SRNE Sorrento Therapeutics Inc

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

March 31, 2020

1. Description of Business and Basis of Presentation

Description of Business

Sorrento Therapeutics, Inc., together with its subsidiaries (the “Company”), is a clinical stage and commercial biopharma company focused on delivering innovative and clinically meaningful therapies to patients and their families to address unmet medical needs. The Company has programs assessing the use of its technologies and products in autoimmune, inflammatory, viral and neurodegenerative diseases.

At its core, the Company is an antibody-centric company and leverages its proprietary G-MAB™ library and targeted delivery modalities to generate the next generation of cancer therapeutics. These modalities include proprietary chimeric antigen receptor T-cell therapy (“CAR-T”), dimeric antigen receptor T-cell therapy (“DAR-T”), antibody drug conjugates (“ADCs”) as well as bispecific antibody approaches.

Outside of immuno-oncology programs, as part of the Company`s global aim to provide a wide range of therapeutic and diagnostic products to meet underserved markets, the Company has made investments in non-opioid pain management and is currently conducting preclinical development of multiple therapeutic, vaccine and diagnostic product candidates utilizing its proprietary platforms for the potential treatment, prevention and detection of COVID-19 and SARS-CoV-2.

Basis of Presentation and Principles of Consolidation

The accompanying consolidated financial statements include the accounts of the Company’s subsidiaries. For consolidated entities where the Company owns or is exposed to less than 100% of the economics, the Company records net income (loss) attributable to noncontrolling interests in its consolidated statements of operations equal to the percentage of the economic or ownership interest retained in such entities by the respective noncontrolling parties. All intercompany balances and transactions have been eliminated in consolidation.

These consolidated financial statements should be read in conjunction with the consolidated financial statements included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2019. Operating results for interim periods are not expected to be indicative of operating results for the Company’s 2020 fiscal year, or any subsequent period. The unaudited interim financial statements included herein reflect all normal and recurring adjustments that are necessary for a fair presentation of the results for the interim periods presented.  

Use of Estimates

To prepare consolidated financial statements in conformity with accounting principles generally accepted in the U.S. (“U.S. GAAP”), management must make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates.

Significant Accounting Policies

During the three months ended March 31, 2020, there have been no changes to the Company`s significant accounting policies as described in its Annual Report on Form 10-K for the fiscal year ended December 31, 2019 outside of new accounting pronouncements as described below.

8

Recent Accounting Pronouncements

In June 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, to improve financial reporting by requiring timely recording of credit losses on loans and other financial instruments held by financial institutions and other organizations. The ASU requires the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions and reasonable and supportable forecasts. The ASU is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. The adoption of the standard had no material impact on the Company’s consolidated financial statements.

In August 2018, the FASB issued ASU No. 2018-13, Disclosure Framework-Changes to the Disclosure Requirements for Fair Value Measurement, to improve the effectiveness of the disclosure requirements for fair value measurements. The ASU is effective for fiscal years and interim periods beginning after December 15, 2019. 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 will be applied prospectively as of the beginning of the fiscal year of adoption with all other amendments being applied retrospectively to all periods presented upon their effective date. The adoption of the standard had no material impact on the Company’s consolidated financial statements.

In December 2019, the FASB issued ASU No. 2019-12, Income Taxes Topic 740): Simplifying the Accounting for Income Taxes. The amendments in this update simplify the accounting for income taxes by removing certain exceptions to the general principles in Accounting Standards Codification (“ASC”) Topic 740. The amendments also improve consistent application of and simplify U.S. GAAP for other areas of ASC Topic 740 by clarifying and amending existing guidance. The amendments in this update are effective for interim and annual periods for the Company beginning after December 15, 2020, with early adoption permitted. The Company is evaluating the impact this standard will have on its consolidated financial statements.

In January 2017, the FASB issued ASU No. 2017-04, Simplifying the Test for Goodwill Impairment (Topic 350). This standard eliminates Step 2 from the goodwill impairment test, instead requiring an entity to recognize a goodwill impairment charge for the amount by which the goodwill carrying amount exceeds the reporting unit’s fair value. This update also eliminated the qualitative assessment requirements for a reporting unit with zero or negative carrying value. This guidance is effective for interim and annual goodwill impairment tests in fiscal years beginning after December 15, 2019, with early adoption permitted, and must be applied on a prospective basis. The adoption of the standard had no material impact on the Company’s consolidated financial statements.

2. Liquidity and Going Concern

The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern which contemplates the realization of assets and satisfaction of liabilities in the normal course of business. The Company has negative working capital and recurring losses from operations, recurring negative cash flows from operations and substantial cumulative net losses to date and anticipates that it will continue to do so for the foreseeable future as it continues to identify and invest in advancing product candidates, as well as expanding corporate infrastructure.

9

The Company has plans in place to obtain sufficient additional fundraising to fulfill its operating, debt servicing and capital requirements for the next 12 months. The Company’s plans include continuing to fund its operating losses and capital funding needs through public or private equity or debt financings, strategic collaborations, licensing arrangements, asset sales, government grants or other arrangements. Although management believes such plans, if executed, should provide the Company sufficient financing to meet its needs, successful completion of such plans is dependent on factors outside of the Company’s control. As such, management cannot conclude that such plans will be effectively implemented within one year after the date that the financial statements are issued. As a result, management has concluded that the aforementioned conditions, among others, raise substantial doubt about the Company’s ability to continue as a going concern within one year after the date the financial statements are issued.

If the Company is unable to raise additional capital in sufficient amounts or on terms acceptable, the Company may have to significantly delay, scale back or discontinue the development or commercialization of one or more of its product candidates. The Company may also seek collaborators for one or more of its current or future product candidates at an earlier stage than otherwise would be desirable or on terms that are less favorable than might otherwise be available. Furthermore, the spread of COVID-19, which has caused a broad impact globally, may materially affect the Company economically. While the potential economic impact brought by, and the duration of, COVID-19 may be difficult to assess or predict, a widespread pandemic could result in significant disruption of global financial markets, reducing the Company’s ability to access capital, which could in the future negatively affect its liquidity. The consolidated financial statements do not reflect any adjustments that might be necessary if the Company is unable to continue as a going concern.

If the Company raises additional funds by issuing equity securities, substantial dilution to existing stockholders would result. If the Company raises additional funds by incurring debt financing, the terms of the debt may involve significant cash payment obligations as well as covenants and specific financial ratios that may restrict the Company’s ability to operate its business.

Universal Shelf Registration

In March 2020, the Company filed a universal shelf registration statement on Form S-3 (the “Shelf Registration Statement”) with the Securities and Exchange Commission (the “SEC”), which was declared effective by the SEC on March 20, 2020. The Shelf Registration Statement provides the Company with the ability to offer up to $1.0 billion of securities, including equity and other securities as described in the Shelf Registration Statement. Pursuant to the Shelf Registration Statement, the Company may offer such securities from time to time and through one or more methods of distribution, subject to market conditions and the Company’s capital needs. Specific terms and prices will be determined at the time of each offering under a separate prospectus supplement, which will be filed with the SEC at the time of any offering. However, the Company cannot be sure that such additional funds will be available on reasonable terms, or at all.

