,000)
|
278,816
|
Depreciation and
amortization
|
26,925
|
39,171
|
85,090
|
487,491
|
Total operating expenses
|
1,813,804
|
1,458,210
|
4,952,093
|
16,234,949
|
|
|
|
|
|
Loss from operations
|
(1,813,804)
|
(1,458,210)
|
(4,952,093)
|
(16,234,949)
|
|
|
|
|
|
Other
income (expense):
|
|
|
|
|
Gain (loss) on revaluation
of derivative liabilities
|
3,675,826
|
(54,000)
|
4,437,776
|
(61,845)
|
Financing
loss
|
—
|
(263,000)
|
—
|
(4,620,000)
|
Loss on early
extinguishment of bridge loans
|
—
|
—
|
(2,143,960)
|
—
|
Amortization of debt
discount
|
(934,794)
|
—
|
(1,830,012)
|
—
|
Interest
expense
|
(133,057)
|
(212)
|
(279,616)
|
(4,938)
|
Other income (expense),
net
|
2,607,975
|
(317,212)
|
184,188
|
(4,686,783)
|
Net income (loss)
|
$794,171
|
$(1,775,422)
|
$(4,767,905)
|
$(20,921,732)
|
Deemed
dividend on beneficial conversion feature of preferred
stock
|
—
|
—
|
(6,460,818)
|
—
|
Net income (loss) applicable to common
shareholders
|
$794,171
|
$(1,775,422)
|
$(11,228,723)
|
$( 20,921,732)
|
|
|
|
|
|
Net loss per common share,
basic
|
$0.07
|
$(0.16)
|
$(0.98)
|
$(1.86)
|
Net loss per common share,
diluted
|
$(0.11)
|
$(0.16)
|
$(0.98)
|
$(1.86)
|
|
|
|
|
|
Basic
weighted average common shares outstanding
|
11,603,868
|
11,127,475
|
11,418,653
|
11,266,571
|
Diluted weighted average common shares
outstanding
|
17,261,692
|
11,127,475
|
11,418,653
|
11,266,571
|
See
accompanying notes to the condensed consolidated financial
statements.
ECHO
THERAPEUTICS, INC.
CONDENSED
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’
DEFICIT
FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2016
(Unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at December 31, 2015
|
8,025,793
|
$80,258
|
11,124,496
|
$111,243
|
$147,412,559
|
$(150,129,933)
|
$(2,525,873)
|
Share-based
compensation, net of restricted stock cancellations
|
—
|
—
|
275,695
|
2,757
|
700,106
|
—
|
702,863
|
Exercise of stock
options
|
—
|
—
|
2,246
|
23
|
(23)
|
—
|
—
|
Settlement
of account payable
|
—
|
—
|
57,121
|
571
|
93,079
|
—
|
93,650
|
Payment of interest
|
—
|
—
|
101,357
|
1,014
|
130,614
|
—
|
131,628
|
Payment
of investor relations
|
—
|
—
|
75,000
|
750
|
78,500
|
—
|
79,250
|
Net
loss
|
—
|
—
|
—
|
—
|
—
|
(4,767,905)
|
(4,767,905)
|
Balance at September 30, 2016
|
8,025,793
|
$80,258
|
11,635,915
|
$116,358
|
$148,414,835
|
$(154,897,838)
|
$(6,286,387)
|
See accompanying notes to the condensed consolidated
financial statements.
ECHO
THERAPEUTICS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
|
For the Nine Months Ended September 30,
|
|
|
|
Cash Flows From Operating Activities:
|
|
|
Net
loss
|
$(4,767,905)
|
$(20,921,732)
|
Adjustments
to reconcile net loss to net cash used in operating
activities:
|
|
|
Depreciation
and amortization
|
85,090
|
487,491
|
Amortization
of debt discount
|
1,830,012
|
—
|
Share-based
compensation, net
|
702,863
|
798,250
|
Loss
on early extinguishment of bridge loans
|
2,143,960
|
—
|
(Gain) loss on revaluation of derivative
liabilities
|
(4,437,776)
|
61,845
|
Warrant
repricing charged to legal expense
|
—
|
328,000
|
(Gain) Loss on disposal of
assets
|
(4,000)
|
278,816
|
Impairment
charge
|
—
|
9,625,000
|
Financing
loss
|
—
|
4,620,000
|
Changes
in assets and liabilities:
|
|
|
Prepaid
and other
|
15,318
|
(4,853)
|
Accounts
payable
|
(152,154)
|
395,973
|
Accrued
and other
|
417,156
|
(100,836)
|
Net
cash used in operating activities
|
(4,167,436)
|
(4,432,046)
|
Cash Flows from Investing Activities:
|
|
|
Purchase
of property and equipment
|
(6,354)
|
(55,836)
|
Decrease
in restricted cash
|
18,869
|
(183,938)
|
Capitalization
of software development costs
|
(267,811)
|
—
|
Proceeds
on disposal of property and equipment
|
4,000
|
126,082
|
Net
cash used in investing activities
|
(251,296)
|
(113,692)
|
Cash Flows From Financing Activities:
|
|
|
Proceeds
from secured convertible notes, net of related
costs
|
2,512,609
|
—
|
Proceeds
from bridge loans
|
2,000,000
|
—
|
Proceeds
from equity financing
|
—
|
3,181,500
|
Proceeds
from premium financing
|
199,671
|
272,622
|
Principal
payments from premium financing
|
(177,033)
|
(243,420)
|
Capital
contribution
|
—
|
59,325
|
Net
cash provided by financing activities
|
4,535,247
|
3,270,027
|
Net increase in cash and cash
equivalents
|
116,515
|
(1,275,711)
|
Cash and cash equivalents:
|
|
|
Beginning
of period
|
56,210
|
1,278,941
|
End
of period
|
$172,725
|
$3,230
|
Supplemental disclosure of cash flow information:
|
|
|
Cash
paid during the year:
|
|
|
Interest
|
$15,709
|
$5,043
|
Income
taxes
|
$2,761
|
$—
|
Supplemental disclosure of non-cash financing
transactions:
|
|
|
Deemed
dividend on beneficial conversion feature of convertible preferred
stock
|
$6,460,818
|
$—
|
Directors
fees payable offset against prepaid insurance
|
$—
|
$272,200
|
Security
deposit offset against accounts payable
|
$—
|
$9,740
|
Accrued
legal fees settled with stock
|
$—
|
$550,000
|
Accrued
interest settled with stock
|
$131,628
|
$—
|
Account payable settled with
stock
|
$172,900
|
$—
|
Bridge
loans exchanged for secured convertible notes
|
$2,080,000
|
$—
|
Derivatives
offset against secured convertible notes
|
$5,321,470
|
$—
|
Conversion
of convertible preferred stock into common stock at par
value
|
$—
|
$15,000
|
Subscriptions
receivable for Series F Preferred Stock
|
$—
|
$300,000
|
See accompanying notes to the condensed consolidated financial
statements.
Echo Therapeutics, Inc.
Notes to Condensed Consolidated
Financial Statements
(Unaudited)
(1)
ORGANIZATION AND BASIS OF PRESENTATION
Echo
Therapeutics, Inc. (the "Company") is a medical device company with
expertise in advanced skin permeation technology. The Company is
developing its non-invasive, wireless continuous glucose monitoring
(CGM) system with potential use in the outpatient diabetes market.
