NOTES
TO CONDENSED CONSOLIDATED INTERIM FINANCIAL STATEMENTS
(UNAUDITED)
1.
Organization, Description of the Business and Liquidity
OncoCyte
Corporation (“Oncocyte”), incorporated in 2009 in the state of California, is a molecular diagnostics company focused
on developing and commercializing proprietary laboratory-developed tests (“LDTs”) to serve unmet medical needs across
the cancer care continuum. Oncocyte’s mission is to provide actionable information to physicians and patients at critical
decision points to optimize diagnosis and treatment decisions, improve patient outcomes, and reduce overall cost of care. Oncocyte
has prioritized lung cancer as its first indication. Lung cancer remains the leading cause of cancer death in the United States,
despite the availability of molecular testing and novel therapies to treat patients.
Oncocyte’s
first product for commercial release is a proprietary treatment stratification test called DetermaRx™ that identifies which
patients with early stage non-small cell lung cancer may benefit from chemotherapy, resulting in a significantly higher, five-year
survival rate. Beginning in September 2019 through February 23, 2021, Oncocyte held a 25% equity interest in Razor Genomics, Inc.
(“Razor”), a privately held company, that has developed and licensed to Oncocyte the lung cancer treatment stratification
laboratory test that Oncocyte is commercializing as DetermaRx™. On February 24, 2021, Oncocyte completed the purchase of
all the remaining issued and outstanding shares of common stock of Razor and paid the selling shareholders in total $10 million
in cash and issued them Oncocyte common stock having a market value of $5.7 million on that date. As a result of the purchase
of the Razor common stock, Oncocyte is now the sole shareholder of Razor. The acquisition of the remaining equity interests has
been accounted for as an asset acquisition in accordance with Accounting Standards Codification (“ASC”) Topic 805-50,
Business Combinations. See Note 6 for a full discussion of the Razor asset acquisition.
On
January 31, 2020 (the “Merger Date”), Oncocyte completed its acquisition of Insight Genetics, Inc. (“Insight”)
through a merger with a newly incorporated wholly-owned subsidiary of Oncocyte (the “Merger”) under the terms of an
Agreement and Plan of Merger (the “Merger Agreement”). Prior to the Merger, Insight was a privately held company specializing
in the discovery and development of the multi-gene molecular, laboratory-developed diagnostic tests that Oncocyte has branded
as DetermaIO™. DetermaIO™ is a proprietary gene expression assay with promising data supporting its potential to help
identify patients likely to respond to checkpoint inhibitor drugs. Insight has a CLIA-certified diagnostic laboratory with the
capacity to support clinical trials or assay design on certain commercially available analytic platforms that may be used to develop
additional diagnostic tests. Insight also performs Pharma Services in its CLIA-certified laboratory for pharmaceutical and biotechnology
companies, including testing for biomarker discovery, assay design and development, clinical trial support, and a broad spectrum
of biomarker tests. The Merger has been accounted for using the acquisition method of accounting in accordance with ASC 805, which
requires, among other things, that the assets and liabilities assumed be recognized at their fair values as of the acquisition
date. See Note 5 for a full discussion of the Merger.
Other
tests in the development pipeline include DetermaTx™, a test intended to compliment DetermaIO™ by assessing the mutational
status of a tumor to help identify the appropriate targeted therapy. Oncocyte also plans to initiate the development of DetermaMx™
as a blood-based test to monitor cancer patients for recurrence of their disease. Oncocyte has added to its LDT development pipeline
the TheraSure™-CNI Monitor, a patented, blood-based test for immunotherapy monitoring, and TheraSure™ Transplant Monitor,
a solid organ transplantation monitoring test, through a merger with the developer of the test Chronix Biomedical, Inc. (“Chronix”)
(see Note 15).
Liquidity
Oncocyte
has incurred operating losses and negative cash flows since inception and had an accumulated deficit of $127.6 million as of March
31, 2021. Oncocyte expects to continue to incur operating losses and negative cash flows for the foreseeable future. Oncocyte
did not generate revenues from its operations prior to the first quarter of 2020, and revenues since that period through the date
of this Report were not sufficient to cover Oncocyte’s operating expenses. Oncocyte finances its operations primarily through
the sale of shares of its common stock.
As
of March 31, 2021, Oncocyte had $58.9 million of cash and cash equivalents and held shares of Lineage Cell Therapeutics, Inc.
(“Lineage”) and AgeX Therapeutics, Inc. (“AgeX”) common stock as marketable equity securities with a combined
fair market value of $0.9 million. Oncocyte believes that its current cash, cash equivalents and marketable equity securities
are sufficient to carry out current operations through at least twelve months from the issuance date of the condensed consolidated
interim financial statements included in this Report.
On
April 23, 2020, Oncocyte obtained a U.S. Small Business Administration (“SBA”) Paycheck Protection Program (“PPP”)
loan in the principal amount of $1,140,930 from Silicon Valley Bank (the “Bank”). The PPP loan bears interest at a
rate of 1% per annum (see Note 9) and matures on April 23, 2022. The principal amount and accrued interest on the PPP loan is
subject to forgiveness by the Bank through the SBA under the provisions of the PPP loan program. Oncocyte’s application
for forgiveness of principal and accrued interest for the PPP loan is pending as of the date of this Report. Although Oncocyte
was obligated to make monthly payments of principal and interest on the PPP loan commending in November 2020, each in such equal
amount required to fully amortize the principal amount outstanding by the maturity date, Oncocyte has not been billed or charged
for any payments for the PPP loan because of its loan forgiveness application status pending. Oncocyte continues to accrue interest
on the PPP loan and there can be no assurance that any part of the PPP loan will be forgiven.
Oncocyte
will need to raise additional capital to finance its operations, including the development and commercialization of its cancer
diagnostic and other tests, until such time as it is able to generate sufficient revenues from the commercialization of one or
more of its LDTs and other tests and performing Pharma Services to cover its operating expenses.
Presently,
Oncocyte is devoting substantially all of its efforts on initial commercialization efforts for DetermaRx™ and completing
development and planning commercialization of DetermaIO™, although DetermaIO™ is currently available for biopharma
diagnostic development and research use only as a companion test in immunotherapy drug development to select patients for clinical
trials. While Oncocyte plans to primarily market its LDTs in the United States through its own sales force, it is also beginning
to make marketing arrangements with distributors in other countries. In order to reduce capital needs and to expedite the commercialization
of any new LDTs that may become available for clinical use, Oncocyte may also pursue marketing arrangements with other diagnostic
companies through which Oncocyte might receive licensing fees and royalty on sales, or through which it might form a joint venture
to market its tests and share in net revenues, in the United States or abroad.
In
addition to general economic and capital market trends and conditions, Oncocyte’s ability to raise sufficient additional
capital to finance its operations from time to time will depend on a number of factors specific to Oncocyte’s operations
such as operating revenues and expenses, progress in development of, or in obtaining reimbursement coverage from Medicare for
DetermaIO™ and other future LDTs that Oncocyte may develop or acquire. The availability of financing and Oncocyte’s
ability to generate revenues from operating activities may be adversely impacted by the ongoing COVID-19 pandemic which could
continue to cause deferrals of cancer surgeries that might otherwise have resulted in the utilization of DetermaRx™ and
deferrals of drug development clinical trials that might have utilized Oncocyte’s Pharma Services. The COVID-19 pandemic
also could continue to depress national and international economies and disrupt capital markets, supply chains, and aspects of
Oncocyte’s operations. The extent to which the ongoing COVID-19 pandemic will ultimately impact Oncocyte’s business,
results of operations, financial condition, or cash flows is highly uncertain and difficult to predict because it will depend
on many factors that are outside Oncocyte’s control. The unavailability or inadequacy of financing or revenues to meet future
capital needs could force Oncocyte to modify, curtail, delay, or suspend some or all aspects of planned operations. Sales of additional
equity securities could result in the dilution of the interests of its shareholders. Oncocyte cannot assure that adequate financing
will be available on favorable terms, if at all.
2.
Basis of Presentation and Summary of Significant Accounting Policies
Basis
of presentation
The
unaudited condensed consolidated interim financial statements presented herein, and discussed below, have been prepared in accordance
with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions
to Form 10-Q and Article 8 of Regulation S-X. In accordance with those rules and regulations certain information and footnote
disclosures normally included in comprehensive consolidated financial statements have been condensed or omitted. The condensed
balance sheet as of December 31, 2020 was derived from the audited consolidated financial statements at that date but does not
include all the information and footnotes required by GAAP. These condensed consolidated interim financial statements should be
read in conjunction with the audited financial statements and notes thereto included in Oncocyte’s Annual Report on Form
10-K for the year ended December 31, 2020.
Principles
of consolidation
On
January 31, 2020, with the consummation of the Merger, Insight became a wholly owned subsidiary of Oncocyte, and on that date
Oncocyte began consolidating Insight’s operations and results with Oncocyte’s operations and results (see Note 5).
On February 24, 2021, with the acquisition of the remaining equity interests in Razor, Razor became a wholly owned subsidiary
of Oncocyte, and on that date Oncocyte began consolidating Razor’s results with Oncocyte’s operations and results
(see Note 6).
The
accompanying condensed consolidated interim financial statements, in the opinion of management, include all adjustments, consisting
only of normal recurring adjustments, necessary for a fair presentation of Oncocyte’s financial condition and results of
operations. The condensed consolidated results of operations are not necessarily indicative of the results to be expected for
any other interim period or for the entire year. All material intercompany accounts and transactions have been eliminated in consolidation.
