NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1.
Business Organization, Nature of Operations and Basis of Presentation
Provectus
Biopharmaceuticals, Inc., a Delaware corporation (together with its subsidiaries, “Provectus” or the “Company”),
is a clinical-stage biotechnology company developing a new class of drugs for oncology and dermatology based on halogenated xanthenes.
Intralesional PV-10 is undergoing clinical study for adult solid tumor cancers, like melanoma and gastrointestinal cancers, and
preclinical study for pediatric cancers. Topical PH-10 is undergoing clinical study for inflammatory dermatoses, like psoriasis
and atopic dermatitis. To date, the Company has not generated any revenues from planned principal operations. The Company’s
activities are subject to significant risks and uncertainties, including failing to successfully develop and license or commercialize
the Company’s prescription drug candidates.
The
accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles
generally accepted in the United States of America (“GAAP”) for interim financial information pursuant to Regulation
S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements
and should be reviewed in conjunction with the Company’s audited consolidated financial statements included in the Company’s
Form 10-K for the year ended December 31, 2017 filed with the U.S. Securities and Exchange Commission (the “SEC”)
on March 23, 2018. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary
for a fair presentation have been included. Operating results for the three and nine months ended September 30, 2018 are not necessarily
indicative of the results that may be expected for the year ending December 31, 2018.
2.
Liquidity and Going Concern
The
Company’s cash and cash equivalents were $231,920 at September 30, 2018, compared with $105,504 at December 31, 2017. The
Company continues to incur significant operating losses. Management expects that significant on-going operating expenditures will
be necessary to successfully implement the Company’s business plan and develop and market its products. These circumstances
raise substantial doubt about the Company’s ability to continue as a going concern within one year after the date that these
financial statements are issued. Implementation of the Company’s plans and its ability to continue as a going concern will
depend upon the Company’s ability to develop PV-10 and PH-10 and to raise additional capital.
The Company plans
to access capital resources through possible public or private equity offerings, including the 2017 Financing (as defined in Note
4), exchange offers, debt financings, corporate collaborations or other means. In addition, the Company continues to explore opportunities
to strategically monetize its lead drug candidates, PV-10 and PH-10, through potential co-development and licensing transactions,
although there can be no assurance that the Company will be successful with such plans. The Company has historically been able
to raise capital through equity offerings, but no assurance can be provided that it will continue to be successful in the future.
If the Company is unable to raise sufficient capital through the 2017 Financing or otherwise, it will not be able to pay its obligations
as they become due. Subsequent to September 30, 2018, the Company received aggregate loans of $100,000 in connection with
the 2017 Financing. See Note 7 – Subsequent Events.
The
primary business objective of management is to build the Company into a fully integrated global biotechnology company. The Company,
however, cannot assure you that it will be successful in co-developing or licensing PV-10, PH-10, or any other halogenated xanthene-based
drug candidate developed by the Company, or entering into any financial transaction. Moreover, even if the Company is successful
in improving its current cash flow position, the Company nonetheless plans to seek additional funds to meet its long-term requirements
in 2018 and beyond. The Company anticipates that these funds will otherwise come from the proceeds of private placement transactions,
including the 2017 Financing, the exercise of existing warrants and outstanding stock options, or public offerings of debt or
equity securities. While the Company believes that it has a reasonable basis for its expectation that it will be able to raise
additional funds, the Company cannot provide assurance that it will be able to complete additional financing in a timely manner.
In addition, any such financing may result in significant dilution to stockholders.
3.
Significant Accounting Policies
The
Company’s significant accounting policies are disclosed in Note 3 – Significant Accounting Policies in the Company’s
Annual Report on Form 10-K for the year ended December 31, 2017. Since the date of the Annual Report, there have been no material
changes to the Company’s significant accounting policies, except as disclosed below.
Recent
Accounting Pronouncements
In
May 2017, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”)
No. 2017-09, “Compensation—Stock Compensation (Topic 718): Scope of Modification Accounting” (“ASU 2017-09”).
ASU 2017-09 provides clarity on the accounting for modifications of stock-based awards. ASU 2017-09 requires adoption on a prospective
basis in the annual and interim periods beginning after December 15, 2017 for share-based payment awards modified on or after
the adoption date. The adoption of this ASU did not have a material impact on the Company’s condensed consolidated financial
statements.