A significant opportunity may also exist in the wearable-health
consumer market and in the hospital setting. Echo has also
developed its needle-free skin preparation device as a platform
technology that allows for enhanced skin permeation enabling
extraction of analytes, such as glucose, enhanced delivery of
topical pharmaceuticals and other applications.
The
accompanying unaudited condensed consolidated financial statements
include the accounts of the Company and its wholly-owned
subsidiary, Sontra Medical, Inc., a Delaware corporation. All
significant intercompany balances and transactions have been
eliminated in consolidation. These financial statements have been
prepared in conformity with generally accepted accounting
principles (“GAAP”) in the United States consistent
with those applied in, and should be read in conjunction with, the
Company’s audited consolidated financial statements and
related footnotes for the year ended December 31, 2015 included in
the Company’s Annual Report on Form 10-K as filed with the
United States Securities and Exchange Commission
(“SEC”) on March 30, 2016. These financial statements
reflect all adjustments, consisting only of normal recurring
adjustments, which are, in the opinion of management, necessary for
a fair presentation of the Company’s financial position as of
September 30, 2016 and its results of operations and cash flows for
the interim periods presented and are not necessarily indicative of
results for subsequent interim periods or for the full year. These
interim financial statements do not include all of the information
and footnotes required by GAAP for complete financial statements as
allowed by the relevant SEC rules and regulations; however, the
Company believes that its disclosures are adequate to ensure that
the information presented is not misleading. Certain amounts in
prior periods have been reclassified to conform to the current
presentation.
(2)
LIQUIDITY AND MANAGEMENT’S PLANS
The
accompanying financial statements have been prepared on a basis
that assumes that the Company will continue as a going concern and
that contemplates the continuity of operations, the realization of
assets and the satisfaction of liabilities and commitments in the
normal course of business. As of September 30, 2016, the Company
had cash of $172,725, working capital deficit of
($6,865,405) and an
accumulated deficit of ($154,897,838). The Company continues to
incur recurring losses from operations. The Company’s losses
have resulted principally from costs incurred in connection with
its research and development activities and from general and
administrative costs associated with its operations. The Company
also expects to have negative cash flows for the foreseeable future
as it funds its operational losses and capital expenditures. This
will result in decreases in the Company’s working capital,
total assets and stockholders’ equity, which may not be
offset by future funding. The Company will need to secure
additional capital to fund its product development, research,
manufacturing and clinical programs in accordance with its current
planned operations. The Company has funded its operations in the
past primarily through debt and equity issuances. Management will
continue to pursue financing to fund its operations. No assurances
can be given that additional capital will be available on terms
acceptable to the Company. The accompanying financial statements do
not include any adjustments that might result from the outcome of
the uncertainty.
(3) PROPERTY AND EQUIPMENT
The
principal categories and estimated useful lives of property and
equipment were:
|
|
|
|
Computer
equipment
|
$335,298
|
$332,764
|
3
|
Office
and laboratory equipment
|
603,226
|
628,726
|
3-5
|
Furniture
and fixtures
|
228,099
|
228,099
|
7
|
Manufacturing
equipment
|
65,819
|
61,998
|
5
|
Leasehold
improvements
|
41,968
|
41,968
|
3-7
|
Total
property and equipment
|
1,274,410
|
1,293,555
|
|
Less accumulated depreciation and
amortization
|
1,085,474
|
1,025,884
|
|
Property
and equipment, net
|
$188,936
|
$267,671
|
|
(4) CAPITALIZED SOFTWARE DEVELOPMENT COSTS
Software
development costs associated with the planning and designing phase
of software development, including coding and testing activities
necessary to establish technological feasibility, are expensed as
incurred. Once technological feasibility has been determined, a
portion of the costs incurred in development, including coding,
testing, and quality assurance, are capitalized. $25,170 and
$267,811 of costs associated with the application programming of
the Company’s smartphone application for its CGM were
capitalized in the quarter and nine months ended September 30,
2016, respectively.
(5) FINANCING TRANSACTIONS
On
January 29, 2016, the Company entered into a securities purchase
agreement (the “Purchase Agreement”) with certain
institutional and other accredited investors (the
“Investors”) pursuant to which the Company agreed to
issue up to $5,148,620 principal amount of 10% senior secured
convertible notes of the Company (the “Notes”) and
related common stock purchase warrants (the “Warrants”)
in two tranches. The Notes are secured by substantially
all of the assets of the Company pursuant to a Security Agreement,
dated January 29, 2016 (the “Security
Agreement”). The initial closing of $1,787,000 occurred
on January 29, 2016. The second tranche of the
financing, or $3,361,620, was subject to the Company obtaining
shareholder approval which occurred on April 14, 2016. The Notes
and Warrants are subject to customary antidilution
provisions. With stockholder approval, the conversion price
for the Notes is subject to a reset to eighty percent (80%) of
the average of the ten lowest closing prices of the Common Stock
less than $1.50 , subject to equitable adjustment, if any, as
reported by Bloomberg LP for the principal market on which the
Common Stock then trades during the ninety (90) days following the
first effective date of a registration statement filed pursuant to
the Registration Rights Agreement, but in no event less than $.80,
subject to equitable adjustment. For the first closing, bridge
notes in the principal amount of $680,000 were surrendered to the
Company as payment by certain Investors. This was inclusive of
$330,000 of bridge notes outstanding at December 31, 2015 and a
$350,000 of promissory notes received at various dates in January
2016 from Beijing Yi Tang Bio Science & Technology, Ltd. (BYT).
The Company recorded a loss on early extinguishment of these bridge
loans of $415,725, representing the excess value of the
consideration consisting of the $680,000 secured convertible note,
and a proportional amount of the Warrants totaling $320,761 and the
embedded conversion feature of the Notes totaling $94,964,
exchanged for certain bridge loans to cancel them. Fees aggregating
$368,080 were paid to the placement agent and others. The Notes
issued in the first closing are initially convertible into
1,191,333 shares of common stock, par value $.01 per share, of the
Company (the “Common Stock”), at $1.50 per share. In
connection with the initial closing, the Company issued five-year
Class A warrants to purchase 1,274,280 shares of Common Stock,
inclusive of Class A warrants to purchase 82,947 share of Common
Stock issued to the placement agent, at an exercise price of $1.50
per share, which are not exercisable for six months. These
Warrants, whose exercise price is subject to adjustments should the
Company consummate a future financing at a price less than $1.50,
are considered a derivative. The initial value of these derivative
warrants was $901,631 which was determined utilizing a Monte Carlo
Binomial Model. The assumptions utilized for these derivative
warrants, as well as embedded conversion feature, described
hereafter, are disclosed in Note 10. Additionally the Notes contain
an embedded conversion feature which adjusts the conversion price
should the Company have a price reset during the ninety days after
April 29, 2016 (the effective date of the Company’s
registration) or consummate a future financing at a price less than
$1.50, and is also considered a derivative. A price reset to $0.91
occurred on July 29, 2016 as is further described below. The
initial value of the embedded conversion feature within the Notes
was $249,559 which was also determined utilizing a Monte Carlo
Binomial Model.