3. Fair Value Measurements

The following table presents the Company’s financial assets and liabilities that are measured at fair value on a recurring basis (in thousands):

10

The Company's financial assets and liabilities carried at fair value are comprised of cash, cash equivalents, restricted cash and acquisition consideration payable. Cash and cash equivalents consist of money market accounts and bank deposits which are highly liquid and readily tradable. These investments are valued using inputs observable in active markets for identical securities. The fair value of the acquisition consideration payable is measured on a recurring basis using significant unobservable inputs (Level 3). Acquisition consideration payable is measured using the income approach and discounting to present value the contingent payments expected to be made based on assessment of the probability that the company would be required to make such future payment. There were no changes to acquisition consideration payable during the three months ended March 31, 2020.

Derivative liabilities

The Company recorded a gain on derivative liabilities of $4.9 million for the three months ended March 31, 2020, which related to the compound derivative liabilities associated with the Initial Loan and the Early Conditional Loan (as defined in Note 7) and the Scilex Notes (as defined in Note 7). The compound derivative liabilities consist of the fair value of various embedded features. Key significant, Level 3 inputs and assumptions for the Initial Loan and Early Conditional Loan (as defined in Note 7) consist of the estimated probability of restructuring debt arrangements during the first half of 2020 and estimated probabilities of satisfying certain commercial and financial milestones estimated using a with and without discounted cash flow approach applying a discount rate of approximately 23% as of March 31, 2020. As of March 31, 2020, the fair value of the derivative liabilities associated with the Scilex Notes was estimated using the discounted cash flow method under the income approach combined with a Monte Carlo simulation model. This involves significant Level 3 inputs and assumptions. The key assumptions for the Scilex Notes include a 7.3% risk adjusted net sales forecast, an effective debt yield of 24%, estimated probabilities of 55% and 100% of not obtaining marketing approval before July 1, 2023 and March 31, 2021, respectively, and an estimated probability of a Scilex Holding IPO that satisfies certain valuation thresholds and timing considerations.

The following table includes a summary of the derivative liabilities measured at fair value using significant unobservable inputs (Level 3) during the three months ended March 31, 2020:

11

4. Investments

The Company’s cost method investments primarily include an ownership interest in ImmunityBio, Inc., NantBioScience, Inc. (“NantBioScience”) and Celularity Inc. The Company’s equity method investments primarily include an ownership interest in Immunotherapy NANTibody, LLC (“NANTibody”), NantCancerStemCell, LLC (“NantStem”) and ImmuneOncia Therapeutics, LLC.

No impairment losses were recorded on the Company’s cost and equity method investments during the three months ended March 31, 2019 and 2020, respectively.

NANTibody

In 2013, the Company acquired IgDraSol Inc. (“IgDraSol”), a private company focused on the development of oncologic agents for the treatment of cancer, from a third party unrelated to the NantWorks, LLC (“NantWorks”) affiliated entities for 3.0 million shares of the Company’s common stock and $380,000 of cash for a total purchase price of $29.1 million. This transaction included the acquisition of IgDraSol’s lead compound, Cynviloq^TM, a micellar diblock copolymeric paclitaxel formulation drug product.

In May 2015, the Company entered into an agreement with NantPharma, LLC (“NantPharma”), a NantWorks company, pursuant to which the Company sold to NantPharma all of its equity interests in IgDraSol, which continued to hold the rights to Cynviloq^TM. Pursuant to the agreement, NantPharma paid the Company an upfront fee of $90.1 million, of which $60.0 million was required to be used by the Company to fund two joint ventures, as described below.

In April 2015, the Company and NantCell, Inc. (“NantCell”), a subsidiary of NantWorks, LLC (“NantWorks”), a private company owned by Dr. Patrick Soon-Shiong, established a new entity called Immunotherapy NANTibody, LLC (“NANTibody”) as a stand-alone biotechnology company with $100.0 million initial joint funding. NantCell owns 60% of the equity interest of NANTibody and agreed to contribute $60.0 million to NANTibody. The Company owns 40% of NANTibody and in July 2015, the Company had NantPharma contribute its portion of the initial joint funding of $40.0 million to NANTibody from the proceeds of the sale of IgDraSol. Additionally, the Company and NantCell were allowed to appoint two and three representatives, respectively, to NANTibody’s five-member Board of Directors. NANTibody focuses on accelerating the development of multiple immuno-oncology mAbs for the treatment of cancer, including but not limited to anti-PD-1, anti-PD-L1, anti-CTLA4mAbs and other immune-check point antibodies as well as ADCs and bispecific antibodies.

NANTibody had been formed to advance pre-clinical and clinical immunology assets contributed by the Company and NantCell. The Company continues to hold 40% of the outstanding equity of NANTibody and NantCell holds the remaining 60%. Until July 2, 2017, NANTibody held approximately $100.0 million of cash and cash equivalents, and the Company recorded its investment in NANTibody at approximately $40.0 million. As an equity method investment, the Company’s ratable portion of 40% of money expended for the development of intellectual property assets held by NANTibody would be reflected within income (loss) on equity method investments in its statement of operations. As a result of limited spending at NANTibody, the cash on hand at NANTibody remained at approximately $100.0 million since the inception of the NANTibody joint venture until July 2, 2017. Further, the Company’s equity method investment in NANTibody remained at approximately $40.0 million until July 2, 2017.

The financial statements of NANTibody are not received sufficiently timely for the Company to record its portion of earnings or loss in the current financial statements and therefore the Company reports its portion of earnings or loss on a quarter lag.

In February 2018, NANTibody notified the Company that on July 2, 2017, NANTibody acquired all of the outstanding equity of IgDraSol in exchange for $90.1 million in cash. NANTibody purchased IgDraSol from NantPharma, which is controlled by NantWorks, an entity with a controlling interest in NantCell and NantPharma.

Although the Company has had a designee serving on the Board of Directors of NANTibody since the formation of NANTibody in April 2015, and although the Company has held 40% of the outstanding equity of NANTibody since NANTibody’s formation, neither the Company nor its director designee was given any advance notice of NANTibody’s purchase of IgDraSol or of any board meeting or action to approve such purchase. As such, the Company’s designee on NANTibody’s Board of Directors was not given an opportunity to consider or vote on the transaction as a director and the Company was not given an opportunity to consider or vote on the transaction in its position as a significant (40%) equity holder of NANTibody.