COVID-19
impact and related risks
The
ongoing global outbreak of COVID-19, and the various attempts throughout the world to contain it, have created significant volatility,
uncertainty and disruption. In response to government directives and guidelines, health care advisories and employee and other
concerns, Oncocyte has altered certain aspects of its operations. A number of Oncocyte’s employees have had to work remotely
from home and those on site have had to follow Oncocyte’s social distance guidelines, which could impact their productivity.
COVID-19 could also disrupt Oncocyte’s operations due to absenteeism by infected or ill members of management or other employees,
or absenteeism by members of management and other employees who cannot effectively work remotely but who elect not to come to
work due to the illness affecting others in Oncocyte’s office or laboratory facilities, or due to quarantines.
During
the COVID-19 pandemic, Oncocyte has not been able, and may continue to not be able, to maintain its preferred level of physician
or customer outreach and marketing of its diagnostic testing and Pharma Services, which may have negatively impacted and may continue
to negatively impact potential new customers’ interest in those tests and services. Because of COVID-19, travel, visits,
and in-person meetings related to Oncocyte’s business have been severely curtailed or canceled and Oncocyte has instead
used on-line or virtual meetings to meet with potential customers and others.
In
addition to operational adjustments, the consequences of the COVID-19 pandemic have led to uncertainties related to Oncocyte’s
business growth and ability to forecast the demand for its diagnostic testing and Pharma Services and resulting revenues. Concerns
over available hospital, staffing, equipment, and other resources, and the risk of exposure to the virus, has led to delays in
early stage lung cancer surgeries and clinical trials of drugs under development by pharma companies, and the continued deferral
of lung cancer surgeries and drug development clinical trials due to resurgence in COVID-19 cases could result in delayed or reduced
use of DetermaRx™ and Oncocyte’s Pharma Services.
It
is possible that impacts of COVID-19 on Oncocyte’s operations or revenues or its access to capital could prevent Oncocyte
from complying, or could result in a material noncompliance, with one or more obligations or covenants under material agreements
to which Oncocyte is a party, with the result that Oncocyte would be in material breach of the applicable obligation, covenant,
or agreement. Any such material breach could cause Oncocyte to incur material financial liabilities or an acceleration of the
date for paying a financial obligation to the other party to the applicable agreement, or could cause Oncocyte to lose material
contractual rights, such as rights to use leased equipment or laboratory or office space, or rights to use licensed patents or
other intellectual property, the use of which is material to Oncocyte’s business. Similarly, it is possible that impacts
of COVID-19 on the business, operations, or financial condition of any third party with whom Oncocyte has a contractual relationship
could cause the third party to be unable to perform its contractual obligations to Oncocyte, resulting in Oncocyte’s loss
of the benefits of a contract that could be material to Oncocyte’s business.
The
full extent to which the COVID-19 pandemic and the various responses to it might impact Oncocytes’ business, operations
and financial results will depend on numerous evolving factors that are not subject to accurate prediction and that are beyond
Oncocyte’s control.
Use
of estimates
The
preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities, and contingent assets and liabilities, at the date of the consolidated financial
statements, and the reported amounts of revenues and expenses during the reporting period. On an ongoing basis, management evaluates
estimates which are subject to significant judgment, including, but not limited to, valuation methods used, assumptions requiring
the use of judgment to prepare financial projections, timing of potential commercialization of acquired in-process intangible
assets, applicable discount rates, probabilities of the likelihood of multiple outcomes of certain events related to contingent
consideration, comparable companies or transactions, determination of fair value of the assets acquired and liabilities assumed
including those relating to contingent consideration, revenue recognition, assumptions related to going concern assessments, allocation
of direct and indirect expenses, useful lives associated with long-lived intangible assets, key assumptions in operating and financing
leases including incremental borrowing rates, loss contingencies, valuation allowances related to deferred income taxes, and assumptions
used to value debt and stock-based awards and other equity instruments. Actual results may differ materially from those estimates.
Similarly,
Oncocyte assessed certain accounting matters that generally require consideration of forecasted financial information. The accounting
matters assessed included, but were not limited to, Oncocyte’s equity investments, the carrying value of goodwill, acquired
in-process intangible assets and other long-lived assets. Those assessments as well as other estimates referenced above were made
in the context of information reasonably available to Oncocyte. While Oncocyte considered known or expected impacts of COVID-19
in making its assessments and estimates, the future impacts of COVID-19 are not presently determinable and could cause actual
results to differ materially from Oncocyte’s estimates and assessments. Oncocyte’s future analysis or forecast of
COVID-19 impacts could lead to changes in Oncocyte’s future estimates and assessments which could result in material impacts
to Oncocyte’s consolidated financial statements in future reporting periods.
Goodwill
and intangible assets
In
accordance with ASC 350, Intangibles – Goodwill and Other, in-process research and development (“IPR&D”)
projects acquired in a business combination that are not complete as of the acquisition date are capitalized and accounted for
as indefinite-lived intangible assets until completion or abandonment of the related research and development efforts. Upon successful
completion of the project, the capitalized amount is amortized over its estimated useful life. If a project is abandoned, all
remaining capitalized amounts are written off immediately. Oncocyte considers various factors and risks for potential impairment
of IPR&D assets, including the current legal and regulatory environment and the competitive landscape. Adverse clinical trial
results, significant delays or inability to obtain local determination coverage (“LCD”) from the Centers for Medicare
and Medicaid Services (“CMS”) for Medicare reimbursement for a diagnostic test, the inability to bring a diagnostic
test to market and the introduction or advancement of competitors’ diagnostic tests could result in partial or full impairment
of the related intangible assets. Consequently, the eventual realized value of the IPR&D project may vary from its fair value
at the date of acquisition, and IPR&D impairment charges may occur in future periods. During the period between completion
or abandonment, the IPR&D assets will not be amortized but will be tested for impairment on an annual basis and between annual
tests if Oncocyte becomes aware of any events occurring or changes in circumstances that would indicate a reduction in the fair
value of the IPR&D projects below their respective carrying amounts (see Notes 5 and 7).
Goodwill
represents the excess of the purchase price over the fair value of net identifiable assets and liabilities. Goodwill, similar
to IPR&D, is not amortized but is tested for impairment at least annually, or if circumstances indicate its value may no longer
be recoverable. Qualitative factors considered in this assessment include industry and market conditions, overall financial performance,
and other relevant events and factors affecting Oncocyte’s business. Based on the qualitative assessment, if it is determined
that the fair value of goodwill is more likely than not to be less than its carrying amount, the fair value of a reporting unit
will be calculated and compared with its carrying amount and an impairment charge will be recognized for the amount that the carrying
value exceeds the fair value. Oncocyte continues to operate in one segment and considered to be the sole reporting unit and, therefore,
goodwill is tested for impairment at the enterprise level.
Oncocyte
does not have intangible assets with indefinite useful lives other than goodwill and the acquired IPR&D discussed in Notes
5 and 7. As of March 31, 2021, there has been no impairment of goodwill and intangible assets.
Contingent
consideration liabilities
Certain
of Oncocyte’s asset and business acquisitions involve the potential for future payment of consideration to third-parties
and former selling shareholders in amounts determined as a percentage of future net revenues generated, or upon attainment of
revenue milestones, from Pharma Services or LDTs, as applicable, or annual minimum royalties to certain licensors, as provided
in the applicable agreements. The fair value of such liabilities is determined using unobservable inputs. These inputs include
the estimated amount and timing of projected cash flows and the risk-adjusted discount rate used to present value the cash flows
(see Notes 5 and 7). These obligations are referred to as contingent consideration.
ASC
805 requires that contingent consideration be estimated and recorded at fair value as of the acquisition date as part of the total
consideration transferred. Contingent consideration is an obligation of the acquirer to transfer additional assets or equity interests
to the selling shareholders in the future if certain future events occur or conditions are met, such as the attainment of product
development milestones. Contingent consideration also includes additional future payments to selling shareholders based on achievement
of components of earnings, such as “earn-out” provisions or percentage of future revenues, including royalties paid
to the selling shareholders based on a percentage of revenues generated from DetermaIO™ and Insight Pharma Services over
their respective useful life.
The
fair value of contingent consideration after the acquisition date is reassessed by Oncocyte as changes in circumstances and conditions
occur, with the subsequent change in fair value recorded in the consolidated statements of operations. Changes in key assumptions
can materially affect the estimated fair value of contingent consideration liabilities and, accordingly, the resulting gain or
loss that Oncocyte records in its condensed consolidated interim financial statements. See Notes 5 and 7 for a full discussion
of these liabilities.
Investments
in capital stock of privately held companies
Oncocyte
evaluates whether investments held in common stock of other companies require consolidation of the company under, first, the variable
interest entity (“VIE”) model, and then under the voting interest model in accordance with accounting guidance for
consolidations under Accounting Standards Codification (“ASC”) 810-10. If consolidation of the entity is not required
under either the VIE model or the voting interest model, Oncocyte determines whether the equity method of accounting should be
applied in accordance with ASC 323, Investments – Equity Method and Joint Ventures. The equity method applies to
investments in common stock or in-substance common stock if Oncocyte exercises significant influence over, but does not control,
the entity, where significant influence is typically represented by ownership of 20% or more, but less than majority ownership,
of the voting interests of a company.