On February 4, 2016,
the Company issued a promissory note to BYT in the aggregate
principal amount of $300,000 in respect of a bridge loan made by
such party. On February 11, 2016, the Company issued a
promissory note to Platinum Partners Value Arbitrage Fund L.P.
(“PPVA”) in the aggregate principal amount of $100,000
in respect of a bridge loan made by such party. On March
21, 2016, the Company issued a promissory note to PPVA in the
aggregate principal amount of $150,000 in respect of a bridge loan
made by such party. On April 4, 2016, the Company issued
a promissory note to PPVA in the aggregate principal amount of
$350,000 in respect of a bridge loan made by such
party. On April 18, 2016, the Company issued a
promissory note to PPVA in the aggregate principal amount of
$450,000 in respect of a bridge loan made by such party. On
April 29, 2016, the Company issued a promissory note to BYT in the
aggregate principal amount of $50,000 in respect of a bridge loan
made by such party. These promissory notes, aggregating
$1,400,000, which bore interest at the prime rate (or 3.5%), were
exchanged for the May 3, 2016 second
tranche financing of the Notes described below.
On April 14, 2016, the
Company held a Special Meeting of Stockholders. Of the 11,124,496
shares of common stock outstanding and entitled to vote, 6,197,024
shares, or 56%, were represented at the meeting in person or by
proxy. The stockholders
approved the issuance by the Company of shares of its Common Stock
pursuant to and in accordance with the terms of the private
placement financing transaction contemplated by the Securities
Purchase Agreement, dated January 29, 2016, by and among the
Company and the investors named therein, and the other documents
and agreements related thereto, and the other transactions
contemplated thereby, including the amendment to Company's
Certificate of Designations governing the terms of its Series F
Convertible Preferred Stock as described therein, for purposes of
complying with applicable Delaware law and NASDAQ Listing Rule
5635(d), as disclosed in the Company’s proxy
statement.
On May
3, 2016, the Company closed the second tranche of the Note
financing and issued Notes in an aggregate principal amount of
$3,361,620, inclusive of $3,620 of interest due on bridge loans. In
exchange for the Notes, the Company received $1,188,000 in gross
cash proceeds, a note receivable, payable in 30 days and bearing
interest at 12%, of $770,000, from BYT, and $1,400,000 of bridge
notes were cancelled. The Company recorded a loss on early
extinguishment of these bridge loans of $1,728,235, representing
the excess value of the consideration consisting of the $1,400,000
secured convertible note, and a proportional amount of the Warrants
totaling $510,348 and the embedded conversion feature of the Notes
totaling $1,217,887, exchanged for certain bridge loans to cancel
them. The Company incurred placement, legal and other fees
aggregating $184,311 which were deducted from the gross cash
proceeds. Additionally, the placement agent received Class B
warrants, with a 1½ year term, to purchase 37,520 shares of
the Company’s Common Stock at $1.50 per share. The Notes are
initially convertible into 2,241,075 shares of Common Stock at
$1.50 per share. The Company also issued Class B warrants, with a
1½ year term, to purchase 2,241,075 shares of Common Stock at
$1.50 per share. The Company may call the Class B Warrants in the
event that Company’s Common Stock is trading at 200% above
the strike price for 10 consecutive trading days (at $100,000 value
traded per day) if the Warrant is saleable into the public markets,
provided that the holder will have the option of ten trading days
to exercise. These Warrants, whose exercise price is subject to
adjustments should the Company do a future financing at a price
less than $1.50, are considered a derivative. The initial value of
these derivative warrants was $1,245,943 which was determined
utilizing a Monte Carlo Binomial Model. The assumptions utilized
for these derivative warrants, as well as embedded conversion
feature, described hereafter, are disclosed in Note 10.
Additionally the Notes contain an embedded conversion feature which
adjusts the conversion price should the Company have a price reset
during the ninety days after April 29, 2016 (the effective date of
the Company’s registration) or consummate a future financing
at a price less than $1.50, and is also considered a derivative. A
price reset to $0.91 occurred on July 29, 2016 as is further
described below. The initial value of the embedded conversion
feature within the Notes was $2,924,337 which was also determined
utilizing a Monte Carlo Binomial Model.
In
connection with the Note closing, the Certificate of Amendment to
the Certificate of Designations of the Company’s Series F
Convertible Preferred Stock was filed which provides the holders of
5,276,180 shares of the Company’s Series F Convertible
Preferred Stock the same reset rights afforded the Note holders.
This modification to the Series F provided them with a beneficial
conversion feature. As a result of this change, the Company
recorded a deemed dividend of $6,460,818.
Effective as of July 29, 2016, notice was given
that the Conversion Price of the Notes issued to the note holders
pursuant to the Securities Purchase Agreement, dated January 29,
2016 (the “Purchase Agreement”), between Echo
Therapeutics, Inc. and the purchasers, had been reset from $1.50
per share to $0.91 per share. Additionally and also effective as of
the same date, notice was given that, pursuant to Section
5(c)(v) of the Certification of Designation, Preferences and Rights
of the Series F Convertible Preferred Stock of Echo Therapeutics,
Inc. (the “Series F Designation”), the Conversion Ratio
has been reset from 1:1 to 1:1.65. These resets were based on an amount equal to 80%
of the average of the ten lowest closing prices of the Common Stock
less than $1.50 per share during the ninety day period immediately
following the effectiveness of the Registration Statement, as
contemplated by Section 4(b) of the Notes. This price reset
resulted in the Series F Convertible Preferred Stockholders
receiving the right to 3,429,517 additional common shares upon
conversion.
The
Purchase Agreement for the above described Note financing contains
customary representations, warranties and affirmative and negative
covenants. The Purchase Agreement also requires
management and certain shareholders to lock-up certain of their
shares for the earlier of six months after the effective date of a
registration statement, the first anniversary of the initial
closing (January 29, 2017), or the date, if applicable, such holder
of securities is no longer an officer or directors of the Company,
subject to certain exceptions. In addition, for up to
one year following the effective date of a registration statement,
the Investors have the right to participate, on a pro rata basis,
in certain subsequent financings by the Company, subject to certain
limitations. In connection with the transaction, the Company
entered into a registration rights agreement (the
“Registration Rights Agreement”) that requires the
Company to file one or more registration statements in respect of
the shares of Common Stock underlying the Notes and
Warrants. If the Company fails to make its filing deadlines or
fails to maintain the registration statement for required periods
of time, the Company will be subject to certain liquidated damages
provisions. Newbridge Securities Corporation/Life Tech Capital (the
“Placement Agent”) acted as the sole placement agent
for the financing.
The
Company may redeem the Notes at par when the Company stock price
remains above $5.00 for ten consecutive days, or alternatively, at
125% of principal below $5.00. Interest is payable quarterly or,
subject to receipt of stockholder approval, at the Company’s
option, in shares of Common Stock.