In
March 2018, the FASB issued ASU No. 2018-05, “Income Taxes (Topic 740), Amendments to SEC Paragraphs Pursuant to SEC Staff
Accounting Bulletin No. 118” (“ASU 2018-05”). ASU 2018-05 adds various “SEC” paragraphs pursuant
to the issuance of the December 2017 SEC Staff Accounting Bulletin No. 118, Income Tax Accounting Implications of the Tax Cuts
and Jobs Act (“SAB 118”), which was effective immediately. The SEC issued SAB 118 to address concerns about reporting
entities’ ability to timely comply with the accounting requirements to recognize all of the effects of the Tax Cuts and
Jobs Act in the period of enactment. SAB 118 allows disclosure that timely determination of some or all of the income tax effects
from the Tax Cuts and Jobs Act are incomplete by the due date of the financial statements and if possible to provide a reasonable
estimate. The Company has accounted for the tax effects of the Tax Cuts and Jobs Act under the guidance of SAB 118 and does not
believe that the adoption of ASU 2018-05 will have a material impact on the Company’s condensed consolidated financial statements
or disclosures.
In June 2018, the FASB issued ASU No. 2018-07,
“Compensation — Stock Compensation (Topic 718), Improvements to Nonemployee Share-Based Payment Accounting” (“ASU
2018-07”). ASU 2018-07 is intended to reduce cost and complexity and to improve financial reporting for nonemployee share-based
payments. Currently, the accounting requirements for nonemployee and employee share-based payment transactions are significantly
different. ASU 2018-07 expands the scope of Topic 718, Compensation — Stock Compensation (which currently only includes share-based
payments to employees) to include share-based payments issued to nonemployees for goods or services. Consequently, the accounting
for share-based payments to nonemployees and employees will be substantially aligned. This ASU supersedes Subtopic 505-50, Equity
— Equity-Based Payments to Nonemployees. The amendments in this ASU are effective for public business entities for fiscal
years, and interim periods within those fiscal years, beginning after December 15, 2018. Early adoption is permitted, but no earlier
than a company’s adoption date of Topic 606, Revenue from Contracts with Customers. The Company is currently evaluating ASU
2018-07 and its impact on the Company’s condensed consolidated financial statements.
In July 2018, the FASB issued Accounting Standards
Update No. 2018-10, “Codification Improvements to Topic 842, Leases,” (“ASU 2018-10”). The amendments
in ASU 2018-10 are to address stakeholders’ questions about how to apply certain aspects of the new guidance in ASC 842.
The clarifications address the rate implicit in the lease, impairment of the net investment in the lease, lessee reassessment
of lease classification, lessor reassessment of lease term and purchase options, variable payments that depend on an index or
rate and certain transition adjustments. The amendments in ASC Topic 842 are effective for public business entities for fiscal
years beginning after December 15, 2018, and interim periods within those fiscal years. The Company is currently in the process
of evaluating its lease assets and lease liabilities to be recorded as of January 1, 2019. The Company continues to evaluate
other provisions of the updated guidance and expects to complete its analysis by December 31, 2018.
In July 2018, the FASB issued Accounting Standards
Update No. 2018-11, “Leases (Topic 842): Targeted Improvements,” (“ASU 2018-11”). The amendments in ASU
2018-11 related to transition relief on comparative reporting at adoption affect all entities with lease contracts that choose
the additional transition method and the amendments in ASU 2018-11 related to separating components of a contract affect
only lessors whose lease contracts qualify for the practical expedient. The amendments in ASC Topic 842 are effective for public
business entities for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. The Company
is currently in the process of evaluating its lease assets and lease liabilities to be recorded as of January 1, 2019. The
company continues to evaluate other provisions of the updated guidance and expects to complete its analysis by December 31, 2018.
In
August 2018, the FASB issued Accounting Standards Update No. 2018-13, “Fair Value Measurement (Topic 820): Disclosure Framework—Changes
to the Disclosure Requirements for Fair Value Measurement (“ASU 2018-13”). The amendments in ASU 2018-13 modify the
disclosure requirements on fair value measurements based on the concepts in the Concepts Statement, including the consideration
of costs and benefits. The amendments on changes in unrealized gains and losses, the range and weighted average of significant
unobservable inputs used to develop Level 3 fair value measurements, and the narrative description of measurement uncertainty
should be applied prospectively for only the most recent interim or annual period presented in the initial fiscal year of adoption.
All other amendments should be applied retrospectively to all periods presented upon their effective date. The amendments are
effective for all entities for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years.