Oncocyte
initially records equity method investments at fair value on the date of the acquisition with subsequent adjustments to the investment
balance based on Oncocyte’s pro rata share of earnings or losses from the investment.
As
of December 31, 2020, the equity method investment balance of Razor is shown in noncurrent assets on the condensed consolidated
balance sheets. Since February 24, 2021, the date of Oncocyte’s acquisition of the remaining interests in Razor, the Razor
entity’s financial statements have been consolidated with Oncocyte, and the aggregate carrying value of the preexisting
ownership interest and the cost of the additional ownership interest acquired is included in Intangible Assets, net, on the condensed
consolidated balance sheet as of March 31, 2021 (see Notes 6 and 7).
Impairment
of long-lived assets
Oncocyte
assesses the impairment of long-lived assets, which consist primarily of the Razor intangible asset, the right-of-use assets for
operating leases, customer relationships, and machinery and equipment whenever events or changes in circumstances indicate that
such assets might be impaired and the carrying value may not be recoverable. If events or changes in circumstances indicate that
the carrying amount of an asset may not be recoverable and the expected undiscounted future cash flows attributable to the asset
are less than the carrying amount of the asset, an impairment loss equal to the excess of the asset’s carrying value over
its fair value is recorded.
As
of March 31, 2021, there has been no impairment of long-lived assets.
Revenue
recognition
Prior
to January 1, 2020, Oncocyte generated no revenues. Effective on January 1, 2020, Oncocyte adopted the revenue recognition standard
ASC Topic 606, Revenue from Contracts with Customers (ASC) 606. Pursuant to ASC 606, revenues are recognized when control
of services performed is transferred to customers, in an amount that reflects the consideration Oncocyte expects to be entitled
to in exchange for those services. ASC 606 provides for a five-step model that includes, (i) identifying the contract with a customer,
(ii) identifying the performance obligations in the contract, (iii) determining the transaction price, (iv) allocating the transaction
price to the performance obligations, and (v) recognizing revenue when, or as, an entity satisfies a performance obligation.
DetermaRx™
testing revenue
In
the first quarter of 2020, Oncocyte commercially launched DetermaRx™ and commenced performing tests on clinical samples
through orders received from physicians, hospitals and other healthcare providers. In determining whether all of the revenue recognition
criteria (i) through (v) above are met with respect to DetermaRx™ tests, each test result is considered a single performance
obligation and is generally considered complete when the test result is delivered or made available to the prescribing physician
electronically and, as such, there are no shipping or handling fees incurred by Oncocyte or billed to customers. Although Oncocyte
bills a list price for all tests ordered and completed for all payer types, Oncocyte recognizes realized revenue on a cash basis
rather than accrual basis when it cannot conclude that all the revenue recognition criteria have been met. Because DetermaRx™
is a novel test and there are no current reimbursement arrangements with third-party payers other than Medicare, the transaction
price represents variable consideration. Application of the constraint for variable consideration is an area that requires significant
judgment. For all payers other than Medicare, Oncocyte must take into account the novelty of the test, the uncertainty of receiving
payment, or being subject to claims for refund, from payers with whom it does not have a sufficient payment collection history
or contractual reimbursement agreements. Accordingly, for those payers, Oncocyte expects to continue to recognize revenue on a
cash basis until it has a sufficient history to reliably estimate payment patterns or has contractual reimbursement arrangements,
or both, in place. In September 2020, Oncocyte received a final pricing decision for DetermaRx™ from CMS, and with Medicare
coverage in effect, Oncocyte commenced recognizing revenue when DetermaRx™ tests are performed for Medicare patients, or
when payment was approved by Medicare in the case of certain tests performed prior to September 2020, rather than on a cash basis.
During
the three months ended March 31, 2021, after accumulating additional history of cash receipts and other factors considered by
management for Medicare Advantage covered tests, including the recently published Medicare rate which management believes entitles
Oncocyte to get reimbursed for Medicare Advantage covered tests at the Medicare rate, Oncocyte commenced recognizing Medicare
Advantage covered tests on an accrual basis, rather than on a cash basis, at the Medicare rate.
As
of March 31, 2021, Oncocyte had accounts receivable of $0.4 million primarily from Medicare and Medicare Advantage covered DetermaRx™
tests (see Note 13).
Pharma
services revenue
Revenues
recognized include Pharma Services performed by Oncocyte’s Insight subsidiary for its pharmaceutical customers, including
testing for biomarker discovery, assay design and development, clinical trial support, and a broad spectrum of biomarker tests.
These Pharma Services are generally performed under individual scope of work (“SOW”) arrangements with specific deliverables
defined by the customer. Pharma Services are generally performed on a time and materials basis. Upon Insight’s completion
of the service to the customer in accordance with the SOW, Insight has the right to bill the customer for the agreed upon price
(either on a per test or per deliverable basis) and recognizes the pharma service revenue at that time. Insight identifies each
sale of its pharma service offering as a single performance obligation.
Completion
of the service and satisfaction of the performance obligation under a SOW is typically evidenced by access to the report or test
made available to the customer or any other form or applicable manner of delivery defined in the SOW. However, for certain SOWs
under which work is performed pursuant to the customer’s highly customized specifications, Insight has the enforceable right
to bill the customer for work completed, rather than upon completion of the SOW. For those SOWs, Insight recognizes revenue over
a period of time during which the work is performed using a formula that accounts for expended efforts, generally measured in
labor hours, as a percentage of total estimated efforts for the completion of the SOW. As Insight satisfies the performance obligation
under the SOW, any amounts earned as revenue and billed to the customer are included in accounts receivable. Any revenues earned
but not yet billed to the customer as of the date of Oncocyte’s consolidated financial statements are recorded as contract
assets and are included in prepaids and other current assets as of the financial statement date. Amounts recorded in contract
assets are reclassified to accounts receivable in Oncocyte’s consolidated financial statements when the customer is invoiced
according to the billing schedule in the contract.
Insight
establishes an allowance for doubtful accounts based on the evaluation of the collectability of its Pharma Services accounts receivables
after considering a variety of factors, including the length of time receivables are past due, significant events that may impair
the customer’s ability to pay, such as a bankruptcy filing or deterioration in the customer’s operating results or
financial position, and historical experience. If circumstances related to customers change, estimates of the recoverability of
receivables would be further adjusted. Insight continuously monitors collections and payments from customers and maintains a provision
for estimated credit losses and uncollectible accounts, if any, based upon its historical experience and any specific customer
collection issues that have been identified. Amounts determined to be uncollectible are written off against the allowance for
doubtful accounts. As of March 31, 2021, Oncocyte has not recorded any losses or allowance for doubtful accounts on its account
receivables from Pharma Services.
As
of March 31, 2021, Oncocyte had accounts receivable from Pharma Services customers of $0.3 million (see Note 13).
Cost
of revenues
Cost
of revenues generally consists of cost of materials, direct labor including benefits, bonus and stock-based compensation, equipment
and infrastructure expenses, clinical sample related costs associated with performing Pharma Services and DetermaRx™ tests,
license fees due to third parties, and also includes amortization of acquired intangible assets such as the Razor asset and customer
relationship intangible assets. Infrastructure expenses include depreciation of laboratory equipment, allocated rent costs, leasehold
improvements and allocated information technology costs for operations at Oncocyte’s CLIA laboratories in California and
Tennessee. Costs associated with performing diagnostic tests and Pharma Services are recorded as the tests or services are performed
regardless of whether revenue was recognized with respect to that test or pharma service. Royalties or revenue share payments
for licensed technology calculated as a percentage of revenues generated using the associated technology are recorded as expenses
at the time the related revenues are recognized.
Research
and development expenses
Research
and development expenses are comprised of costs incurred to develop technology, and include: salaries and benefits, including
stock-based compensation; laboratory expenses, including reagents and supplies used in research and development laboratory work;
infrastructure expenses, including allocated facility occupancy costs; and contract services and other outside costs. Indirect
research and development expenses are allocated primarily based on headcount, as applicable, and include rent and utilities, common
area maintenance, telecommunications, property taxes, and insurance. Research and development costs are expensed as incurred.
General
and administrative expenses
General
and administrative expenses consist primarily of compensation and related benefits, including stock-based compensation, for executive
and corporate personnel; professional and consulting fees; rent and utilities; common area maintenance; telecommunications; property
taxes; and insurance.
Sales
and marketing expenses
Sales
and marketing expenses consist primarily of personnel costs and related benefits, including stock-based compensation, trade show
expenses, branding and positioning expenses, and consulting fees. Sales and marketing expenses also include indirect expenses
for applicable overhead allocated based on headcount, and include allocated costs for rent and utilities, common area maintenance,
telecommunications, property taxes, and insurance.
Accounting
for Lineage and AgeX shares of common stock
Oncocyte
accounts for the shares of Lineage and AgeX common stock it holds as marketable equity securities in accordance with ASC 320-10-25,
Investments – Debt and Equity Securities, as amended by Accounting Standards Update (“ASU”) 2016-01,
Financial Instruments–Overall: Recognition and Measurement of Financial Assets and Financial Liabilities, as the
shares have a readily determinable fair value quoted on the NYSE American and are held principally to meet future working capital
purposes, as necessary. The securities are measured at fair value and reported as current assets on the condensed consolidated
balance sheets based on the closing trading price of the security as of the date being presented.