The
assumptions utilized for the embedded conversion feature valuation,
which reflect the initial valuation at January 29th, May 3rd and subsequent
valuation at September 30, 2016, were as follows:
Risk-free interest
rate
%
|
0.34
– 0.48
|
Expected dividend
yield
|
—
|
Expected term -
years (contractual
term)
|
0.33
– 0.59
|
Forfeiture
rate
|
—
|
Expected volatility
%
|
112
|
Timing of
down-round triggering event
|
October
2016
|
Follows
is a summary of the Notes and related discounts and the Loss on the
early extinguishment of bridge loans:
|
|
Loss
on Early
Extinguishment
of Bridge Loans
|
Secured
Convertible
Notes,
net
|
Cash and other
proceeds received from financing
|
—
|
—
|
$5,148,620
|
Warrants
|
$2,147,574
|
(831,109)
|
(1,316,465)
|
Embedded conversion feature in notes
|
$3,173,896
|
(1,312,851)
|
(1,861,045)
|
Financing costs
|
—
|
—
|
(552,391)
|
Amortization of debt discount
|
—
|
—
|
1,830,012
|
Totals,
net
|
$5,321,470
|
$(2,143,960)
|
$3,248,731
|
On
September 23, 2016, the Company issued a promissory note to Network
Victory Limited (“NVL”) in the aggregate principal
amount of $250,000 in respect of a bridge loan made by such party.
The promissory note, which bears interest at 18% per annum, may, at
NVL’s option, be exchanged for securities issued in a
subsequent financing by the Company.
(6) DERIVATIVE LIABILITIES
As a
result of having warrants which are outstanding, issued in
connection with a 2012 Credit Facility (which was terminated in
October 2014), the Company is required to record the changes in the
value of these derivative warrants through their expirations in
November 2017. Additionally as indicated in Note 5 above, Notes and
Warrants issued in connection with the Company’s January and
May 2016 secured convertible note financing, included certain
price/conversion features, which require them to be accounted for
as derivatives.
The
table below presents the changes in the derivative liability, which
is measured at fair value on a recurring basis and classified as
Level 3 in fair value hierarchy:
|
|
|
Derivative
liabilities as of January 1
|
$127,000
|
$208,155
|
Secured convertible
note derivatives:
|
|
|
Warrants
|
2,147,574
|
—
|
Embedded conversion feature in Notes
|
3,173,896
|
—
|
Loss (gain) on
revaluation
|
(4,437,776)
|
(81,155)
|
Derivative
liabilities as of end of period
|
$1,010,694
|
$127,000
|
None of
the derivative warrants were exercised in 2016 or 2015 pursuant to
cashless exercise provisions.
(7) NET LOSS PER SHARE
For the
three months ended September 30, 2016 dilutive EPS includes
5,657,824 incremental shares attributable to the assumed conversion
of the January 29, 2016 and May 3, 2016 secured convertible notes
and an adjustment of $2,720,727 in net loss for the change in fair
value of the related conversion option for such period. No
such incremental shares were noted for the nine month period as the
calculation is anti-dilutive.
(8) EQUITY COMPENSATION PLANS
In
March 2003, the Company’s shareholders approved its 2003
Stock Option and Incentive Plan (the “2003 Plan”).
Pursuant to the 2003 Plan, the Company’s Board of Directors
(or its committees and/or executive officers delegated by the Board
of Directors) may grant incentive and nonqualified stock options,
restricted stock, and other stock-based awards to the
Company’s employees, officers, directors, consultants and
advisors. As of September 30, 2016, there were 5,000 restricted
shares of Common Stock issued and options to purchase an aggregate
of 26,500 shares of Common Stock outstanding under the 2003 Plan
and no shares are available for future grants due to the 2003
Plan’s expiration.
In May
2008, the Company’s shareholders approved the 2008 Equity
Compensation Plan, as amended (the “2008 Plan”). The
2008 Plan provides for grants of incentive stock options to
employees and nonqualified stock options and restricted stock to
employees, consultants and non-employee directors of the Company.
The maximum number of shares available
under the 2008 Plan is 10,000,000 shares. As of September 30, 2016,
there were 288,866 restricted
shares of Common Stock issued and options to purchase
2,403,565 shares of Common Stock
outstanding under the 2008 Plan and 7,284,069 shares
available for future grants.
The following table shows the remaining
shares available for future grants for each plan and outstanding
shares:
|
Equity
Compensation Plans
|
|
|
|
|
|
Shares
Available For Issuance
|
|
|
|
Total reserved for
stock options and restricted stock
|
160,000
|
10,000,000
|
|
Net restricted
stock issued net of cancellations
|
(5,000)
|
(288,866)
|
|
Stock options
granted
|
(154,449)
|
(4,293,693)
|
|
Add back options
cancelled before exercise
|
92,349
|
1,866,628
|
|
Less shares no
longer available due to Plan expiration
|
(92,900)
|
—
|
|
Remaining shares
available for future grants at September 30, 2016
|
—
|
7,284,069
|
|
|
Stock options
granted
|
154,449
|
4,293,693
|
310,000
|
Less: Stock options
cancelled
|
(92,349)
|
(1,866,628)
|
(243,333)
|
Stock options exercised
|
(35,600)
|
(23,500)
|
(66,667)
|
Net shares
outstanding before restricted stock
|
26,500
|
2,403,565
|
—
|
Net restricted
stock issued net of cancellations
|
5,000
|
288,866
|
6,485
|
Outstanding shares
at September 30, 2016
|
31,500
|
2,692,431
|
6,485
|
(9) STOCK OPTIONS
The
fair value of each stock option award is estimated on the date of
grant using the Black-Scholes option pricing model with certain
assumptions noted below. Expected volatilities are based on
historical volatility of the Common Stock using historical periods
consistent with the expected term of the options. The Company uses
historical data, as well as subsequent events occurring prior to
the issuance of the financial statements, to estimate option
exercise and employee termination and forfeitures within the
valuation model. The expected term of stock options granted under
the Company’s stock plans is based on the average of the
contractual term (generally 10 years) and the vesting period
(generally 24 to 42 months). The risk-free rate is based on the
yield of a U.S. Treasury security with a term consistent with the
option.
For
options issued and outstanding during the nine month periods ended
September 30, 2016 and 2015, the Company recorded additional
paid-in capital and non-cash compensation expense of $521,494 and
$756,000, respectively, each net of estimated
forfeitures.
The
assumptions used principally for stock options granted to employees
and members of the Company’s Board of Directors in the nine
months ended September 30, 2016 and 2015 were as
follows:
|
|
|
Risk-free interest
rate %
|
0.18 – 1.07
|
1.46 – 1.90
|
Expected dividend
yield
|
—
|
—
|
Expected term -
years
|
.25 – 4
|
5 – 5.5
|
Forfeiture rate %
(excluding fully vested stock options)
|
2 – 5
|
7.5 - 15
|
Expected volatility
%
|
0.94 – 1.28
|
0.92 – 0.93
|
A
summary of stock option activity for the nine months ended
September 30, 2016 is as follows:
Stock
Options
|
|
Weighted-
Average
Exercise
Price
|
Weighted-
Average
Remaining
Contractual
Term
(years)
|
Aggregate
Intrinsic
Value
|
Outstanding options
at January 1, 2016
|
1,667,233
|
$2.01
|
|
|
Granted
|
1,222,810
|
$1.28
|
|
|
Exercised
|
(10,500)
|
$1.19
|
|
|
Forfeited or
expired
|
(449,478)
|
$2.47
|
|
|
Outstanding options
at September 30, 2016
|
2,430,065
|
$1.56
|
8.63
|
$—
|
Exercisable options
at September 30, 2016
|
1,622,072
|
$1.59
|
8.48
|
$—
|
The
weighted-average grant-date fair value of stock options granted for
the nine months period ended September 30, 2016 was $1.28 per
share. As of September 30, 2016, there was $435,072 of total
unrecognized compensation expense related to non-vested share-based
option compensation arrangements. With the exception of the
unrecognized share-based compensation related to certain restricted
stock grants to officers and employees that contain performance
conditions related to FDA approval for the Company’s CGM
system or the sale of substantially all of the stock or assets of
the Company, unrecognized compensation is expected to be recognized
over the next four years.