As a result of the July 2, 2017 purchase of IgDraSol, NANTibody’s cash and cash equivalents were reduced from $99.6 million as of June 30, 2017 to $9.5 million as of September 30, 2017, and NANTibody’s contributed capital was reduced from $100.0 million as of June 30, 2017 to $10.0 million as of September 30, 2017, to effect the transfer of IgDraSol from NantPharma to NANTibody. No additional information was provided to the Company to explain why NANTibody’s total assets as of September 30, 2017 were reduced by approximately $90.1 million. The Company requested, but did not receive, additional information from NANTibody for purposes of supporting the value of IgDraSol, including any information regarding clinical advancements in the entity since the sale of IgDraSol by the Company in May 2015.

12

Prior to the communication of the transfer of IgDraSol from NantPharma to NANTibody, the Company relied on the cash and cash equivalents of NANTibody for purposes of determining the value of its investment in NANTibody, which capital was expended by NANTibody to acquire IgDraSol on July 2, 2017. As a result of the transfer of IgDraSol, the Company reassessed the recoverability of its equity method investment in NANTibody as of July 2, 2017. In doing so, the Company considered the expected outcomes for the intellectual property assets held by NANTibody as of July 2, 2017. As a result of the lack of evidence of any development activity associated with any of the assets held in NANTibody, given the passage of time since the formation of the joint venture, many competitive products from other drug developers worldwide have advanced and/or commercialized for the targeted disease indications of the assets held in NANTibody, and given the Company’s minority interest in NANTibody (the investee), the Company concluded that it does not have the ability to recover the carrying amount of the investment and an other-than-temporary decline in the value of the investment had occurred. Accordingly, an impairment was recorded to the Company’s equity method investment in NANTibody for the three and nine months ended September 30, 2017. The fair value of the Company’s investment in NANTibody was measured at fair value on July 2, 2017 using significant unobservable inputs (Level 3) due to the determination of fair value requiring significant judgment, including the potential outcomes of the intellectual property assets held by NANTibody. For these reasons, fair value was determined by applying the Company’s 40% equity interest in NANTibody to the remaining cash and cash equivalents, which resulted in an impairment of $36.0 million. The impairment resulted in a revised carrying value of the Company’s investment in NANTibody of $3.7 million which approximated its ratable 40% ownership of the cash maintained by NANTibody expected to be used for future research and development. As of March 31, 2020 and 2019, the carrying value of the Company’s investment in NANTibody was approximately $1.9 million and $3.3 million, respectively.

NANTibody recorded a net loss of $1.4 million and $0.4 million for the three months ended December 30, 2019 and 2018, respectively. The Company recorded its portion of loss from NANTibody in loss on equity method investments on its consolidated statements of operations for the three months ended March 30, 2020 and 2019. As of December 31, 2019, NANTibody had $6.4 million in current assets, $1.5 million in current liabilities, $0.2 million in noncurrent assets and no noncurrent liabilities.

NantStem

In July 2015, the Company and NantBioScience established a new entity called NantCancerStemCell, LLC (“NantStem”) as a stand-alone biotechnology company with $100.0 million initial joint funding. As initially organized, NantBioScience was obligated to make a $60.0 million cash contribution to NantStem for a 60% equity interest in NantStem, and the Company was obligated to make a $40.0 million cash contribution to NantStem for a 40% equity interest in NantStem. Fifty percent of these contributions were funded in July 2015 and the remaining amounts were to be made by no later than September 30, 2015. The Company had NantPharma contribute its portion of the initial joint funding of $20.0 million to NantStem from the proceeds of the sale of IgDraSol. Pursuant to a Side Letter dated October 13, 2015, the NantStem joint venture agreement was amended to relieve the Company of the obligation to contribute the second $20.0 million payment, and its ownership interest in NantStem was reduced to 20%. NantBioScience’s funding obligations were unchanged. The Side Letter was negotiated at the same time the Company issued a call option on shares of NantKwest that it owned to Cambridge Equities, L.P. (“Cambridge”), a related party to NantBioScience.

A loss related to other-than-temporary impairment of $0.5 million was recognized for the equity investment in NantStem for the year ended December 31, 2018.

The Company is accounting for its interest in NantStem as an equity method investment, due to the significant influence the Company has over the operations of NantStem through its board representation and 20% voting interest. The Company’s investment in NantStem is reported in equity method investments on its consolidated balance sheets and its share of NantStem’s loss is recorded in loss on equity method investments on its consolidated statement of operations. As of March 31, 2020 and 2019, the carrying value of the Company’s investment in NantStem was approximately $17.9 million and $17.8 million, respectively.

The financial statements of NantStem are not received sufficiently timely for the Company to record its portion of earnings or loss in the current financial statements and therefore the Company reports its portion of earnings or loss on a quarter lag.

NantStem recorded net income of $0.2 million and $1.0 million for the three months ended December 31, 2019 and 2018, respectively. The Company recorded its portion of income from NantStem in loss on equity method investments on its consolidated statements of operations for the three months ended March 31, 2020 and 2019. As of December 31, 2019, NantStem had $76.4 million in current assets, $0.1 million in current liabilities, $4.4 million in noncurrent assets and no noncurrent liabilities.

5. Goodwill and Intangible Assets

At both March 31, 2020 and December 31, 2019, the Company had recorded goodwill of $38.3 million. Goodwill for the Sorrento Therapeutics segment and Scilex segment was $31.6 million and $6.7 million, respectively, as of March 31, 2020. The Company’s Scilex reporting unit had a negative carrying value of net assets and there were no indicators of impairment of goodwill identified.

13

Intangible assets with indefinite useful lives totaling $14.4 million are included in acquired in-process research and development in the table below. A summary of the Company’s identifiable intangible assets as of March 31, 2020 and December 31, 2019 is as follows (in thousands, except for years):

As of March 31, 2020, the weighted average amortization period for identifiable intangible assets is 14.8 years. Aggregate amortization expense was $1.0 million for each of the three months ended March 31, 2020 and 2019.

Estimated future amortization expense related to intangible assets at March 31, 2020 is as follows (in thousands):

6. Significant Agreements and Contracts

Pending Significant Transactions

On March 31, 2020, the Company and Nanjing Hongjing Enterprise Management Consulting Co., Ltd. (“Nanjing Hongjing”) entered into a binding term sheet (the “Binding Term Sheet”) setting forth the terms and conditions by which the Company will sell to Nanjing Hongjing certain assets related to the Company’s operations in China (the “Acquisition”), which are part of the Sorrento segment. Subject to certain conditions, at the closing of the Acquisition, Nanjing Hongjing will pay the Company $30.0 million. The final terms of the Acquisition are subject to the negotiation and finalization of the definitive agreements relating to the Acquisition and the material terms of the Acquisition may differ from those set forth in the Binding Term Sheet. In addition, the closing of the Acquisition will be subject to various customary and other closing conditions. The carrying value of these assets as of March 31, 2020 and December 31, 2019 as well as results from operations for the three months ended March 31, 2020 and March 31, 2019 are not material.