As
of March 31, 2021 and December 31, 2020, Oncocyte held 353,264 and 35,326 shares of common stock of Lineage and AgeX, respectively,
as marketable equity securities with a combined fair market value of $887,000 and $675,000, respectively.
Net
loss per common share
All
potentially dilutive common stock equivalents are antidilutive because Oncocyte reported a net loss for all periods presented.
The following common stock equivalents were excluded from the computation of diluted net loss per common share of common stock
for the periods presented because including them would have been antidilutive (in thousands):
|
|
Three Months Ended
March 31, (Unaudited)
|
|
|
|
2021
|
|
|
2020
|
|
Stock options
|
|
|
2,156
|
|
|
|
6,350
|
|
Warrants
|
|
|
3,136
|
|
|
|
3,384
|
|
Leases
Oncocyte
accounts for leases in accordance with ASC 842, Leases. Oncocyte determines if an arrangement is a lease at inception.
Leases are classified as either financing or operating, with classification affecting the pattern of expense recognition in the
consolidated statements of operations. Under the available practical expedients for the adoption of ASC 842, Oncocyte accounts
for the lease and non-lease components as a single lease component. Oncocyte recognizes right-of-use (“ROU”) assets
and lease liabilities for leases with terms greater than twelve months in the consolidated balance sheet. ROU assets represent
the right to use an underlying asset during the lease term and lease liabilities represent the obligation to make lease payments
arising from the lease. Operating lease ROU assets and liabilities are recognized at commencement date based on the present value
of lease payments over the lease term. As most leases do not provide an implicit rate, Oncocyte uses an incremental borrowing
rate based on the information available at commencement date in determining the present value of lease payments. Oncocyte uses
the implicit rate when it is readily determinable. The operating lease ROU asset also includes any lease payments made and excludes
lease incentives. Lease terms may include options to extend or terminate the lease when it is reasonably certain that Oncocyte
will exercise that option. Lease expense for lease payments is recognized on a straight-line basis over the lease term. Operating
leases are included as right-of-use assets in machinery and equipment, and ROU lease liabilities, current and long-term, in the
condensed consolidated balance sheets. Financing leases are included in machinery and equipment, and in financing lease liabilities,
current and long-term, in the consolidated balance sheets. Oncocyte discloses the amortization of our ROU assets and operating
lease payments as a net amount, “Amortization of right-of-use assets and liabilities”, on the condensed consolidated
statements of cash flows.
Based
on the available practical expedients under the standard, Oncocyte elected not to capitalize leases that have terms of twelve
months or less.
During
2020, Oncocyte entered into various operating leases and an embedded operating lease in accordance with ASC 842 discussed in Note
14. Oncocyte’s accounting for financing leases (previously referred to as “capital leases”) remained substantially
unchanged.
Recently
adopted accounting pronouncements
In
December 2019, the FASB issued ASU 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes. ASU
2019-12 removes the following exceptions: exception to the incremental approach for intraperiod tax allocation; exception to accounting
for basis differences when there are ownership changes in foreign investments; and exception to interim period tax accounting
for year-to-date losses that exceed anticipated losses. ASU 2019-12 also improves financial reporting for franchise taxes that
are partially based on income; transactions with a government that result in a step up in the tax basis of goodwill; separate
financial statements of legal entities that are not subject to tax; and enacted changes in tax laws in interim periods. Oncocyte
adopted this standard as of January 1, 2021 and there was no impact on the interim consolidated financial statements.
Recently
issued accounting pronouncements not yet adopted
The
recently issued accounting pronouncements applicable to Oncocyte that are not yet effective are disclosed in Oncocyte’s
Annual Report on Form 10-K for the year ended December 31, 2020.
3.
Selected Balance Sheet Components
Restricted
cash
ASU
2016-18, Statement of Cash Flows (Topic 230): Restricted Cash, requires that the statement of cash flows explain the change
during the period in the total of cash, cash equivalents and restricted cash, and that restricted cash be included with cash and
cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statements of cash flows.
Prior to the adoption of ASU 2016-18, restricted cash was not included with cash and cash equivalents on the statements of cash
flows.
The
following table provides a reconciliation of cash, cash equivalents, and restricted cash reported within the condensed consolidated
balance sheet dates that comprise the total of the same such amounts shown in the condensed consolidated statements of cash flows
for all periods presented in accordance with ASU 2016-18 (in thousands):
|
|
March 31, 2021
(unaudited)
|
|
|
December 31, 2020
|
|
Cash and cash equivalents
|
|
$
|
58,907
|
|
|
$
|
7,143
|
|
Restricted cash included in deposits and other noncurrent assets (see Note 14)
|
|
|
1,700
|
|
|
|
1,700
|
|
Total cash, cash equivalents, and restricted cash as shown in the condensed consolidated statements of cash flows
|
|
$
|
60,607
|
|
|
$
|
8,843
|
|
Prepaid
expenses and other current assets
As
of March 31, 2021 and December 31, 2020, prepaid expenses and other current assets were comprised of the following (in thousands):
|
|
March 31, 2021
(unaudited)
|
|
|
December 31, 2020
|
|
Prepaid insurance
|
|
$
|
1,342
|
|
|
$
|
264
|
|
Prepaid vendors, deposits and service agreements
|
|
|
977
|
|
|
|
646
|
|
Other
|
|
|
8
|
|
|
|
295
|
|
Total prepaid expenses and other current assets
|
|
$
|
2,327
|
|
|
$
|
1,205
|
|
Deposits
and other noncurrent assets
As
of March 31, 2021 and December 31, 2020, deposits and other noncurrent assets were comprised of the following (in thousands):
|
|
March 31, 2021
(unaudited)
|
|
|
December 31, 2020
|
|
Restricted cash and security deposit for the Irvine Lease (Note 14)
|
|
$
|
1,850
|
|
|
$
|
1,850
|
|
Long-term prepaid maintenance contracts
|
|
|
97
|
|
|
|
118
|
|
Other
|
|
|
88
|
|
|
|
88
|
|
Total deposits and other noncurrent assets
|
|
$
|
2,035
|
|
|
$
|
2,056
|
|
Accrued
expenses and other current liabilities
As
of March 31, 2021 and December 31, 2020, accrued expenses and other current liabilities were comprised of the following (in thousands):
|
|
March 31, 2021
(unaudited)
|
|
|
December 31, 2020
|
|
Accrued compensation (1)
|
|
$
|
2,452
|
|
|
$
|
3,556
|
|
Cash holdback liability (see Note 5)
|
|
|
-
|
|
|
|
600
|
|
Accrued vendor and other expenses
|
|
|
2,812
|
|
|
|
1,596
|
|
Total accrued expenses and other current liabilities
|
|
$
|
5,264
|
|
|
$
|
5,752
|
|
(1)
|
Includes
approximately $0.9 million in severance accrual as of March 31, 2021, in accordance with
the severance benefits provided under certain employment and severance benefit agreements,
in connection with Oncocyte’s partial reduction in force plan and salary reduction
agreements instituted in September 2020 (see Note 14).
|
4.
Right-of-use assets, machinery and equipment, net, and construction in progress
As
of March 31, 2021 and December 31, 2020, rights-of-use assets, machinery and equipment, net, and construction in progress were
as follows (in thousands):
|
|
March 31, 2021
(unaudited)
|
|
|
December 31, 2020
|
|
Right-of-use assets (1)
|
|
$
|
3,397
|
|
|
$
|
3,397
|
|
Machinery and equipment
|
|
|
2,597
|
|
|
|
2,480
|
|
Accumulated depreciation and amortization
|
|
|
(1,679)
|
|
|
|
(1,440)
|
|
Right-of-use assets, machinery and equipment, net
|
|
|
4,315
|
|
|
|
4,437
|
|
Construction in progress
|
|
|
2,951
|
|
|
|
2,087
|
|
Right-of-use assets, machinery and equipment, net, and construction in progress
|
|
$
|
7,266
|
|
|
$
|
6,524
|
|
(1)
|
Oncocyte
recorded certain right-of-use assets and liabilities for operating leases in accordance
with ASC 842 (see Notes 5 and 14).
|
Depreciation
and amortization expense amounted to $239,000 and $60,000 for the three months ended March 31, 2021 and 2020, respectively.
Construction
in progress
Construction
in progress as of March 31, 2021 includes $2.9 million for leasehold improvements, consisting primarily of the costs incurred
for the construction of Oncocyte’s primary laboratory facility at its Irvine, California headquarters. Of this amount, $1.1
million has been financed by the landlord and is included in landlord liability (see Note 14). Construction in progress is not
depreciated until the underlying asset is placed into service.
5.
Acquisition of Insight
On
January 31, 2020 (the “Merger Date”), Oncocyte completed its acquisition of Insight pursuant to the Merger Agreement.
Merger
Consideration at Closing
Under
the terms of the Merger Agreement, Oncocyte agreed to pay $7 million in cash and $5 million of Oncocyte common stock (the “Initial
Merger Consideration”), subject to a holdback for indemnity claims not to exceed ten percent of the total Merger Consideration.