(10) RESTRICTED STOCK
For
restricted stock issued and outstanding during the nine months
ended September 30, 2016 and 2015, the Company incurred non-cash
compensation expense of $181,369 and $42,000, respectively, each
net of estimated forfeitures.
During
the nine months ended September 30, 2016, the Company granted
280,000 restricted shares of Common Stock to its officers and Vice
President of Operations and Product Development of the Company, in
connection with their respective salary deferrals.
A
summary of non-vested restricted stock activity for the nine months
ended September 30, 2016 is as follows:
Restricted
Stock
|
|
Weighted-
Average
Grant-Date
Fair
Value
|
Non-vested shares
at January 1, 2016
|
27,842
|
$13.06
|
Granted
|
280,000
|
$1.13
|
Vested
|
(2,020)
|
$8.68
|
Forfeited
|
(5,471)
|
$7.67
|
Non-vested shares
at September 30, 2016
|
300,351
|
$2.07
|
Among
the 300,351 shares of non-vested restricted stock, the various
vesting criteria include the following:
●
14,185
shares of restricted stock vest upon the FDA approval of the
Company’s CGM system or the sale of the Company;
and
●
6,166
shares of restricted stock vest over 4 years, at each of the
anniversary dates of the grants, and
●
130,000
shares of restricted stock vest 18 months from the date of
issuance, and
●
150,000
shares of restricted stock vest quarterly after the company
receives debt/equity financing of at least $1 million
As of
September 30, 2016, there was $438,429 of total unrecognized
compensation expense related to non-vested share-based restricted
stock arrangements granted pursuant to the Company’s equity
compensation plans that vest over time in the foreseeable future.
As of September 30, 2016, the Company cannot estimate the timing of
completion of performance vesting requirements required by certain
of these restricted stock grant arrangements. Compensation expense
related to these restricted share grants will be recognized when
the Company concludes that achievement of the performance vesting
conditions is probable.
(11)
WARRANTS
In
the nine months ended September 30, 2016, the Company issued
warrants to purchase 3,552,875 shares of the Company’s common
stock in connection with its Note financing. See Note
5.
A
summary of warrant activity for the nine months ended September 30,
2016 is as follows:
Warrants
|
|
Weighted-
Average
Exercise
Price
|
Outstanding warrants at January 1,
2016
|
4,530,428
|
$3.68
|
Granted
|
3,552,875
|
$1.50
|
Forfeited
|
—
|
$—
|
Outstanding warrants at September 30,
2016
|
8,083,303
|
$2.72
|
At
September 30, 2016, the Company had the following outstanding
warrants:
Type of Warrant/
Range of
Exercise Prices
|
|
|
Weighted-Average Remaining
Contractual Life (years)
|
Weighted- Average Exercise Price
|
|
Derivative:
|
|
|
|
|
|
|
|
$1.50
|
7/29/21
|
1,274,280
|
4.83
|
$1.50
|
1,274,280
|
|
$1.50
|
5/3/18
|
2,278,595
|
1.59
|
$1.50
|
2,278,595
|
|
$7.50
|
8/31/17
to 11/6/17
|
700,000
|
0.97
|
$7.50
|
700,000
|
Equity:
|
|
|
|
|
|
|
|
$2.75 - $3.00
|
12/10/18
to 10//30/20
|
3,830,428
|
3.44
|
$2.98
|
3,830,428
|
Total outstanding
|
|
|
8,083,303
|
|
|
8,083,303
|
The
Company uses valuation methods and assumptions that consider among
other factors the fair value of the underlying stock, risk-free
interest rate, volatility, expected life and dividend rates in
estimating fair value for the warrants considered to be derivative
instruments.
The
following assumptions were utilized by the Company:
By
expiration:
|
|
|
|
Risk-free interest rate
%
|
1.03
|
0.56
|
0.73
|
Expected
dividend yield
|
—
|
—
|
—
|
Expected term - years (contractual
term)
|
5.15
|
1.87
|
1.17 - 1.35
|
Forfeiture
rate
|
—
|
—
|
—
|
Expected volatility %
|
103
|
103
|
84.95
|
Timing
of down-round triggering event
|
|
|
N/A
|
Expected
volatilities are based on historical volatility of the Common Stock
using historical periods consistent with the expected term of the
warrant. The risk-free rate is based on the yield of a U.S.
Treasury security with a term consistent with the
warrant.
(12)
LITIGATION & OTHER SIGNIFICANT MATTERS
From
time to time, the Company is subject to legal proceedings, claims,
investigations, and proceedings in the ordinary course of business.
In accordance with generally accepted accounting principles, the
Company makes a provision for a liability when it is both probable
that a liability has been incurred and the amount of the loss or
range of loss can be reasonably estimated. These provisions, if
any, are reviewed at least quarterly and adjusted to reflect the
impacts of negotiations, settlements, rulings, advice of legal
counsel, and other information and events pertaining to a
particular case. Litigation is inherently unpredictable. At
September 30, 2016, no litigation loss is deemed probable or
reasonably estimated.
On
September 23, 2016, Scott W. Hollander, President and Chief
Executive Officer and a director of the Company, and the Company
entered into a separation agreement (the “Separation
Agreement”) pursuant to which the parties mutually agreed to
Mr. Hollander’s separation from the Company, effective
September 23, 2016 (the “Separation Date”). Under the
Separation Agreement, Mr. Hollander will receive: (i) severance pay
equal to the gross amount of $420,000 (the “Severance
Amount”), less applicable federal, state and local
withholding and taxes, payable in monthly amounts of $17,500
commencing on October 15, 2016, subject to increase to $25,000 per
month if the Company shall consummate a debt or equity financing as
described in Section 3(a)(ii) of the Severance Agreement, until the
Severance Amount is fully paid; (ii) 150,000 shares of restricted
stock previously awarded in March 2016 pursuant to a restricted
stock agreement shall vest in quarterly installments of 37,500
shares; (iii) accelerated vesting of all unvested stock options
previously awarded to him in December 2014 and March 2016 with
three (3) months from the Separation Date to exercise such options;
and (iv) reimbursement of COBRA payments for up to eighteen (18)
months.
(13)
SUBSEQUENT EVENTS
On
October 19, 2016, the Company issued a promissory note to Network
Victory Limited in the aggregate principal amount of $125,000 in
respect of a bridge loan made by such party. The promissory note,
which bears interest at 18% per annum, may, at NVL’s option,
be exchanged for securities issued in a subsequent financing by the
Company.
On
October 28, 2016, the Company issued stock options to its employees
and a certain consultant aggregating 131,155 shares to purchase our
common stock at $0.45 per share. These options vest in one
year.