2019 Acquisitions

Acquisition of Semnur Pharmaceuticals, Inc.

In March 2019, the Company entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Semnur Pharmaceuticals, Inc. (“Semnur”) and Scilex Holding Company (“Scilex Holding”), whereby Semnur became a wholly-owned subsidiary of Scilex Holding (the “Merger”), and thereby Scilex Holding acquired Semnur’s SEMDEXA^TM (SP-102) technology for consideration valued at approximately $70.0 million, excluding contingent consideration, transaction costs of $3.1 million and

14

liabilities assumed of $4.2 million, which was allocated based on the relative fair value of the assets acquired. The $70.0 million of consideration consisted of approximately $15.0 million in cash and shares of Scilex Holding valued at approximately $55.0 million (the “Stock Consideration”).

Pursuant to the Merger Agreement, Scilex Holding also agreed to pay the holders of Semnur’s capital stock and options up to $280.0 million in aggregate contingent cash consideration based on the achievement of certain milestones, which is comprised of a $40.0 million payment that will be due upon obtaining the first approval of a New Drug Application of a Semnur product by the U.S. Food and Drug Administration (the “FDA”) and additional payments that will be due upon the achievement of certain amounts of net sales of Semnur products as follows: (a) a $20.0 million payment upon the achievement of $100.0 million in cumulative net sales of a Semnur product, (b) a $20.0 million payment upon the achievement of $250.0 million in cumulative net sales of a Semnur product, (c) a $50.0 million payment upon the achievement of $500.0 million in cumulative net sales of a Semnur product, and (d) a $150.0 million payment upon the achievement of $750.0 million in cumulative net sales of a Semnur product.

In March 2019, the Company also entered into an Exchange and Registration Rights Agreement (the “Exchange Agreement”) with the stockholders and stock option holders of Semnur. Pursuant to the Exchange Agreement, if within 18 months of the closing of the Merger, 100% of the outstanding equity of Scilex Holding has not been acquired by a third party or Scilex Holding has not entered into a definitive agreement with respect to, or otherwise consummated, a firmly underwritten offering of Scilex Holding’s capital stock that meets certain requirements and includes the Stock Consideration, then the holders of the Stock Consideration may collectively elect to exchange, during the 60-day period commencing the date that is the 18 month anniversary of the closing of the Merger, the Stock Consideration for shares of the Company’s common stock with a value of $55.0 million (the “Semnur Share Exchange”) based on a price per share of the Company’s common stock equal to the greater of (a) the 30-day trailing volume weighted average price of one share of the Company’s common stock as reported on the Nasdaq Capital Market as of the consummation of the Semnur Share Exchange and (b) $5.55 (subject to adjustment for any stock dividend, stock split, stock combination, reclassification or similar transaction).

The transaction was accounted for as an asset acquisition since substantially all the value of the gross assets was concentrated in a single asset. No contingent consideration was recorded as of December 31, 2019 or March 31, 2020 since the related regulatory approval milestones are not deemed probable until they actually occur. Approximately $75.3 million was expensed as acquired in-process research and development during the three months ended March 31, 2019.

Other Significant Agreements

In November 2019, the Company entered into short-term working capital funding arrangements (the “Arrangements”) in which the Company received proceeds of approximately $8.0 million, for a fee of 5% per annum. These Arrangements are short-term in nature and are recorded within the current portion of debt. Additionally, the Company provided security deposits in an aggregate amount of approximately $8.5 million (RMB 60.0 million), which is included in prepaid expenses and other current assets in the consolidated balance sheets as of March 31, 2020.

License Agreement with NantCell

In April 2015, the Company and NantCell entered into a license agreement. Under the terms of the agreement, the Company granted an exclusive license to NantCell covering patent rights, know-how and materials related to certain antibodies, ADCs and two CAR-TNK products. NantCell agreed to pay a royalty not to exceed five percent (5%) to the Company on any net sales of products (as defined) from the assets licensed by the Company to NantCell. In addition to the future royalties payable under this agreement, NantCell paid an upfront payment of $10.0 million to the Company and issued 10 million shares of NantCell common stock to the Company valued at $100.0 million based on a recent equity sale of NantCell common stock to a third party. As of March 31, 2020, the Company had not yet provided all of the items noted in the agreement, including research services for and on behalf of NantCell, and therefore has recorded the entire upfront payment and value of the equity interest received as deferred revenue. Specifically, only a portion of the materials associated with the licensed assets have been delivered while the majority of the licensed assets remain undelivered and the related research activities are still to be performed. The Company will recognize the upfront payment and the value of the equity interest received over the period beginning with the commencement of the last item delivered. The Company’s ownership interest in NantCell does not provide the Company with control or the ability to exercise significant influence; therefore the $100.0 million investment is carried at cost in the consolidated balance sheets and evaluated for other-than-temporary impairment on a quarterly basis.

7. Debt

2018 Securities Purchase Agreement in Private Placement and Amendment to Warrants

In March 2018, the Company entered into a Securities Purchase Agreement (the “March 2018 Securities Purchase Agreement”) with certain accredited investors (the “March 2018 Purchasers”). Pursuant to the March 2018 Securities Purchase Agreement, the Company agreed to issue and sell to the March 2018 Purchasers, in a private placement, (1) convertible promissory notes in an aggregate principal amount of $120,500,000 (the “Notes”), and (2) warrants to purchase 8,591,794 shares of the common stock of the Company (the “Warrants”). In June 2018, the Company entered into an amendment (the “June 2018 Amendment”) to the March 2018

15

Securities Purchase Agreement. Under the terms of the June 2018 Amendment, the Company issued and sold to the March 2018 Purchasers (1) Notes in an aggregate principal amount of $37,848,750, and (2) Warrants to purchase an aggregate of 2,698,662 shares of Common Stock. The Notes accrued interest at a rate equal to 5.0% per annum and would have matured upon the earlier to occur of June 13, 2023 and the date of the closing of a change of control.

On November 8, 2019, the Company amended the Notes to provide that (a) the conversion price for the Notes was reduced from $7.0125 per share to $1.70 per share, and (b) upon the conversion of any portion of the outstanding principal amount of the Notes, all accrued but unpaid interest on such portion of the principal amount being converted shall also be converted into shares of the Company’s common stock at $1.70 per share. Pursuant to the Notes, as amended, the March 2018 Purchasers agreed to convert the full principal amount, plus all accrued but unpaid interest into shares of the Company’s common stock on November 8, 2019. The Company accounted for the conversion of the Notes as an induced conversion of debt and recorded a loss on settlement of debt of $27.8 million during the fourth quarter of 2019.