The parties agreed to holdback $0.6 million in cash (“Cash Holdback”) and approximately 0.2 million shares of Oncocyte
common stock (“Stock Holdback”) through December 31, 2020, in the event that Oncocyte has indemnity claims. The Stock
Holdback shares are considered to be issued and outstanding shares of Oncocyte common stock as of the Merger Date but were placed
in an escrow account and will be released from escrow after the holdback period, less any shares that may be returned to Oncocyte
on account of any indemnity claims. Accordingly, on the Merger Date, Oncocyte delivered approximately $11.4 million in Merger
Consideration, consisting of $6.4 million in cash, which was net of the $0.6 million cash holdback, and 1.9 million shares of
Oncocyte common stock, which includes the stock holdback shares placed in escrow. The shares of Oncocyte common stock delivered
were valued at $5 million, based on the average closing price of Oncocyte common stock on the NYSE American during the five trading
days immediately preceding the date of the Merger Agreement.
In
March 2021, in accordance with the Merger Agreement, the Cash Holdback was paid and the Stock Holdback was released from escrow
to the selling shareholders.
Milestone
Payments (Milestone Contingent Consideration)
In
addition to the Initial Merger Consideration, Oncocyte may also pay contingent consideration of up to $6.0 million in any combination
of cash or shares of Oncocyte common stock if certain milestones are achieved (the “Milestone Contingent Consideration”),
which consist of (i) a $1.5 million clinical trial completion and data publication milestone, (ii) $3.0 million for an affirmative
final local coverage determination from CMS for a specified lung cancer test, and (iii) up to $1.5 million for achieving certain
CMS reimbursement milestones.
Revenue
Share (Royalty Contingent Consideration)
As
additional consideration for Insight’s shareholders, the Merger Agreement provides for Oncocyte to pay a revenue share of
not more than ten percent of net collected revenues for current Insight pharma service offerings over a period of ten years, and
a tiered revenue share percentage of net collected revenues through the end of the technology lifecycle if certain new cancer
tests are developed and commercialized using Insight technology (“Royalty Contingent Consideration”).
Registration
Rights
Pursuant
to the Merger Agreement, Oncocyte filed a registration statement with the SEC to register the resale of the shares of common stock
under the Securities Act of 1933, as amended (the “Securities Act”) issued in connection with the Merger, which the
SEC declared effective in August 2020.
Workforce
In
connection with the closing of the Merger, Oncocyte did not assume sponsorship of the Insight Equity Incentive Plan. Accordingly,
the Insight Equity Incentive Plan and all related stock options to purchase shares of Insight common stock outstanding immediately
prior to the Merger were canceled on the Merger Date for no consideration. At the Merger Date, all of Insight’s employees
ceased employment with Insight, and Oncocyte offered employment to certain of those former Insight employees, principally in laboratory
roles and certain administrative roles (“New Oncocyte Employees”), and granted new equity awards to the New Oncocyte
Employees under the Oncocyte 2018 Equity Incentive Plan. All Oncocyte stock option awards granted to the New Oncocyte Employees
have vesting terms and conditions consistent with stock options granted to most other Oncocyte employees.
Aggregate
Merger Consideration and Purchase Price Allocation
The
calculation of the aggregate merger consideration, consisting of the Initial Merger Consideration, Milestone Contingent Consideration
and Royalty Contingent Consideration (the “Aggregate Merger Consideration”) transferred on January 31, 2020, at fair
value, is shown in the following table (in thousands, except for share and per share amounts). The Milestone Contingent Consideration
and the Royalty Contingent Consideration are collectively referred to as “Contingent Consideration”.
Cash consideration
|
|
$
|
7,000
|
(1)
|
|
|
|
|
|
Stock consideration
|
|
|
|
|
|
|
|
|
|
Shares of Oncocyte common stock issued on the Merger Date
|
|
|
1,915,692
|
(2)
|
|
|
|
|
|
Closing price per share of Oncocyte common stock on the Merger Date
|
|
$
|
2.61
|
|
|
|
|
|
|
Market value of Oncocyte common stock issued
|
|
$
|
5,000
|
|
|
|
|
|
|
Contingent Consideration
|
|
$
|
11,130
|
(3)
|
|
|
|
|
|
Total fair value of consideration transferred on the Merger Date
|
|
$
|
23,130
|
|
(1)
|
The
cash consideration paid on the Merger Date was $6.4 million, which was net of a $0.6
million cash holdback discussed above, recorded as a holdback liability since Oncocyte
retained the cash. In accordance with ASC 805, amounts held back for general representations
and warranties of the sellers are included as part of the total consideration transferred.
|
|
|
(2)
|
The
229,885 Stock Holdback shares were placed in an escrow account and considered to be issued
and outstanding Oncocyte common stock. In accordance with ASC 805, amounts held back
for general representations and warranties of the sellers, including escrowed shares
of common stock, are included as part of the total consideration transferred.
|
|
|
(3)
|
In
accordance with ASC 805, Contingent Consideration, at fair value, is part of the total
considered transferred on the Merger Date, as further discussed below.
|
Aggregate
Merger Consideration allocation
Oncocyte
allocated the Aggregate Merger Consideration transferred to tangible and identifiable intangible assets acquired and liabilities
assumed based on their estimated fair values as of the Merger Date. The fair values of the identifiable intangible assets acquired
and the liabilities assumed was determined based on inputs that were unobservable and significant to the overall fair value measurement,
which is also based on estimates and assumptions made by management at the time of the Merger. As such, these were classified
as Level 3 fair value hierarchy measurements and disclosures in accordance with ASC 820, Fair Value Measurement.
The
following table sets forth the allocation of the Aggregate Merger Consideration transferred to Insight’s tangible and identifiable
intangible assets acquired and liabilities assumed on the Merger Date, with the excess recorded as goodwill (in thousands):
|
|
January 31, 2020
|
|
Assets acquired:
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
36
|
|
Accounts receivable and other current assets
|
|
|
42
|
|
Right-of-use assets, machinery and equipment
|
|
|
585
|
|
Long-lived intangible assets – customer relationships
|
|
|
440
|
|
Acquired in-process research and development
|
|
|
14,650
|
|
|
|
|
|
|
Total identifiable assets acquired (a)
|
|
|
15,753
|
|
|
|
|
|
|
Liabilities assumed:
|
|
|
|
|
Accounts payable
|
|
|
61
|
|
Right-of-use liabilities – operating lease
|
|
|
495
|
|
Contingent Consideration transferred
|
|
|
11,130
|
|
Long-term deferred income tax liability
|
|
|
1,254
|
|
|
|
|
|
|
Total identifiable liabilities assumed (b)
|
|
|
12,940
|
|
|
|
|
|
|
Net assets acquired, excluding goodwill (a) - (b) = (c)
|
|
|
2,813
|
|
|
|
|
|
|
Total cash and stock consideration transferred (d)
|
|
|
12,000
|
|
|
|
|
|
|
Goodwill (d) - (c)
|
|
$
|
9,187
|
|
The
valuation of identifiable intangible assets and applicable estimated useful lives are as follows (in thousands, except for useful
life):
|
|
Estimated Asset
Fair Value
|
|
|
Useful Life
(Years)
|
|
In process research and development (“IPR&D”)
|
|
$
|
14,650
|
|
|
|
n/a
|
|
Customer relationships
|
|
|
440
|
|
|
|
5
|
|
|
|
$
|
15,090
|
|
|
|
|
|
The
following is a discussion of the valuation methods and significant assumptions used to determine the fair value of Insights’
material assets and liabilities in connection with the Merger:
Acquired
In-Process Research and Development and Deferred Income Tax Liability – The fair value of identifiable IPR&D intangible
assets consists of $14.7 million allocated to DetermaIO™.
Oncocyte
determined the estimated aggregate fair value of DetermaIO™ using the Multi-Period Excess Earnings Method (“MPEEM”)
under the income approach. MPEEM calculates the economic benefits by determining the income attributable to an intangible asset
after the returns are subtracted for contributory assets such as working capital, assembled workforce, and fixed assets. The resulting
after-tax net earnings are discounted at a rate commensurate with the risk inherent in the economic benefit projections of the
assets.
To
calculate fair value of DetermaIO™ under MPEEM, Oncocyte used probability-weighted, projected cash flows discounted at a
rate considered appropriate given the significant inherent risks associated with similar assets. Cash flows were calculated based
on projections of revenues and expenses related to the asset and were assumed to extend through a multi-year projection period.
Revenues from commercialization of DetermaIO™ were based on the estimated market potential for the indications for use which
may include tests for the treatment of certain lung cancers and tests for the treatment of certain breast cancers. The expected
cash flows from DetermaIO™ were then discounted to present value using a weighted-average cost of capital for companies
with profiles substantially similar to that of Oncocyte and the risk inherent in the economic benefit projections of similar assets,
which Oncocyte believes represents the rate that market participants would use to value those assets. The discount rate used to
value DetermaIO™ was approximately 35%. The projected cash flows were based on significant assumptions, including the time
and resources needed to complete development of the asset, timing and reimbursement rates from CMS, regulatory approvals, if any,
to commercialize the asset, estimates of the number of tests that might be performed, revenue and operating profit expected to
be generated by the asset, the expected economic life of the asset, market penetration and competition, and risks associated with
achieving commercialization, including delay or failure to obtain CMS and any required regulatory approval, failure of clinical
trials, and intellectual property litigation.