ITEM
2. MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS
OFOPERATIONS.
The following discussion of our financial
condition and results of
operations should be read in conjunction with the financial
statements and the related notes
thereto included in the Company’s Annual Report on Form
10-K for the year ended
December 31, 2015 and elsewhere in this report. The
matters discussed herein contain
forward-looking statements within the meaning of Section 21E of the Securities Exchange Act
of 1934, as amended (the “Exchange Act”), and Section 27A
of the Securities Act of 1933, as amended, which involve risks and uncertainties.
This Annual Report
on Form 10-K contains forward-looking statements within the meaning
of Section 21E of the Securities Exchange Act of 1934, as amended
(the “Exchange Act”), and Section 27A of the Securities
Act of 1933, as amended, which involve risks and uncertainties. All
statements other than statements of historical information provided
herein may be deemed to be forward-looking statements. Without
limiting the foregoing, the words “believes,”
“anticipates,” “plans,”
“expects” and similar expressions are intended to
identify forward-looking statements. Factors that could cause
actual results to differ materially from those reflected in the
forward-looking statements include, but are not limited to, those
discussed elsewhere in this report and the risks discussed in our
other filings with the Securities and Exchange Commission (the
“SEC”). Readers are cautioned not to place undue
reliance on these forward-looking statements, which reflect
management’s analysis, judgment, belief or expectation only
as of the date hereof. Except as required by law, we undertake no
obligation to publicly revise these forward-looking statements to
reflect events or circumstances that arise after the date
hereof.
Business
We
are a medical device company with expertise in advanced skin
permeation technology. We are developing a non-invasive, wireless
continuous glucose monitoring (CGM) system for initial use in the
outpatient diabetes market and potentially in the wearable-health
consumer market. The transdermal skin preparation component of our
CGM system allows for enhanced skin permeation that will enable
extraction of analytes such as glucose, enhanced delivery of
topical pharmaceuticals and other applications.
Research and Development
We
believe that ongoing research and development
(“R&D”) efforts are essential to our success. A
major portion of our operating expenses to date is related to our
research and development activities. R&D expenses generally
consist of internal salaries and related costs, and third-party
vendor expenses for product design and development. In addition,
R&D costs include regulatory consulting, feasibility product
testing (internal and external) and conducting nonclinical and
clinical studies. R&D expenses were $1,943,287 for the nine
months ended September 30, 2016. We intend to maintain our
commitment to R&D as an essential component of our product
development efforts. Our ability to raise sufficient financing may
impact our level of R&D spending and progress towards
milestones.
Critical Accounting Policies and Estimates
Our
consolidated financial statements have been prepared in accordance
with accounting principles generally accepted in the United States
of America. The preparation of these consolidated financial
statements requires Management to make estimates and assumptions
that affect the reported amounts of assets and liabilities and the
disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and
expenses during the reporting period.
On an
ongoing basis, we evaluate our estimates and judgments for all
assets and liabilities, including those related to long-lived asset
impairment, stock-based compensation expense and the fair value of
stock purchase warrants classified as derivative liabilities. We
base our estimates and judgments on historical experience, current
economic and industry conditions and on various other factors that
are believed to be reasonable under the circumstances. This forms
the basis for making judgments about the carrying values of assets
and liabilities that are not readily apparent from other sources.
Actual results may differ from these estimates under different
assumptions or conditions. There have been no changes in our
critical accounting policies and estimates subsequent to those
disclosed in our Annual Report on Form 10-K as filed with the SEC
on March 30, 2016.
We
believe that full consideration has been given to all relevant
circumstances that we may be subject to, and the consolidated
financial statements accurately reflect our best estimate of the
results of operations, financial position and cash flows for the
periods presented.
Results of Operations
Comparison of the Three and Nine Months ended September 30, 2016
and 2015
Net income (loss) — As a result
of the factors described below, we had a net income (loss) of
$(4,767,805) and $794,171 for the nine and three months ended 2016,
respectively, compared to $(20,921,732) and $(1,775,422) for the
nine and three months ended 2015, respectively.
Research and Development Expenses
— R&D expenses increased by
$29,556, or 5%, to $588,551 for the three months ended 2016 from
$558,995 for the same period in 2015. R&D expenses represented
29% and 38% of total operating expenses during the three months
ended 2016 and 2015, respectively. The increase in R&D expenses
for the quarter was primarily attributable to an increase in rent
expense of approximately $86,000, offset by a decline in wages and
outside consultant costs of $23,000 as well as a decline in
contracted services of $31,000. We incurred some unplanned turnover
in our staffing during the quarter exemplary of a better economic
climate.
R&D
expenses decreased by $84,609, or 4%, to $1,943,287 for the nine
months ended 2016 from $2,027,896 for the same period in 2015.
R&D expenses represented 38% and 31%, of total operating
expenses (excluding the impairment charge in 2015) during the nine
months ended 2016 and 2015, respectively. The decrease in R&D
expenses for the nine months was primarily attributable to lower
facility costs of approximately $79,000.
We relocated our research facilities in July 2015
to less costly and more efficient space. Since we successfully
terminated our lease in Franklin, Massachusetts early in 2015 we
wrote off a large deferred credit for the difference between the
actual rent charge and the straight line amortized amount which we
were carrying on our balance sheet. This resulted in a rent credit
in the third quarter of 2015 lowering our quarterly 2015 rent
expense. R&D expenses for the quarter and nine months
2016 were additionally impacted by $25,170 and $267,811,
respectively, of capitalized software development costs, consisting
of contracted services, related to a smartphone API used with our
CGM.
During
the third quarter of 2016, the Research and Development team split
its focus between supporting our Chinese partner, Medical
Technologies Innovation Asia, Ltd. (MTIA) with respect to our older
CGM product, and continuing to develop and test the NextGen CGM
system.
In
order to improve clinical performance of the older CGM product that
MTIA is testing, the R&D team made a number of specific updates
to the design of the Exfoliator and the Sensor Module. Extensive
clinical testing was done both before the changes were made and
afterwards. MTIA is now transferring these changes into their
production facilities and will be completing the design
verification activities, prior to the initiation of the CFDA
clinical trial.
While
this focus on improving the older generation product has enabled
MTIA to make more forward progress in moving this system forward
towards an anticipated approval in China, the effort resulted in a
delay in the development our NextGen system. Furthermore, a lack of
adequate funding has delayed the critical R&D spending
necessary to complete the design. Once funding has been
re-established a new set of milestones will be
published.
Despite
the focus on the older generation and the funding issues, the
R&D team continued to make progress in the development and
testing of the NextGen system. The team began testing its sensor
with a hydrogel that is kept wet until time of use.
Rigorous
testing of each component independently and as an integrated system
will continue as the Company optimizes its system in preparation
for future clinical and regulatory trials. With respect to specific
components of the NextGen system, our progress was as follows
during this third quarter:
●
Skin Preparation Device: We continued
hardware and software testing of the NextGen Exfoliator. In
addition, a new design for the abrasive tip has been tested with
excellent results. This new self-exfoliator will be lower cost,
easier to use and fully integrated with the new sensor and Target
Base.