Early adoption is permitted, including adoption in an interim period. The Company is currently evaluating ASU 2018-13 and its
impact on its condensed consolidated financial statements.
Reclassifications
Certain
accounts in the prior year’s condensed consolidated financial statements have been reclassified for comparative purposes
to conform to the presentation in the current year’s condensed consolidated financial statements. These reclassifications
have no effect on the previously reported net loss.
4.
Convertible Notes Payable
On
March 23, 2017, the Company entered into an exclusive Definitive Financing Commitment Term Sheet with a group of the Company’s
stockholders (the “PRH Group”), which was amended and restated effective as of March 19, 2017 (the “Term Sheet”)
that set forth the terms on which the PRH Group would use their best efforts to arrange for a financing of a minimum of $10,000,000
and maximum of $20,000,000 (the “2017 Financing”).
The
2017 Financing is in the form of secured convertible loans (the “Loans”) from the PRH Group or other investors in
the 2017 Financing (the “Investors”). The Loans are evidenced by secured convertible promissory notes (individually
a “PRH Note” and collectively, the “PRH Notes”) from the Company to the PRH Group or the investors.
The
principal amounts of the PRH Notes and the interest payable under the Loan would automatically convert into shares of the Company’s
Series D Preferred Stock at a price per share equal to $0.2862 effective on the 18-month anniversary of the funding of the final
tranche of the 2017 Financing subject to certain exceptions if the Company’s Board of Directors (the “Board”)
designates such series of preferred stock in the future.
As
of September 30, 2018, and through the date of filing, the Series D Preferred Stock had not been designated by the Board and,
accordingly, the PRH Notes are not convertible into shares of Series D Preferred Stock. As a result, the Company did not analyze
the Loan for a potential beneficial conversion feature as the definition of a firm commitment has not been met since the PRH Notes
were not convertible as of their respective dates of issuance or as of September 30, 2018.
As
of September 30, 2018, the Company had received aggregate Loans of $13,362,000 in connection with the 2017 Financing from both
non-related and related parties. For further details on the terms of the PRH Notes, refer to the Company’s Annual Report
on Form 10-K for the year ended December 31, 2017 as filed with the SEC on March 23, 2018.
Convertible
Notes Payable – Related Parties
On
February 21, 2017, the Company issued a promissory note in favor of Eric A. Wachter, Ph.D., the Company’s Chief Technology
Officer (“Wachter”), evidencing an unsecured loan from Wachter to the Company in the original principal amount of
up to $2,500,000 (the “Wachter Note”). Interest accrues on the outstanding balance of the Wachter Note at six percent
(6%) per annum calculated on a 360-day basis. As of September 30, 2018, the Company had borrowed the entire $2,500,000
under this note.
On
April 3, 2017, the Company entered into a PRH Note with Cal Enterprises LLC, a Nevada limited liability company, an affiliate
of Dominic Rodrigues, a director of the Company, in the principal amount of up to $2,500,000. As of September 30, 2018, the Company
had borrowed the entire $2,500,000 under this note.
During
the nine months ended September 30, 2018, the Company amended the above notes to modify the maturity date from 24 months to 18
months from the date of the funding of the final tranche of the 2017 Financing, which has yet to occur, in order to be
consistent with the other outstanding PRH Notes. The actual maturity dates will be determined after the completion of the 2017
Financing.
During
the nine months ended September 30, 2018, the Company entered into additional PRH Notes with related parties in the aggregate
principal amount of $1,350,000. As of September 30, 2018, the Company had drawn down the entire $1,350,000 under these notes.
Convertible
Notes Payable – Non-Related Parties
During
the nine months ended September 30, 2018, the Company entered into additional PRH Notes with accredited investors in the aggregate
principal amount of $2,556,000. As of September 30, 2018, the Company had drawn down the entire $2,556,000 under these notes.
Included in these notes is one PRH Note totaling $500,000 with terms of principal and interest due twenty-four (24) months from
date of signing. This note will mature in June 2020.
5.
Stockholders’ Deficiency
Exercise
of Warrants
During
the nine months ended September 30, 2018, warrant holders exercised warrants to purchase an aggregate of 11,539,577 shares of
common stock at a price of $0.0533 per share. In connection with these exercises, the Company received aggregate cash proceeds
of $615,059 and issued 11,539,577 shares of common stock to the warrant holders.