Because
the IPR&D (prior to completion or abandonment of the research and development) is considered an indefinite-lived asset for
accounting purposes but is not recognized for tax purposes, the fair value of the IPR&D on the acquisition date generated
a deferred income tax liability (“DTL”) in accordance with ASC 740, Income Taxes. This DTL is computed using
the fair value of the IPR&D assets on the acquisition date multiplied by Oncocyte’s federal and state effective income
tax rates. While this DTL would reverse on impairment or sale or commencement of amortization of the related intangible assets,
ASC 740 allows Oncocyte to treat acquired available deferred tax assets (“DTAs”), such as Insight’s net operating
loss carryforwards (“NOLs”) (subject to the annual limitation under Section 382 of the Internal Revenue Code) as available
DTAs to offset against the DTLs, as the DTLs are expected to reverse within the NOL carryforward period. Any excess DTAs over
those DTLs would be assessed for a valuation allowance in accordance with ASC 740. This accounting treatment is acceptable if,
at the time of the acquisition, Oncocyte can both reasonably estimate a timeline to commercialization and the economic useful
life of the IPR&D assets upon commercialization, which will be amortized during the carryforward period of the offsetting
DTAs. On the Merger Date, Oncocyte estimated and recorded a net DTL of $1.3 million after offsetting the acquired available NOLs
with the IPR&D generated DTLs (see Note 12).
Customer
relationships – Insight provided a range of Pharma Services to its pharmaceutical customers. None of the Pharma Services
are related to DetermaIO™. The Pharma Service customer relationships are considered separate long-lived intangible assets
under ASC 805 and were valued primarily using the MPEEM discussed above, and will be amortized over their useful life, estimated
to be 5 years based on the net income that can be expected from these relationships in future years and based on observed historical
trends. The resulting cash flows were discounted to the valuation date based on a rate of return that recognizes a lower level
of risk associated with these assets as compared to DetermaIO™ discussed above. As of the Merger Date, there were no uncompleted
performance obligations by Insight under any of its Pharma Services contracts, therefore no deferred revenues were assumed.
Customer
relationships generate similar DTLs to IPR&D as Oncocyte records this asset for accounting purposes but not for tax purposes.
Accordingly, Oncocyte has offset all the acquired DTLs associated with the customer relationships with available acquired NOLs
and included in the amount recorded discussed above (see Note 12).
Right-of-use
assets and liabilities, machinery and equipment – Insight is a lessee under an operating lease with a third-party lessor
for its facilities, including its laboratory, in Nashville, Tennessee (the “Nashville Lease”). In April 2019, the
Nashville lease was renewed by Insight for a five-year term and is classified as an operating lease under ASC 842. In accordance
with ASC 805, when a company acquired in a business combination is a lessee, the acquirer initially measures the lease liability
and the right-of-use asset for an acquired operating lease as if the lease is new at the acquisition date. In other words, the
lease liability is measured at the present value of the remaining lease payments as of the acquisition date and the right-of-use
asset is generally measured at an amount equal to the lease liability, adjusted for favorable or unfavorable terms of the lease
when compared with market terms. Since the Nashville Lease was renewed by Insight in proximity to the Merger Date, the terms of
the Nashville Lease were considered by Oncocyte to be market terms at the Merger Date. Accordingly, Oncocyte measured the net
present value of the remaining contractual Nashville Lease payments as of the Merger Date using an incremental borrowing rate
consistent with Oncocyte’s other operating leases and recorded a right-of-use liability and a corresponding right-of-use
asset of $0.5 million. In addition, $0.1 million was allocated to certain laboratory machinery and equipment approximating the
fair value of those assets as of the Merger Date.
Contingent
consideration liabilities – ASC 805 requires that contingent consideration be estimated and recorded at fair value as
of the acquisition date as part of the total consideration transferred. Contingent consideration is an obligation of the acquirer
to transfer additional assets or equity interests to the selling shareholders in the future if certain future events occur or
conditions are met, such as the attainment of product development milestones. Contingent consideration also includes additional
future payments to selling shareholders based on achievement of components of earnings, such as “earn-out” provisions
or percentage of future revenues, including royalties paid to the selling shareholders based on a percentage of revenues generated
from DetermaIO™ and Insight Pharma Services over their respective useful life. Accordingly, Oncocyte determined there are
two types of contingent consideration in connection with the Merger, the Milestone Contingent Consideration and the Royalty Contingent
Consideration discussed below, which are collectively referred to as the “Contingent Consideration”.
There
are three milestones comprising the Milestone Contingent Consideration, collectively referred to as the Milestones, in connection
with the Insight Merger which Oncocyte valued and recorded as part of Contingent Consideration as of the Merger Date (see table
below), which consist of (i) a payment for clinical trial completion and related data publication (“Milestone 1”),
(ii) a payment for an affirmative final local coverage determination from CMS for a specified lung cancer test (“Milestone
2”), and (iii) a payment for achieving specified CMS reimbursement milestones (“Milestone 3”). If achieved,
any respective Milestone will be paid at the contractual value shown below, with the payment made either in cash or in shares
of Oncocyte common stock as determined by Oncocyte. There can be no assurance that any of the Milestones will be achieved.
There
are two separate components of the Royalty Contingent Consideration, collectively referred to as the Royalty Payments, in connection
with the Merger which Oncocyte valued and recorded as part of Contingent Consideration as of the Merger Date (see table below);
Royalty Payments consist of (i) revenue share payments based on a percentage of future sales generated from DetermaIO™ (“Royalty
1”), and (ii) revenue share payments based on percentage of future sales generated from current Insight Pharma Service offerings,
as defined in the Merger Agreement (“Royalty 2”). There can be no assurance that any revenues on which the Royalty
Payments are based will be generated from DetermaIO™ or Pharma Service offerings.
The
following table shows the Merger Date contractual payment amounts, as applicable, and the corresponding fair value of each respective
Contingent Consideration liability (in thousands):
|
|
Contractual
Value
|
|
|
Fair
Value on the
Merger Date
|
|
Milestone 1
|
|
$
|
1,500
|
|
|
$
|
1,340
|
|
Milestone 2
|
|
|
3,000
|
|
|
|
1,830
|
|
Milestone 3 (a)
|
|
|
1,500
|
|
|
|
770
|
|
Royalty 1 (b)
|
|
|
See(b)
|
|
|
|
5,980
|
|
Royalty 2 (b)
|
|
|
See(b)
|
|
|
|
1,210
|
|
Total
|
|
$
|
6,000
|
|
|
$
|
11,130
|
|
(a)
|
Indicates
the maximum payable if the Milestone achieved.
|
(b)
|
Royalty
Payments are based on a percentage of future revenues of DetermaIO™ and Pharma
Services over their respective useful life, as defined, accordingly, there is no fixed
contractual value for the Royalty Contingent Consideration.
|
The
fair value of the Milestone Contingent Consideration was determined using a scenario analysis valuation method which incorporates
Oncocyte’s assumptions with respect to the likelihood of achievement of the Milestones, credit risk, timing of the Milestone
Contingent Consideration payments and a risk-adjusted discount rate to estimate the present value of the expected payments. The
discount rate was estimated at approximately 8% after adjustment for the probability of achievement of the Milestones. No Milestone
Contingent Consideration is payable with respect to a particular Milestone unless and until the Milestone is achieved. Since the
Milestone Contingent Consideration payments are based on nonfinancial, binary events, management believes the use of the scenario
analysis method is appropriate. The fair value of each Milestone after the Merger Date is reassessed by Oncocyte as changes in
circumstances and conditions occur, with the subsequent change in fair value recorded in Oncocyte’s condensed consolidated
statements of operations.
The
fair value of the Royalty Contingent Consideration was determined using a single scenario analysis method to value the Royalty
Payments. The single scenario method incorporates Oncocyte’s assumptions with respect to specified future revenues generated
from DetermaIO™ and current Insight Pharma Services over their respective useful lives, credit risk, and a risk-adjusted
discount rate to estimate the present value of the expected royalty payments. The credit and risk-adjusted discount rate was estimated
at approximately 47%. Since the Royalty Contingent Consideration payments are based on future revenues and linear payouts, management
believes the use of the single scenario method is appropriate.
The
fair value of the Contingent Consideration after the Merger Date is reassessed by Oncocyte as changes in circumstances and conditions
occur, with the subsequent change in fair value recorded in Oncocyte’s condensed consolidated statements of operations.
As of March 31, 2021, based on Oncocyte’s reassessment of the significant assumptions note above, there was an increase
of approximately $1.1 million to the fair value of the Contingent Consideration primarily attributable to revised estimates of
the timing of the possible future payouts and, accordingly, this increase was recorded as an unrealized loss in the condensed
consolidated statements of operations for the three months ended March 31, 2021.
The
following table reflects the activity for Oncocyte’s Contingent Consideration since the Merger Date, measured at fair value
using Level 3 inputs (in thousands):
|
|
Fair Value
|
|
Balance at December 31, 2020
|
|
$
|
7,120
|
|
Change in estimated fair value
|
|
|
1,060
|
|
Balance at March 31, 2021
|
|
$
|
8,180
|
|
Contingent
consideration is not deductible for tax purposes, even if paid; therefore, no deferred tax assets related to the Contingent Consideration
were recorded.
Goodwill
– Goodwill is calculated as the difference between the acquisition date fair value of the consideration transferred
and the values assigned to the assets acquired and liabilities assumed, including Contingent Consideration. Goodwill also includes
the $1.3 million of net deferred tax liabilities recorded principally related to DetermaIO™ and customer relationships discussed
above. Goodwill is not amortized but is tested for impairment at least annually, or more frequently if circumstances indicate
potential impairment (see Notes 2 and 7). The slight increase to Goodwill as of March 31, 2021 from December 31, 2020 was related
to the true up of the final working capital adjustment paid to the selling shareholders in March 2021.