●
Sensor: We continued internal clinical
testing of our NextGen sensor module, using a “wet”
version of the hydrogel. This new module includes a new sensor
element, new hydrogel and a new housing. Echo selected a local
partner to help develop a prototype production process for the most
complicated parts of the NextGen sensor module.
●
Transmitter & software: We
continued to develop new embedded software for use in the reusable
transmitter and continued the integration testing of the hardware
and software elements. The new software is designed to be
compatible with our Android based Application Programming Interface
(API) and software application (APP).
●
Application Programming Interface: We
completed verification testing of the API that will allow Android
programmers to write APPs that use our sensors.
●
CGM APP: We have completed a CGM APP
that will be able to display glucose information from either the
original Echo technology, or the NextGen sensor.
Selling, General and Administrative
Expenses — S,G&A expenses increased by $377,666,
or 46%, to $1,198,328 for the three months ended 2016 from $820,662
for the same period in 2015. S,G&A expenses represented 66% and
56% of total operating expenses during the quarter ended 2016 and
2015, respectively. We saw a net increase in salary and other
benefits of $363,000 in this quarter which was primarily
attributable to severance payable to our chief executive officer of
approximately $462,000. This is also inclusive of share-based
compensation charges for the accelerated vesting of our former
CEO’s 150,000 shares of restricted stock and options to
purchase 500,000 shares of our common stock in accordance with the
terms of his separation agreement.
S,G&A expenses
decreased by $888,030, or 23%, to $2,927,716 for the nine months
ended 2016 from $3,815,746 for the same period in 2015. S,G&A
expenses represented 59% and 58% of total operating expenses
(excluding the impairment charge in 2015) during the nine months
ended 2016 and 2015, respectively. The decline for the 2016 quarter
was attributable to approximate declines in: legal fees of
$804,000, salary and benefits of $130,000, telephone and internet
expenses of $73,000, information technology costs of $51,000,
insurance expense of $70,000, relocation costs of $35,000, rent of
$21,000, and website costs of $10,000. These declines were offset
by an approximate increase in investor relations charges of $87,000
as well as increased costs relative to our former chief
executive’s separation agreement more fully described
above.
In
2015, the Company settled its litigation with the former CEO,
Patrick Mooney, and has not had any significant litigation since,
causing the decrease in legal fees. In 2015, we settled a long
duration contract with an internet vendor that resulted in $40,000
of early termination expenses. In 2015 we relocated both our
Philadelphia and Franklin, MA facilities. During 2016 we reduced
our overall director and officer coverage from the prior year
resulting in lower premium charges. Stock compensation for 2015
included the stock compensation for new board members as well as
recently hired executive staff, which was not present in
2016.
Impairment
Charge — The
Company reviews long-lived assets for impairment whenever events or
changes in circumstances indicate that the asset’s carrying
amount may not be recoverable. The Company conducts its long-lived
asset impairment analyses by grouping assets and liabilities at the
lowest level for which identifiable cash flows are largely
independent of the cash flows of other assets and liabilities and
evaluate the asset group against the sum of the undiscounted future
cash flows. If the undiscounted cash flows do not indicate the
carrying amount of the asset is recoverable, an impairment charge
is measured as the amount by which the carrying amount of the asset
group exceeds its fair value based on discounted cash flow analysis
or appraisals. In connection with the preparation of the financial
statements in the second quarter of fiscal 2015, the Company
concluded it had a triggering event requiring assessment of
impairment for its intangibles in conjunction with an expected
out-licensing strategy that new management had hoped to pursue.
Extremely limited financial resources coupled with the remaining
short patent lives, discussions with previous consultants regarding
their progress with bringing value to the intangibles, a review of
competitive formulations and discussions with new consultants to
explore out-licensing strategies led newly-hired corporate
management to conclude it was best to abandon its initial hope to
garner value from its intangibles. Accordingly, due to this
change in strategy, no monies are now expected to be obtained
relating to the Azone Drug Master File, the Durhalieve and MAZ
Investigational New Drug applications and the MAZ Orphan Drug
application (collectively, the AzoneTS-based technology acquired in
2007) intangibles. As a result, the Company reviewed its
intangibles for impairment and recorded a $9.625
million impairment charge, or the full value of the
intangibles, on the consolidated statement of operations in the
second quarter of 2015.
Loss on disposal of property
and equipment — We recorded a gain for
the quarter and nine months 2016 of $4,000 on the sale of certain
excess fully depreciated equipment. The loss on disposal of $39,382
and $278,816 for the quarter and nine months ended 2015 represented
furniture and fixtures that were sold and the write-off of
leasehold improvements in our Philadelphia office when we relocated
to the Iselin, New Jersey office in January 2015.
Depreciation and amortization expense
— Depreciation expense decreased by $12,246 and $402,401 for
the quarter and nine months ended 2016, to $26,925 and $85,090 from
$39,171 and $487,491 for the same periods in 2015. This decline
reflects the write-off of a substantial amount of leasehold
improvements due to our relocations of our Massachusetts research
facility and Philadelphia corporate office in 2015.
Gain (loss) on revaluation of derivative
liabilities — Changes in the fair value of derivative
financial instruments are recognized each period as a derivative
gain or loss. The primary underlying risk exposure pertaining to
the secured convertible notes, consisting of derivative warrants
and embedded conversion options, and other derivative warrants, is
the change in fair value of the underlying common stock. The gain
(loss) on revaluation of the derivative liabilities for the quarter
ended 2016 and 2015 was $3,675,826 and $(54,000), respectively, and
for the nine months ended 2016 and 2015, $4,437,776 and $(61,845),
respectively.
Financing
gain (loss) — This is a
non-cash charge with two components representing: (i) the excess
value given to investors in 2015, who received shares of Series F
Stock and warrants to purchase the same number of shares of our
common stock, when the closing market price was above the $1.50
purchase price they paid for their shares and warrants. We recorded
a non-cash charge of $3,938,000 related to these investors, and
(ii) the potential excess future value represented by the 333,333
shares and warrants to purchase the same number of shares for the
remaining $500,000 of investment still outstanding under our
December 2014 financing, based on our closing market price at June
30, 2015 of $1.70. We recorded a non-cash charge of $419,000
related to these future investments. For the quarter ended 2015 we
recorded a loss of $263,000 representing the difference between
what we had estimated the value of the derivative transactions
would cost the Company at the end of the first quarter and what
they actually represented during the third
quarter.
Loss on early extinguishment of bridge
loans — We recorded a loss on early extinguishment of
these bridge loans of $2,143,960 for the nine months ended 2016
representing the aggregate excess consideration of the Notes and
warrants exchanged for the bridge loans.
Amortization of debt discount —
$934,794 and $1,830,012 for the quarter and nine months ended 2016
represents the amortization of the various components offsetting
the Notes issued on January 29, 2016 and May 3, 2016 over the one
year respective terms of the Notes. Such amounts consisted of
amortization of debt issuance costs, and values related to the
derivative warrants and embedded conversion features that were not
exchanged, respectively.
Interest Expense — Interest
expense increased to $133,057 and $279,616 for the quarter and nine
months ended 2016 from $212 and $4,938 for similar periods in 2015,
respectively. The increase is primarily related to the 10% interest
on the secured convertible notes payable.