2018 Purchase Agreements and Indenture for Scilex

On September 7, 2018, Scilex Pharmaceuticals Inc. (“Scilex Pharma”) entered into Purchase Agreements (the “2018 Purchase Agreements”) with certain investors (collectively, the “Scilex Note Purchasers”) and the Company. Pursuant to the 2018 Purchase Agreements, on September 7, 2018, Scilex Pharma, among other things, issued and sold to the Scilex Note Purchasers senior secured notes due 2026 in an aggregate principal amount of $224.0 million (the “Scilex Notes”) for an aggregate purchase price of $140.0 million (the “Scilex Notes Offering”). In connection with the Scilex Notes Offering, Scilex Pharma also entered into an Indenture (the “Indenture”) governing the Scilex Notes with U.S. Bank National Association, a national banking association, as trustee (the “Trustee”) and collateral agent (the “Collateral Agent”), and the Company. Pursuant to the Indenture, the Company agreed to irrevocably and unconditionally guarantee, on a senior unsecured basis, the punctual performance and payment when due of all obligations of Scilex Pharma under the Indenture (the “Guarantee”).

The net proceeds of the Scilex Notes Offering were approximately $89.3 million, after deducting the Scilex Notes Offering expenses payable by Scilex Pharma and funding a segregated reserve account with $20.0 million (the “Reserve Account”) and a segregated collateral account with $25.0 million (the “Collateral Account”) pursuant to the terms of the Indenture. Funds in the Reserve Account will be released to Scilex Pharma upon receipt by the Trustee of an officer’s certificate under the Indenture from Scilex Pharma confirming receipt of a marketing approval letter from the FDA with respect to SP-103 (the “Marketing Approval Letter”) on or prior to July 1, 2023. Funds in the Collateral Account will be released upon receipt of a written consent authorizing such release from the holders of a majority in principal amount of the Scilex Notes issued, upon the occurrence and during the continuance of an event of default at the direction of the holders of a majority in principal amount of the Scilex Notes issued or upon the repayment in full of all amounts owed under the Scilex Notes.

The holders of the Scilex Notes (the “Holders”) will be entitled to receive quarterly payments of principal of the Scilex Notes equal to a percentage, in the range of 10% to 20% of the net sales of ZTlido^® (lidocaine topical system 1.8%) (“ZTlido”) for the prior fiscal quarter, beginning on February 15, 2019. If Scilex Pharma has not received the Marketing Approval Letter by March 31, 2021, the percentage of net sales payable shall be increased to be in the range of 15% to 25%. If actual cumulative net sales of ZTlido from October 1, 2022 through September 30, 2023 are less than 60% of a predetermined target sales threshold for such period, then Scilex Pharma will be obligated to pay an additional installment of principal of the Scilex Notes each quarter in an amount equal to an amount to be determined by reference to the amount of such deficiency.

The aggregate principal amount due under the Scilex Notes shall be increased by $28,000,000 on February 15, 2022 if actual cumulative net sales of ZTlido from the issue date of the Scilex Notes through December 31, 2021 do not equal or exceed 95% of a predetermined target sales threshold for such period. If actual cumulative net sales of ZTlido for the period from October 1, 2022 through September 30, 2023 do not equal or exceed 80% of a predetermined target sales threshold for such period, the aggregate principal amount shall also be increased on November 15, 2023 by an amount equal to an amount to be determined by reference to the amount of such deficiency.

The final maturity date of the Scilex Notes will be August 15, 2026. The Scilex Notes may be redeemed in whole at any time upon 30 days’ written notice at Scilex Pharma's option prior to August 15, 2026 at a redemption price equal to 100% of the then-outstanding principal amount of the Scilex Notes. In addition, upon a change of control of Scilex Pharma (as defined in the Indenture), each Holder shall have the right to require Scilex Pharma to repurchase all or any part of Holder’s Scilex Note at a repurchase price in cash equal to 101% of the then-outstanding principal amount thereof.

Pursuant to the terms of the Indenture, the Company issued an irrevocable standby letter of credit to Scilex Pharma (the “Letter of Credit”), which provides that, in the event that (1) Scilex Pharma does not hold at least $29,000,000 in unrestricted cash (which is inclusive of the amount in the Collateral Account) as of the end of any calendar month ending March 31, 2020 through and including the month ending March 31, 2021 or at least $35,000,000 in unrestricted cash (which is inclusive of the amount in the Collateral Account) at the end of any calendar month after March 31, 2021, (2) actual cumulative net sales of ZTlido from the issue date of the Scilex Notes through December 31, 2021 are less than a specified sales threshold for such period, or (3) actual cumulative net sales of

16

ZTlido for any calendar year during the term of the Scilex Notes, beginning with the 2022 calendar year, are less than a specified sales threshold for such calendar year, Scilex Pharma, as beneficiary of the Letter of Credit, will draw, and the Company will pay to Scilex Pharma, $35,000,000 in a single lump-sum amount as a subordinated loan. In the event that Scilex Pharma draws on the Letter of Credit, and the Company pays to Scilex Pharma, $35,000,000 in a single lump-sum amount as a subordinated loan, Holder shall have the right to require the Company to purchase all or any part of such Holder’s outstanding Scilex Notes in the principal amount of, and at a purchase price in cash equal to, $25,000,000 multiplied by such Holder’s pro rata portion of the then-outstanding Scilex Notes. The Letter of Credit will terminate upon the earliest to occur of: (a) the repayment of the Scilex Notes in full, (b) the actual net sales of ZTlido for any calendar year during the term of the Scilex Notes exceeding a certain threshold, (c) the consummation of an initial public offering on a major international stock exchange by Scilex Pharma that satisfies certain valuation thresholds, and (d) the replacement of the Letter of Credit with another letter of credit in form and substance, including as to the identity and creditworthiness of issuer, reasonably acceptable to the Holders of at least 80% in principal amount of outstanding Scilex Notes.

On October 1, 2019, Scilex Pharma, the Company, the Trustee and the Collateral Agent, and the beneficial owners of the Scilex Notes and the Holders entered into an omnibus amendment (the “Omnibus Amendment”) to: (i) the Indenture, and (ii) the Letter of Credit.

Under the terms of the Omnibus Amendment, among other things, the defined term “Change of Control” was revised to include, in addition to certain events described in the Indenture, (i) prior to the consummation of an initial public offering by Scilex Holding (the “Scilex Holding IPO”), the Company ceasing to own, directly or indirectly, a majority of the total voting and economic power of the issued and outstanding capital stock that is entitled to vote in the election of the Board of Directors (the “Voting Stock”) of Scilex Pharma, (ii) at any time following the consummation of the Scilex Holding IPO, Scilex Pharma becoming aware of the acquisition by any person or group acquiring, in a single or in a related series of transactions, by way of merger, amalgamation, consolidation or other business combination or purchase of beneficial ownership of a majority of the total voting power of the issued and outstanding Voting Stock of Scilex Pharma or Scilex Holding, and (iii) Scilex Holding failing at any time to own 100% of the capital stock of Scilex Pharma. The Omnibus Amendment also provides that Scilex Pharma will agree not to engage in or enter into any business other than the research, development, manufacture, sale, distribution, marketing, detailing, promotion, selling and securing of reimbursement of ZTlido and any future iterations, improvements or modifications thereof (the “Product”), on a worldwide basis (exclusive of Japan), and activities that are necessary for, or otherwise relevant to, the same, subject to certain exceptions. The Omnibus Amendment further provides that, if Scilex Holding fails to contribute $25.0 million of the proceeds of any Scilex Holding IPO to Scilex Pharma within three business days following the closing of the issuance and sale of Scilex Holding’s capital stock in the Scilex Holding IPO, such failure shall constitute an “Event of Default” under the Indenture.