Goodwill
and identifiable intangible assets are not amortizable or deductible for tax purposes since these assets are not recognized for
tax purposes.
6.
Asset acquisition of Razor Genomics, Inc.
On
September 30, 2019, Oncocyte completed the purchase of 1,329,870 shares of Razor Series A Convertible Preferred Stock, par value
$0.0001 per share (the “Preferred Stock”), representing 25% of the outstanding equity of Razor on a fully diluted
basis, for $10 million in cash (the “Initial Closing”) pursuant to a Subscription and Stock Purchase Agreement (the
“Purchase Agreement”), dated September 4, 2019, among Oncocyte, Encore Clinical, Inc. (“Encore”), and
Razor. Pursuant to the Purchase Agreement, Oncocyte entered into Minority Holder Stock Purchase Agreements of like tenor (the
“Minority Purchase Agreements”) with the shareholders of Razor other than Encore (the “Minority Shareholders”)
for the future purchase of the shares of Razor common stock they own. Oncocyte has also entered into certain other agreements
with Razor and Encore, including a Sublicense and Distribution Agreement (the “Sublicense Agreement”), a Development
Agreement (the “Development Agreement”), and an amendment to a Laboratory Services Agreement (the “Laboratory
Agreement”) pursuant to which Oncocyte became a party to that agreement.
Purchase
Option
The
Purchase Agreement and Minority Shareholder Agreements granted Oncocyte the option to acquire the balance of the outstanding shares
of Razor common stock from Encore under the Purchase Agreement and from the Minority Shareholders under the Minority Purchase
Agreements (the “Option”) for an additional $10 million in cash and Oncocyte common stock valued at $5 million in
total (the “Additional Purchase Payment”). Oncocyte agreed to exercise the Option if, within a specified time frame,
certain milestones are met related to the contracting of clinical trial sites for a clinical trial of DetermaRx™.
On
January 29, 2021, the principal shareholder of Razor informed Oncocyte that the milestone requiring Oncocyte to purchase the outstanding
shares of Razor common stock had been attained under the Purchase Agreement and Minority Shareholder Purchase Agreements. On February
24, 2021, Oncocyte exercised the Option and completed the purchase of all of the issued and outstanding shares of common stock
of Razor and paid the selling shareholders in total $10 million in cash and issued a total of 982,318 shares of Oncocyte common
stock having a market value of $5.7 million on that date. As a result of Oncocyte exercising the Option and purchasing the Razor
common stock, Oncocyte is now the sole shareholder of Razor.
Development
Agreement
Under
the Development Agreement, Razor reserved as a “Clinical Trial Expense Reserve” $4 million of the proceeds it received
at the Initial Closing from the sale of the Preferred Stock to Oncocyte, to fund Razor’s share of costs incurred in connection
with a clinical trial of DetermaRx™ for purposes of promoting commercialization (“Clinical Trial”).
On
February 24, 2021, upon the completion of the outstanding shares of Razor common stock and consolidation of Razor’s accounts,
Oncocyte obtained control of approximately $3.4 million in cash from Razor, which was the remaining balance in the Clinical Trial
Expense Reserve account that Razor was using to pay for the Clinical Trial expenses. Beginning on February 24, 2021, this balance
was transferred to Oncocyte’s control as part of the acquisition date assets and liabilities recorded from the Razor entity
shown below. Oncocyte will be responsible for all expenses for the Clinical Trial up to the total budget amount approved by representatives
of Oncocyte and Encore on a Steering Committee, which is expected to cover multiple years and is estimated to cost up to $16 million.
Upon
completion of enrollment of the full number of patients for the Clinical Trial, Oncocyte will issue to Encore and the Minority
Shareholders shares of Oncocyte common stock with an aggregate market value at the date of issue equal to $3 million (“Clinical
Trial Milestone Payment”). If the issuance of shares of common stock having a market value of $3 million would require Oncocyte
to issue a number of shares that, when combined with any shares issued under the Purchase Agreement and the Minority Shareholder
Purchase Agreements, would exceed the number of shares that may be issued without shareholder approval under applicable stock
exchange rules, Oncocyte may deliver the number of shares permissible under stock exchange rules and an amount of cash necessary
to bring the combined value of cash and shares to $3 million.
If,
within a specified time frame, Encore is substantially responsible for obtaining funding to Oncocyte or Razor for the Clinical
Trial from any third-party pharmaceutical company, a portion of such additional funding amount will be paid to Encore, subject
to a $3 million cap on the payment to Encore if the funding is provided by a designated pharmaceutical company.
Sublicense
Agreement
Under
the Sublicense Agreement, Razor granted to Oncocyte an exclusive worldwide sublicense under certain patent rights applicable to
DetermaRx™ in the field of use covered by the applicable license held by Razor for purposes of commercialization and development
of DetermaRx™.
Pursuant
to the Razor Sublicense Agreement, Oncocyte will pay all royalties and all revenue sharing and earnout payments owed by Razor
to certain third parties with respect to DetermaRx™ revenues, including the licensor of the patent rights sublicensed to
Oncocyte, but those payments will be deducted from gross revenues to determine net revenues for the purpose of paying royalties
to the former Razor shareholders. Total royalty and earnout payments to the former Razor shareholders, the licensor, and other
third parties will be a low double-digit percentage, and in addition certain milestone payments may become due if cumulative net
revenue benchmarks are reached. Royalties and earnout payments will be payable on a quarterly basis. This payment obligation will
continue after Oncocyte’s purchase of the Razor common stock from Encore and the Minority Shareholders.
Laboratory
Agreement
Under
the Laboratory Agreement, Oncocyte has assumed Razor’s Laboratory Agreement payment obligations of $450,000 per year (see
Note 14). The Laboratory Agreement gives Oncocyte the right to use Razor’s CLIA laboratory in Brisbane, California. Oncocyte
pays Encore a quarterly fee for services related to operating and maintaining the CLIA laboratory, including certain staffing.
The Laboratory Agreement will expire on September 29, 2021, but Oncocyte may extend the term for additional one-year periods,
or Oncocyte may terminate the agreement at its option. Oncocyte also has the right to terminate the Laboratory Agreement if there
is an event or occurrence that adversely affects, in any material respect, DetermaRx™ or its prospects or its ability to
be commercialized, and it remains continuing and uncured.
Accounting
for the Razor Investment
Beginning
on the Initial Closing and through February 23, 2021, Oncocyte has accounted for the Razor investment under the equity method
of accounting under ASC 323 because prior to the Additional Purchase Payment discussed above Oncocyte exercised significant influence
over, but did not control, the Razor entity. Oncocyte did not control Razor because, among other factors, Oncocyte was entitled
to designate one person to serve on a three-member board of directors of Razor, with the other two members designated by Encore.
Also, any deadlocked decisions by a Steering Committee of Oncocyte and Encore representatives that makes decisions with respect
to the Clinical Trial, other than with respect to the Clinical Trial budget, will be resolved by a member designated by Encore.
Prior
to February 24, 2021, the aggregate Razor acquisition payments of $11.245 million incurred during September 2019 and a $4 million
CMS milestone payment made by Oncocyte during June 2020 under the Development Agreement, were amortized over a 10-year useful
life of DetermaRx™ and were reflected in Oncocyte’s pro rata earnings and losses of the equity method investment in
Razor in the consolidated statements of operations. Beginning on February 24, 2021, Razor’s results are included with Oncocyte’s
consolidated results, primarily consisting of outside research and development expenses incurred by Razor for the Clinical Trial.
The
Initial Closing equity method investment in Razor and the Additional Purchase Payment for the remaining interests in Razor are
both considered an asset acquisition, rather than a business combination, because, among other factors, Razor had no workforce,
no commercial product (Razor had granted all commercial rights to Oncocyte), no revenues, no distribution system and no facilities.
Substantially all of the fair value of Razor’s assets at the Initial Closing and on February 24, 2021 was concentrated in
Razor’s intangible asset, the DetermaRx™ patent and related know-how, thus satisfying the requirements of the practical
screen test to be considered an asset acquisition in accordance with ASU 2017-01, Business Combinations (Topic 805): Clarifying
the Definition of a Business. Accordingly, no goodwill may be recognized in an asset acquisition in accordance with ASC 805-50.
As
Razor became a wholly-owned subsidiary of Oncocyte on February 24, 2021, the DTA associated with the previous equity method investment
was reversed. There is no tax effect of this reversal as the DTA had been fully offset by a valuation allowance (see Note 12).
However, upon payment of the Additional Purchase Payment, Oncocyte recorded an additional step-up to fair value for the Razor
intangible asset under ASC 805-50 for financial reporting purposes but this “step-up” is not recognized for income
tax purposes. As a result, the fair value adjustment of the Razor intangible asset on the acquisition date generated a DTL in
accordance with ASC 740. This DTL is computed using the fair value of the intangible assets on the acquisition date multiplied
by Oncocyte’s federal and state effective income tax rates, using the simultaneous equations method for asset acquisitions
under the guidance provided in ASC 740-10-25-51, which requires that the DTL be recognized as part of the investment of the acquired
asset instead of any immediate income tax expense or benefit arising from the recognition of the DTL. Furthermore, ASC 740 allows
Oncocyte to treat acquired available deferred tax assets, such as Razor’s NOLs (subject to the annual limitation under Section
382 of the Internal Revenue Code) as available DTAs to offset against the DTLs, as the DTLs are expected to reverse within the
NOL carryforward period. Any excess DTAs over those DTLs would be assessed for a valuation allowance in accordance with ASC 740.