Deemed Dividend on Beneficial Conversion
Feature of Preferred Stock — In connection with the
sale of Secured convertible notes, we agreed to give the holders of
Series F Convertible Preferred Stock the same rights as the holders
of the Notes, i.e., a reset of their conversion price calculated
during the ninety day period post the April 29, 2016 effective
registration. This modification to the conversion rights of the
Series F shares increased the value of the Series F and caused us
to record a deemed dividend of $6,460,818 calculated using a Monte
Carlo Valuation Model.
Liquidity and Capital Resources
We have
financed our operations since inception primarily through sales of
our equity, the issuance of convertible promissory notes, draws
from a non-revolving credit facility, unsecured and secured
promissory notes, non-refundable payments received under license
agreements and cash received in connection with exercises of Common
Stock options and warrants. As of September 30, 2016, we had
$172,725 of cash and cash equivalents, with no other short-term
investments.
Cash Flows for the Nine Months ended September 30,
2016
Net
cash used in operating activities was $4,167,436. The use of cash
in operating activities was primarily attributable to the net loss
of $4,767,905 offset by non-cash expenses of $85,090 for
depreciation and amortization, $1,830,012 for amortization of debt
discount, $702,863 for share-based compensation expense, a loss on
early extinguishment of bridge loans of $2,143,960, a gain on
revaluation of $4,437,776 related to derivative credit facility
warrants as well as derivative warrants and derivative embedded
conversion feature of our secured convertible notes, a gain on the
disposal of fixed assets of $4,000, offset decreases in: prepaid
and other of $15,318, accounts payable of $152,153 and accrued
expenses of approximately $417,156.
Net
cash used in investing activities was $251,296. The Company
suffered a minor charge to its letter of credit due to the landlord
requiring a payment for certain construction related activities
prior to its relocation to the Littleton, MA location. The Company
capitalized software development costs of $267,811, had proceeds
from the sale of assets of $4,000, and the Company purchased
property and equipment of $6,354.
Net
cash provided by financing activities was $4,535,247. We received
$2,512,609 of net proceeds from our secured convertible notes as
well as $2,000,000 from bridge loans received in the period
subsequent to the closing of the January 29, 2016 financing.
We also received $199,671 of insurance premium financing. Principal
payments made on the premium financing used were
$177,033.
On
September 23, 2016, we issued a promissory note to Network Victory
Limited (“NVL”) in the aggregate principal amount of
$250,000 in respect of a bridge loan made by such party. The
promissory note, which bears interest at 18% per annum, may, at
NVL’s option, be exchanged for securities issued in a
subsequent financing by the Company.
On
October 19, 2016, we issued a promissory note to NVL in the
aggregate principal amount of $125,000 in respect of a bridge loan
made by such party. The promissory note, which bears interest at
18% per annum, may, at NVL’s option, be exchanged for
securities issued in a subsequent financing by the
Company.
Effect of Inflation and Changes in Prices
We do
not believe that inflation and changes in prices will have a
material effect on our operations.
ITEM 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK.
Not
applicable.
ITEM 4. CONTROLS AND
PROCEDURES.
Disclosure Controls and Procedures
We
maintain “disclosure controls and procedures,” as such
term is defined in Rule 13a-15(e) under the Securities Exchange Act
of 1934, as amended (the “Exchange Act”). In designing
and evaluating our disclosure controls and procedures, our
management recognized that disclosure controls and procedures, no
matter how well conceived and operated, can provide only
reasonable, not absolute, assurance that the objectives of
disclosure controls and procedures are met. Additionally, in
designing disclosure controls and procedures, our management
necessarily was required to apply its judgment in evaluating the
cost-benefit relationship of possible disclosure controls and
procedures. The design of any disclosure controls and procedures
also is based in part upon certain assumptions about the likelihood
of future events, and there can be no assurance that any design
will succeed in achieving its stated goals under all potential
future conditions.
As
of the end of the period covered by this Quarterly Report on Form
10-Q, we carried out an evaluation, under the supervision and with
the participation of our management, including our Chief Financial
Officer, of the effectiveness of our disclosure controls and
procedures as defined in Rule 13a-15(e) and 15d-15(e) of the
Exchange Act. Based on that evaluation and the material weaknesses
described below, our Chief Financial Officer concluded that our
disclosure controls and procedures were not effective as a result
of the material weaknesses.
Our
Chief Financial Officer concluded that as of September 30, 2016 the
following material weaknesses existed:
(1) We
lacked a sufficient complement of personnel with an appropriate
level of knowledge and experience in the application of U.S.
generally accepted accounting principles, or GAAP, commensurate
with our financial reporting requirements. The monitoring of our
accounting and reporting functions were either not designed and in
place or not operating effectively, and
(2) We
lacked the quantity of resources to implement an appropriate level
of review controls to properly evaluate the completeness and
accuracy of transactions entered into by our Company.
Our
management believes that these weaknesses are due in part to the
small size of our staff and limited funding which makes it
challenging to maintain adequate disclosure controls. To remediate
the material weaknesses in disclosure controls and procedures, we
have sought assistance with complex filing matters beginning in
2016 and continue to take additional steps to improve our financial
reporting systems and implement new policies, procedures and
controls.
Internal Control over Financial Reporting
There
was no change in our internal control over financial reporting (as
defined in Rule 13a-15(f) of the Exchange Act) that occurred during
the fiscal quarter to which this report relates that has materially
affected, or is reasonably likely to materially affect, our
internal control over financial reporting.
PART II—OTHER INFORMATION
The
Exhibits listed in the Exhibit Index immediately preceding such
Exhibits are filed with or incorporated by reference in this
report, except as noted.
Pursuant to the
requirements of the Securities Exchange Act of 1934, the registrant
has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
|
ECHO THERAPEUTICS,
INC.
By:
/s/ Alan W.
Schoenbart
Alan W.
Schoenbart
Chief
Financial Officer
(Principal
Executive Officer)
By:
/s/ Alan W.
Schoenbart
Alan W.
Schoenbart
Chief
Financial Officer
(Principal Financial and Accounting Officer)
|
Exhibit No.
|
Description
|
10.1
|
Promissory Note with Network Victory Limited
dated September 23, 2016 is incorporated by reference to Exhibit 10.1 on the
Company’s Current Report on Form 8-K filed September 23,
2016.
|
10.2
|
Separation Agreement,
dated as of September 23, 2016, between Scott W. Hollander and Echo
Therapeutics, Inc.2016 is incorporated by reference to Exhibit 10.2
on the Company’s Current Report on Form 8-K filed
September 23,
2016.
|
31.1
|
Certification of
the Principal Executive Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
31.2
|
Certification of
the Principal Financial Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
32.1
|
Certification of
the Principal Executive Officer pursuant to 18 U.S.C. Section 1350,
as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
|
32.2
|
Certification of
the Principal Financial Officer pursuant to 18 U.S.C. Section 1350,
as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
|
101
|
The following
materials from the Registrant’s Quarterly Report on Form 10-Q
for the quarter ended September 30, 2016, formatted in XBRL
(Extensible Business Reporting Language), (i) Consolidated Balance
Sheets, (ii) Consolidated Statements of Operations, (iii)
Consolidated Statements of Cash Flows, and (iv) Notes to
Consolidated Financial Statements.
|