In connection with the Omnibus Amendment, in the event of consummation of a Scilex Holding IPO that satisfies certain valuation thresholds, Scilex Pharma agreed to repurchase, from each Holder, Scilex Notes in a principal amount equal to (i) $20.0 million multiplied by (ii) a fraction the numerator of which will be the then outstanding principal amount of the Scilex Notes held by such Holder and the denominator of which will be the then outstanding principal amount of all of the outstanding Scilex Notes, at a purchase price in cash equal to 100% of the principal amount thereof (such repurchase, the “Effective Date Repurchase”). Pursuant to the Omnibus Amendment, the Holders agreed to release the funds in the Reserve Account for the purpose of consummating the Effective Date Repurchase and any remaining funds in the Reserve Account after the consummation of the Effective Date Repurchase will be released to Scilex Pharma by the Trustee and the Collateral Agent. After the consummation of the Effective Date Repurchase, the right of the Holders to require Scilex Pharma to repurchase $20.0 million principal amount upon failure to receive the Marketing Approval Letter with respect to SP-103 by July 1, 2023 shall have no further force and effect and the Reserve Account shall be closed.

The Omnibus Amendment also modified the Letter of Credit to provide that one of the conditions that will terminate the Letter of Credit will be the consummation of a Scilex Holding IPO that satisfies certain valuation thresholds. The Omnibus Amendment will be effective upon the satisfaction of certain terms and conditions, including the consummation of the Effective Date Repurchase. The Omnibus Amendment will terminate if the Omnibus Amendment does not become effective on or prior to October 1, 2020. The Company accounted for the Omnibus Amendment as a debt modification under ASC Topic 470-50 as modified terms were not substantially different than the pre-modified terms. The Company recorded an additional $4.3 million debt discount in connection with the Omnibus Amendment as of October 1, 2019.

To estimate the fair value of the Scilex Notes, the Company uses the discounted cash flow method under the income approach, which involves significant Level 3 inputs and assumptions, combined with a Monte Carlo simulation as appropriate. The value of the debt instrument is based on the present value of future principal payments and the discounted rate of return reflective of the Company’s credit risk.

17

Borrowings of the Scilex Notes consisted of the following (in thousands):

Future minimum payments under the Scilex Notes, based on a percentage of projected net sales of ZTlido are estimated as follows (in thousands):

The Company made principal payments of $1.6 million and $0.4 million during the three months ended March 31, 2020 and 2019, respectively, which were based on a percentage of net sales of ZTlido. The imputed effective interest rate at March 31, 2020 was 7.7%. The amount of debt discount and debt issuance costs included in interest expense for the three months ended March 31, 2020 and 2019 was approximately $2.9 million and $4.6 million, respectively.

The Company identified a number of embedded derivatives that require bifurcation from the Scilex Notes and were separately accounted for in the consolidated financial statements as derivative liabilities. Certain of these embedded features include default interest provisions, contingent rate increases, contingent put options, optional and automatic acceleration provisions and tax indemnification obligations. The fair value of the derivative liabilities associated with the Scilex Notes was estimated using the discounted cash flow method under the income approach combined with a Monte Carlo simulation model. This involves significant Level 3 inputs and assumptions, including a risk adjusted net sales forecast, an effective debt yield, estimated marketing approval probabilities for SP-103 and an estimated probability of a Scilex Holding IPO that satisfies certain valuation thresholds and timing considerations (See Note 3). The Company re-evaluates this assessment each reporting period.

2018 Oaktree Term Loan Agreement

On November 7, 2018, the Company and certain of its domestic subsidiaries (the “Guarantors”) entered into a Term Loan Agreement (the “Loan Agreement”) with certain funds and accounts managed by Oaktree Capital Management, L.P. (collectively, the “Lenders”) and Oaktree Fund Administration, LLC, as administrative and collateral agent (the “Agent”), for an initial term loan of $100.0 million (the “Initial Loan”) and a second tranche of $50.0 million, subject to the achievement of certain commercial and financial milestones between August 7, 2019 and November 7, 2019, and the satisfaction of certain customary conditions (the “Conditional Loan”). The Initial Loan matures on November 7, 2023 (the “Maturity Date”) and bears interest at a rate equal to the London Interbank Offered Rate (“LIBOR”) plus the applicable margin, or 7%. The net proceeds of the Initial Loan were approximately $91.3 million, after deducting estimated loan costs, commissions, fees and expenses, and were used for general corporate purposes. In connection with the Loan Agreement, on November 7, 2018, the Company issued to the Lenders warrants to purchase 6,288,985 shares of the Company’s common stock (the “Initial Warrants”). The Initial Warrants have an exercise price per share of $3.28, subject to adjustment for stock splits, reverse stock splits, stock dividends and similar transactions, are exercisable from May 7, 2019 through May 7, 2029 and will be exercisable on a cash basis, unless there is not an effective registration statement covering the resale of the shares issuable upon exercise of the Initial Warrants (the “Initial Warrant Shares”), in which case the Initial Warrants shall also be exercisable on a cashless exercise basis. In connection with the Loan Agreement, on November 7, 2018, the Company and the Lenders entered into a Registration Rights Agreement (the “Registration Rights Agreement”) pursuant to which, among other things, the Company agreed to file one or more registration statements with the SEC for the purpose of registering for

18

resale the Initial Warrant Shares and the shares of common stock issuable upon exercise of warrants that may be issued in connection with the Conditional Loan (the “Conditional Warrants”).

On May 3, 2019, the Company, the Guarantors and the Lenders and the Agent entered into an amendment (the “Amendment”) to the Loan Agreement. Under the terms of the Amendment, among other things, the Lenders agreed to make available to the Company $20.0 million of the Conditional Loan, notwithstanding that the commercial and financial milestones had not occurred (the “Early Conditional Loan”). The Lenders also agreed to loan the Company the remaining $30.0 million of the Conditional Loan upon the satisfaction of the commercial and financial milestones between August 7, 2019 and November 7, 2019 (the “Remaining Conditional Loan” and, together with the Initial Loan and the Early Conditional Loan, the “Term Loans”). The Term Loans and the Early Conditional Loan will mature on November 7, 2023. The Term Loans may be prepaid by the Company, in whole or in part at any time, subject to a prepayment fee. Upon any prepayment or repayment of all or a portion of the Term Loans (including the Early Conditional Loan and the Remaining Conditional Loan), the Company has agreed to pay the Lenders an exit fee equal to 1.25% of the principal amount paid or prepaid amounting to approximately $1.5 million. The Early Conditional Loan was funded on May 3, 2019.