Other
Common Stock Issuances
During
the nine months ended September 30, 2018, the Company issued 1,000,000 shares of common stock in payment of services with a grant
date fair value of $80,000. As the fair market value of the service was not readily determinable, the service was valued based
on the fair market value of the stock at grant date.
6. Commitments, Contingencies and Litigation
Agreement with
Clinical Operations Vendor
On April 18, 2018,
the Company reached a settlement with a former clinical operations vendor whereby the Company received a credit of approximately
$1.7 million to be applied against amounts previously owed by the Company for services rendered. Such credit has been included
as a reduction in research and development expenses on the Company’s condensed consolidated statements of operations.
Culpepper
Travel Expenses and Related Collection Efforts
On December 27, 2016,
the Board unanimously voted to terminate Peter R. Culpepper (“Culpepper”), effective immediately, from
all positions he held with the Company and each of its subsidiaries, including interim Chief Executive Officer and Chief Operating
Officer of the Company, “for cause”, in accordance with the terms of the Amended and Restated Executive Employment
Agreement entered into by Culpepper and the Company on April 28, 2014 (the “Culpepper Employment Agreement”) based
on the results of the investigation conducted by the Audit Committee of the Board regarding improper expense reimbursements to
Culpepper.
The
Audit Committee retained independent counsel and an advisory firm with forensic accounting expertise to assist the Audit Committee
in conducting the investigation. The Audit Committee found that Culpepper received $294,255 in expense reimbursements that were
unsubstantiated or otherwise improper. The Company seeks to recover from Culpepper the entire $294,255 in expense reimbursements,
as well as all attorney’s fees and auditors’/experts’ fees incurred by the Company in connection with the examination
of his expense reimbursements. On December 12, 2017, Culpepper agreed to an order by the SEC to pay disgorgement of $140,115,
and prejudgment interest of $12,261, for a total of $152,376, to the Company within 30 days. The Company received the payment
of $152,376 in January 2018.
The Company took the position that
under the terms of the Culpepper Employment Agreement, Culpepper is owed no severance payments as a result of his termination
“for cause” as that term is defined in the Culpepper Employment Agreement. Furthermore, Culpepper is no longer entitled
to the 2:1 credit under the Stipulated Settlement Agreement and Mutual Release in the Kleba shareholder derivative lawsuit
(the “Derivative Lawsuit Settlement”) such that the total $2,240,000 owed by Culpepper pursuant to the
Derivative Lawsuit Settlement plus Culpepper’s proportionate share of the litigation cost in the amount of $227,750, less
the amount that he repaid as of December 31, 2016, is immediately due and payable. The Company sent Culpepper a notice of default
in January 2017 for the total amount he owes the Company and is in the process of pursuing these claims in accordance with the
alternative dispute resolution provision of the Culpepper Employment Agreement. The Company has established a reserve of $2,051,083
as of September 30, 2018 and December 31, 2017, which amount represents the amount the Company currently believes Culpepper owes
to the Company under the Derivative Lawsuit Settlement (excluding the amount of attorneys’ fees incurred in enforcing the
terms of the Derivative Lawsuit Settlement), while the Company pursues collection of this amount.
Culpepper disputed
that he was terminated “for cause” under the Culpepper Employment Agreement. Pursuant to the alternative dispute
resolution provisions of that agreement, the Company and Culpepper participated in a mediation of their dispute on June 28, 2017.
Having reached no resolution during the mediation, the parties participated in arbitration under the commercial rules of the American
Arbitration Association, arbitrating both Culpepper’s claim for severance against the Company and the Company’s
claims against Culpepper for improper expense reimbursements and amounts Culpepper owes the Company under the Derivative
Lawsuit Settlement (the “Culpepper Arbitration”). The Culpepper Arbitration hearing was held from May 15, 2018 through
May 18, 2018.
On
July 12, 2018, the arbitrator issued an interim award in favor of the Company, the terms of which are confidential pursuant to
the terms of the Culpepper Employment Agreement and instructed the parties that a final award was forthcoming. On September 12,
2018, the arbitrator issued its final award in favor of the Company. On October 4, 2018, the Company filed a petition with the
Chancery Court for Davidson County, Tennessee to confirm the arbitration award. On November 7, 2018, the Company received Culpepper’s
answer to the petition filed on October 4, 2018. The Company is reviewing the response.