The Company accounted for the Amendment as a debt modification and not a debt extinguishment under ASC Topic 470-50, as the modified terms were not substantially different from the terms of the Loan Agreement. The Company incurred approximately $0.8 million in fees directly related to the Amendment, which were expensed as incurred.

In connection with the Amendment, on May 3, 2019, the Company issued to the Lenders warrants to purchase an aggregate of 1,333,304 shares of the Company’s common stock (the “2019 Warrants”). The 2019 Warrants have an exercise price per share of $3.94, subject to adjustment for stock splits, reverse stock splits, stock dividends and similar transactions, will be exercisable from November 3, 2019 through November 3, 2029. The Company recorded a loss on derivative liabilities associated with the 2019 Warrants of $4.3 million on the issuance date.

The Loan Agreement provided that, in the event of an optional prepayment of all or any portion of the Term Loans prior to November 7, 2021, the Company would be obligated to pay a prepayment fee in an amount equal to the amount of interest that would have been paid on the principal amount of the Term Loans being prepaid for the period from and including the date of such prepayment to, but excluding, November 7, 2021, based on the interest rate in effect on the date of any such prepayment (the “Make-Whole Payment”), plus 3% of the principal amount of the Term Loans being so prepaid.

On December 6, 2019, the Company, the Guarantors and the Lenders and the Agent entered into an amendment (“Amendment No. 2”) to the Loan Agreement. Under the terms of Amendment No. 2, the Lenders agreed that, in the event of an optional prepayment of all or any portion of the Term Loans on or prior to March 31, 2020, the prepayment fee was equal to 3% of the principal amount of the Term Loans being prepaid, and the Company was not required to pay any Make-Whole Payment. Pursuant to Amendment No. 2, the Company also agreed to certain financial milestones and to fund and maintain, in a blocked liquidity account, an amount equal to (i) $2.5 million, or (ii) $20.0 million upon the achievement by the Company of certain financial milestones; provided, that the amount required to be maintained in the blocked liquidity account will be $10.0 million if the Company makes an optional prepayment of at least $50.0 million in principal amount of the Term Loans on or prior to March 31, 2020.

In connection with Amendment No. 2, on December 6, 2019, the Company paid the Lenders fees of approximately $1.4 million, which the Company recorded as a debt discount, and issued to the Lenders warrants to purchase an aggregate of 2,000,000 shares of the Company’s common stock (the “December 2019 Warrants”). The December 2019 Warrants have an exercise price per share of $3.26, subject to adjustment for stock splits, reverse stock splits, stock dividends and similar transactions, will be exercisable from June 6, 2020 through June 6, 2030 and will be exercisable solely on a cash basis, unless there is not an effective registration statement covering the resale of the shares issuable upon exercise of the Warrants, in which case the December 2019 Warrants shall also be exercisable on a cashless exercise basis. The Company recorded a $6.0 million debt discount representing the fair value of the December 2019 Warrants with a corresponding increase to additional paid-in-capital. The debt discount is being recognized as interest expense over the life of the Term Loans using the effective interest method.

The Company, during the first quarter of 2020 and through May 7, 2020, repaid approximately $60.5 million of outstanding principal under the Term Loans plus approximately $4.8 million of related prepayment premium, exit fees and accrued interest thereon. Approximately $11.6 million of such repayment was effectuated through a release by the Lenders of all amounts held in a debt service reserve account for the benefit of the Lenders and of all amounts in the blocked liquidity account. The Company is no longer required to maintain any amounts in the debt service reserve account or the blocked liquidity account, but has committed to meet debt prepayment obligations of approximately $10 million, and pursue debt restructuring arrangements and the sale of one or more non-core assets in the first half of 2020. Certain of these features were accounted for in the consolidated financial statements as a derivative liability (See Note 3).

In connection with the repayment of outstanding principal, the Company recorded a loss on partial debt settlement of $23.6 million. The Company accounted for the prepayment of principal as a partial debt extinguishment. However, under ASC Topic 470-50, the modified terms of the debt during the three months ended March 31, 2020 were not substantially different from the terms of the Loan Agreement and therefore were accounted for as a modification and not a debt extinguishment.

19

The fair value of the Term Loans was estimated using a discounted cash flow model with Level 3 inputs with key inputs that include debt yield, coupon rate and maturity dates. Borrowings under the Term Loans consisted of the following (in thousands):

Interest expense recognized for stated interest on the Term Loans totaled $2.1 million and $2.4 million for the three months ended March 31, 2020 and 2019, respectively. The amount of debt discount and debt issuance costs included in interest expense on the Term Loans for the three months ended March 31, 2020 and 2019 was approximately $1.5 million and $1.0 million, respectively.

The Company identified certain embedded derivatives that require bifurcation from the Initial Loan and Early Conditional Loan. Certain of these embedded features include a contingent accelerated repayment feature, which was accounted for in the consolidated financial statements as a derivative liability (see Note 3). The Company re-evaluates this assessment each reporting period.

The Company is no longer required to maintain any amounts in the debt service reserve account or the blocked liquidity account, but has committed to meet debt prepayment requirements of approximately $10 million, and pursue debt restructuring arrangements and the sale of one or more non-core assets in the first half of 2020. Certain of these features were accounted for in the consolidated financial statement as a derivative liability (see Note 3). 

Both the 2018 Purchase Agreements and Indenture for Scilex and the Loan Agreement (collectively, the “Debt Arrangements”), provide that, upon the occurrence of an event of default, the lenders thereunder may, by written notice to the Company, declare all of the outstanding principal and interest under such Debt Arrangements immediately due and payable. For purposes of the Debt Arrangements, an event of default includes, among other things, (i) a failure to pay any amounts when due under the Debt Arrangements, (ii) a breach or other failure to comply with the covenants (including financial, notice and reporting covenants) under the Debt Arrangements, (iii) a failure to make any payment on, or other event triggering an acceleration under, other material indebtedness of the Company, which would include, with respect to the Loan Agreement, a failure or acceleration under the 2018 Purchase Agreements and Indenture for Scilex, and with respect to the 2018 Purchase Agreements and Indenture for Scilex, a failure or acceleration under the Loan Agreement, and (iv) the occurrence of certain insolvency or bankruptcy events (both voluntary and involuntary) involving the Company or certain of its subsidiaries. The Company is in compliance with event of default clauses under the Debt Arrangements.

8. Stockholders` Equity

Aspire Transaction

In February 2020, the Company entered into a Common Stock Purchase Agreement (the “Aspire Purchase Agreement”) with Aspire Capital Fund, LLC, (“Aspire Capital”), pursuant to which Aspire Capital was committed to purchase up to an aggregate of $75.0 million of shares of the Company’s common stock over a 24-month term. Upon execution of the Aspire Purchase Agreement, the Company issued to Aspire Capital 897,308 shares of the Company’s common stock as a commitment fee. The Company is using any proceeds it receives under the Aspire Purchase Agreement for working capital and general corporate purposes and for the repayment of the Term Loans.

During the quarter ended March 31, 2020, the Company issued and sold an aggregate of 28,721,972 shares of the Company’s common stock to Aspire Capital for aggregate net proceeds to the Company of approximately $62.6 million. Subsequent to March 31, 2020, the Company issued and sold an aggregate of 5,103,038 shares of its common stock to Aspire Capital under the Aspire Purchase Agreement for aggregate net proceeds of approximately $12.4 million. On April 24, 2020, the Aspire Purchase Agreement terminated effective immediately in accordance with its terms as the Company issued and sold, as of such date, the full $75.0 million of shares available for issuance thereunder.

20

9. Stock Based Compensation

The estimated fair value of each stock option grant was determined on the grant date using the Black-Scholes valuation model with the following weighted-average assumptions. The Company granted no stock options during the three months ended March 31, 2019.

Total stock-based compensation recorded as operating expenses was $2.1 million and $2.0 million for the three months ended March 31, 2020 and 2019, respectively. The total unrecognized compensation cost related to unvested stock option grants as of March 31, 2020 was $17.9 million and the weighted average period over which these grants are expected to vest is 3.0 years.

Scilex Holding Company

Total stock-based compensation expense recorded as operating expenses was $1.6 million and $0.2 million for the three months ended March 31, 2020 and 2019, respectively. The total unrecognized compensation cost related to unvested stock option grants as of March 31, 2020 was $14.2 million and the weighted average period over which these grants are expected to vest is 2.9 years.

10. Commitments and Contingencies

Litigation

In the normal course of business, the Company may be named as a defendant in one or more lawsuits. Other than as set forth below, the Company is not a party to any outstanding material litigation and management is currently not aware of any legal proceedings that, individually or in the aggregate, are deemed to be material to the Company’s financial condition or results of operations.

On April 3, 2019, the Company filed two legal actions against, among others, Patrick Soon-Shiong and entities controlled by him, asserting claims for, among other things, fraud and breach of contract, arising out of Dr. Soon-Shiong’s purchase of the drug Cynviloq™ from the Company in May 2015. The actions allege that Dr. Soon-Shiong and the other defendants, among other things, acquired the drug Cynviloq™ for the purpose of halting its progression to the market. Specifically, the Company has filed:

21

Operating Leases

As of March 31, 2020, the Company’s leases have remaining lease terms of approximately 0.7 to 9.7 years, some of which include options to extend the lease terms for up to five years, and some of which allow for early termination. Operating lease costs were approximately $2.5 million and $2.3 million for the three months ended March 31, 2020 and 2019, respectively, and were primarily comprised of long-term operating lease costs. Short-term operating lease costs were immaterial.

Supplemental quantitative information related to leases includes the following (in thousands, except for years and percentages):

22

Maturities of lease liabilities were as follows (in thousands):

11. Income Taxes

The Company maintains deferred tax assets that reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. These deferred tax assets include net operating loss carryforwards, research credits and temporary differences. In assessing the Company’s ability to realize deferred tax assets, management considers, on a periodic basis, whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. As such, management has determined that it is appropriate to maintain a valuation allowance against the Company’s U.S. federal and state deferred tax assets, with the exception of an amount equal to schedulable deferred tax liabilities.

On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) was enacted in response to the COVID-19 pandemic. The CARES Act, among other things, permits net operating loss carryforwards generated in taxable years beginning after December 31, 2017, to offset 100% of taxable income for taxable years beginning before January 1, 2021, and 80% of taxable income in taxable years beginning after December 31, 2020. In addition, the CARES Act makes the Alternative Minimum Tax Credit 100% refundable for taxable years beginning in 2018 and 2019. The Company has recorded an income tax benefit of $0.1 million related to this legislation.

The Company’s income tax benefit of $0.3 million and $0.2 million reflect effective tax rates of 0.4% and 0.12% for the three months ended March 31, 2020 and 2019, respectively.

The difference between the expected statutory federal tax rate of 21% and the 0.4% effective tax rate for the three months ended March 31, 2020 was primarily attributable to the valuation allowance against most of the Company’s deferred tax assets. For the three months ended March 31, 2020, when compared to the same period in 2019, the increase in the tax benefit and change in effective income tax rate was primarily attributable to the impact of the Company’s valuation allowance.

The Company is subject to taxation in the U.S. and various state and foreign jurisdictions. The Company’s tax years for 2007 and later are subject to examination by the U.S. and state tax authorities due to the existence of the net operating loss and research credit carryforwards.

12. Related Party Agreements

As of March 31, 2020, approximately 14.7% of the outstanding capital stock of Scilex Holding represents a noncontrolling interest and continues to be held by ITOCHU CHEMICAL FRONTIER Corporation. Scilex Pharma has entered into a product development agreement with ITOCHU CHEMICAL FRONTIER Corporation, which serves as the sole manufacturer and supplier to Scilex Pharma for the ZTlido product. During the three months ended March 31, 2020 and 2019, Scilex Pharma purchased approximately $0.7 million and $3.2 million, respectively, of inventory from ITOCHU CHEMICAL FRONTIER Corporation.

13. Loss Per Share

For the three months ended March 31, 2020 and 2019, basic loss per common share is computed by dividing net loss by the weighted average number of common shares outstanding during the period. Diluted earnings per share of common stock is calculated to give effect to all dilutive securities, using the treasury stock method and the if-converted method for potentially dilutive shares of common stock issuable upon the Semnur Share Exchange.

23

The following table sets forth the reconciliation of basic and diluted loss per share for the three months ended March 31, 2020 and 2019 (in thousands):

The potentially dilutive stock options that would have been excluded because the effect would have been anti-dilutive for the three months ended March 31, 2020 and 2019 were 13.7 million and 3.9 million, respectively. The potentially dilutive warrants that would have been excluded because the effect would have been anti-dilutive for the three months ended March 31, 2020 and 2019 were 52.5 million and 4.5 million, respectively. Additionally, the Company excluded approximately 9.8 million potentially dilutive shares related to the Semnur Exchange because the effect would have been anti-dilutive.

14. Segment Information

The Company operates in two operating and reportable segments, Sorrento Therapeutics and Scilex. With the exception of unrestricted cash balances, the Company’s Chief Operating Decision Maker does not regularly review asset information by reportable segment and, therefore, it does not report asset information by reportable segment. The majority of long-lived assets for both segments are located in the United States.

The following table presents information about the Company’s reportable segments for the three months ended March 31, 2020 and 2019 (in thousands):