The
Bible Harris Smith Lawsuit
On November 17, 2016,
the Company filed a lawsuit in the Circuit Court for Knox County, Tennessee (the “Tennessee Circuit Court”) against
Bible Harris Smith PC (“BHS”) for professional negligence, common law negligence and breach of fiduciary duty arising
from accounting services provided by BHS to the Company. The Company alleges that between 2013 and 2015, H. Craig Dees,
Ph. D (“Dees”), the Company’s former Chairman and Chief Executive Officer, received approximately $2.4
million in advanced or reimbursed travel and entertainment expenses from the Company and that Dees did not submit back-up documentation
in support of substantially all of the advances he received purportedly for future travel and entertainment expenses. The Company
further alleges that had BHS provided competent accounting and tax preparation services, it would have discovered Dees’
failure to submit back-up documentation supporting the advanced travel funds at the inception of Dees’ conduct, and prevented
the misuse of these and future funds. The Company has made a claim for damages against BHS in an amount in excess of $3 million.
The complaint against BHS has been filed and served, an answer has been received, and the parties are in the midst of discovery.
BHS filed a Motion for Summary Judgment, which was denied in full by the Tennessee Circuit Court June 21, 2018. Depositions
for the BHS lawsuit were taken on August 16 and August 17, 2018. The Company and BHS participated in a mediation of their dispute
on October 23, 2018. Having reached no resolution during the mediation, the parties may work towards a resolution. If a
settlement between the parties cannot be reached, the Company will continue with the lawsuit.
T
he
RSM Lawsuit
On
June 9, 2017, the Company filed a lawsuit in the Circuit Court for Mecklenburg County, North Carolina (the “North Carolina
Circuit Court”) against RSM USA LLP (“RSM”) for professional negligence, common law negligence, gross negligence,
intentional misrepresentation, negligent misrepresentation and breach of fiduciary duty arising from accounting, internal auditing
and consulting services provided by RSM to the Company. The Company alleges that between 2013 and 2015, Dees received approximately
$2.4 million in advanced or reimbursed travel and entertainment expenses from the Company and that Dees did not submit back-up
documentation in support of substantially all of the advances he received purportedly for future travel and entertainment expenses.
The Company similarly alleges that Culpepper received $294,255 in travel expense reimbursements and advances that were unsubstantiated.
The Company further alleges that had RSM provided competent accounting, internal audit and consulting services, it would have
discovered Dees’ and Culpepper’s conduct at its inception and prevented the misuse of these and future funds. The
Company has made a claim for damages against RSM in an amount in excess of $10 million. The Complaint against RSM was filed by
the Company and RSM moved to dismiss the Complaint. On September 28, 2018, RSM’s motion to dismiss was granted in part for
breach of fiduciary duty and denied in part for negligence, professional malpractice, negligent misrepresentation, gross negligence,
intentional misrepresentation, and fraudulent concealment. The Company was not precluded from seeking consequential or punitive
damages on its claims for gross negligence, intentional misrepresentation, and fraudulent concealment at this stage of the litigation.
The Company also was not precluded, at this time, from seeking consequential or punitive damages on its claims for breach of contract,
negligence, negligent misrepresentation, or professional malpractice to the extent those claims are premised on the outsourcing
engagement between the Company and RSM or the engagement between the Company and RSM under which RSM was to review the Company’s
financial statements. The North Carolina Circuit Court has recently entered a Case Management Order and the Parties are in
the process of beginning discovery in the case.
The
BDO Matter
On
November 16, 2017, the Company filed a demand for arbitration with the American Arbitration Association that alleged professional
negligence, common law negligence, gross negligence, intentional misrepresentation, negligent misrepresentation, and breach of
fiduciary duty by the Company’s former external audit firm, BDO USA LLP (“BDO”), arising from accounting, external
auditing, and consulting services provided by BDO related to travel and expense advances and reimbursements received by Dees and
former Company executive Culpepper. During the quarter ended June 30, 2018, this matter was resolved pursuant to a settlement
between the parties, the terms of which are confidential. The proceeds from the settlement were received and recorded during the
third quarter of 2018.
7.
Subsequent Events
Convertible
Notes Payable
Subsequent to September 30, 2018, the Company
entered into a PRH Note with a related party in the principal amount of $175,000. The Company has received the proceeds
of $175,000 relating to the note.
Exercise
of Warrants
Subsequent
to September 30, 2018, warrant holders exercised warrants to purchase an aggregate of 1,113,500 shares of common stock at $0.0533
per share. In connection with these exercises, the Company received aggregate cash proceeds of $59,350 and issued 1,113,500 shares
of common stock to the warrant holders.