On
February 24, 2021, Oncocyte estimated and recorded a net DTL of $7.6 million after offsetting the acquired available NOLs with
the intangible asset shown in the table below. See also Note 12 for a discussion related to the partial release of Oncocyte’s
valuation allowance pertaining to the DTL generated above in accordance with ASC 740.
On
February 24, 2021, upon Oncocyte’s acquisition of the outstanding common stock of Razor, the Razor intangible asset balance
recorded on the acquisition date and included in Intangible Assets was as follows (in thousands):
|
|
As of February 24, 2021
|
|
Razor intangible asset recorded on the acquisition date:
|
|
|
|
|
Equity method investment carrying value
|
|
$
|
13,147
|
|
Cash paid as Additional Purchase Payment for the Razor asset
|
|
|
10,000
|
|
Oncocyte common stock issued (982,318 shares issued at market value) as Additional Purchase Payment
|
|
|
5,756
|
|
Less: cash balance received from Razor for Clinical Trial expenses
|
|
|
(3,352)
|
|
Deferred tax liability generated from the Razor asset (Note 12)
|
|
|
7,564
|
|
Other
|
|
|
169
|
|
|
|
|
|
|
Total Razor investment asset balance as of February 24, 2021 (a)
|
|
$
|
33,284
|
|
|
(a)
|
This
balance will be amortized over the remaining useful life of the Razor asset, approximating
8.5 years, as of the February 24, 2021 acquisition date, with the amortization expense
included in “Cost of revenues – amortization of acquired intangibles”
on the consolidated statements of operations.
|
Under
ASC 805-50, for asset acquisitions, the remaining Clinical Trial Milestone Payment will be recorded only if the consideration
is both probable (milestone has been achieved) and estimable in accordance with ASC 450, Contingencies, and as of March
31, 2021, no contingent consideration payment was recorded as the Clinical Trial Milestone Payment was not deemed probable of
achievement as of that date.
Summarized
standalone financial data for Razor from January 1, 2021 through February 23, 2021
The
unaudited standalone results of operations for Razor prior to being consolidated with Oncocyte is summarized below (in thousands):
Condensed Statement of Operations (1)
|
|
For the period from
January 1, 2021 through
February 23, 2021
(unaudited)
|
|
Research and development expense
|
|
$
|
125
|
|
General and administrative expense
|
|
|
-
|
|
Loss from operations
|
|
|
(125)
|
|
Net loss
|
|
$
|
(125)
|
|
|
(1)
|
The
condensed standalone statement of operations of Razor is provided for informational purposes
only. Razor’s results for the period from January 1, 2021 through February 23,
2021 are not included in Oncocyte’s consolidated results of operations because
Razor was not consolidated with Oncocyte’s financial statements but had been accounted
for under the equity method of accounting since the September 30, 2019 Initial Closing
date, however, Oncocyte’s results included its pro rata losses from Razor. Beginning
on February 24, 2021, Razor’s results are included with Oncocyte’s consolidated
results, primarily consisting of outside research and development expenses incurred by
Razor for the Clinical Trial discussed above.
|
7.
Goodwill and Intangible Assets, net
At
March 31, 2021 and December 31, 2020, goodwill and intangible assets, net, consisted of the following (in thousands):
|
|
March 31, 2021
(unaudited)
|
|
|
December 31, 2020
|
|
Goodwill (1)
|
|
$
|
9,194
|
|
|
$
|
9,187
|
|
|
|
|
|
|
|
|
|
|
Intangible assets:
|
|
|
|
|
|
|
|
|
Acquired IPR&D – DetermaIO™ (2)
|
|
|
14,650
|
|
|
|
14,650
|
|
|
|
|
|
|
|
|
|
|
Intangible assets subject to amortization:
|
|
|
|
|
|
|
|
|
Acquired intangible assets – customer relationship
|
|
|
440
|
|
|
|
440
|
|
Acquired intangible asset – Razor (see Note 6)
|
|
|
33,284
|
|
|
|
-
|
|
Total intangible assets
|
|
|
48,374
|
|
|
|
15,090
|
|
Accumulated amortization (3)
|
|
|
(388)
|
|
|
|
(81)
|
|
Intangible assets, net
|
|
$
|
47,986
|
|
|
$
|
15,009
|
|
|
(1)
|
Goodwill
represents the excess of the purchase price over the fair value of the net tangible and
identifiable intangible assets acquired in the Merger (see Note 5).
|
(2)
See Note 5 for information on the Merger consummated on January 31, 2020.
(3)
Amortization of intangible assets is included in “Cost of revenues – amortization of acquired intangibles” on
the consolidated statements of operations because the intangible assets pertain directly to the revenues generated from the acquired
intangibles.
8.
Related Party Transactions
Financing
Transactions
On
January 2, 2020, Oncocyte entered into Subscription Agreements with selected investors, including Broadwood Partners, L.P. (“Broadwood”)
and certain funds and accounts managed by Pura Vida Investments LLC (“Pura Vida”), in a registered direct offering
of 3,523,776 shares of common stock, no par value, at an offering price of $2.156 per share, for an aggregate purchase price of
approximately $7.6 million. Broadwood and Pura Vida each beneficially own more than 5% of the outstanding Oncocyte common stock.
During
April 2020, Oncocyte sold 4,733,700 shares of common stock, no par value, at an offering price of $2.27 per share, for an aggregate
purchase price of approximately $10.75 million, in a registered direct offering. Oncocyte paid no fees or commissions to broker-dealers
or any underwriting or finder’s fees. Broadwood and certain funds and accounts managed by Pura Vida purchased shares in
the offering.
On
January 20, 2021, Oncocyte entered into Subscription Agreements with certain institutional investors for a registered direct offering
of 7,301,410 shares of common stock, no par value, at an offering price of $3.424 per share, for an aggregate purchase price of
$25.0 million. The price per share was the average of the closing price of our common stock on the NYSE American for the five
trading days prior to the date on which we and the investors executed the Subscription Agreements. Oncocyte did not pay any fees
or commissions to broker-dealers or any finder’s fees, nor did it issue any stock purchase warrants, in connection with
the offer and sale of the shares. The investors included Broadwood and certain investment funds and accounts managed by Pura Vida.
On
February 9, 2021, Oncocyte completed an underwritten public offering of 8,947,000 shares of common stock at a public offering
price of $4.50 per share, before underwriting discounts and commissions (the “Offering”). Oncocyte received aggregate
net proceeds of approximately $37.5 million, after deducting commissions, discounts and estimated expenses related to the Offering.
Broadwood purchased 600,000 shares in the Offering.
Consulting
Services
During
the three months ended March 31, 2020, Oncocyte incurred consulting fees of $0.3 million to a consulting firm in which Oncocyte’s
current President and Chief Executive Officer, Ronald Andrews, and Oncocyte’s current Chief Scientific Officer (“CSO”),
Douglass Ross, were former partners. Mr. Andrews resigned from the firm as an active partner effective June 30, 2019, the date
prior to commencement of his employment by Oncocyte. Since Dr. Ross’ appointment as CSO in March 2020, and while he remains
employed by Oncocyte, Dr. Ross will no longer provide any services nor receive any payments for services from the consulting firm.
Payments for the three months ended March 31, 2021 were insignificant.
9.
Loan Payable to Silicon Valley Bank
On
February 21, 2017, Oncocyte entered into a Loan and Security Agreement (the “Loan Agreement”) with Silicon Valley
Bank (the “Bank”) pursuant to which Oncocyte borrowed $2.0 million. Payments of interest only on the principal balance
were due monthly from the loan funding date, March 23, 2017, through October 31, 2017, and, beginning on November 1, 2017, monthly
payments of principal of approximately $67,000 plus interest are due and payable.
The
outstanding principal amount plus accrued interest was due and payable to the Bank at maturity on April 1, 2020, but was paid
off through a loan refinancing completed in October 2019, including a payment of a $116,000 final payment fee due under the terms
of the Loan Agreement. The Bank waived a 1.0% prepayment fee in connection with the refinancing of the loan.
Amended
Loan Agreement
On
October 17, 2019, Oncocyte entered into a First Amendment to Loan and Security Agreement (the “Amended Loan Agreement”)
with the Bank pursuant to which Oncocyte obtained a new $3 million secured credit facility (“Tranche 1”), a portion
of which was used to repay the remaining balance of approximately $400,000 on outstanding loans from the Bank, plus a final payment
of $116,000, under the February 21, 2017 Loan Agreement. The credit line under the Amended Loan Agreement may be increased by
an additional $2 million (“Tranche 2”) if Oncocyte obtains at least $20 million of additional equity capital, as was
the case with the original Loan Agreement, and a positive final coverage determination is received from CMS for DetermaRx at a
specified minimum price point per test (the “Tranche 2 Milestone”), and Oncocyte is not in default under the Amended
Loan Agreement.
Payments
of interest only on the principal balance were due monthly from the draw date through March 31, 2020, followed by 24 monthly payments
of principal and interest, but the Bank has agreed to a deferral of principal payments, as discussed below. The outstanding principal
balance of the loan will bear interest at a stated floating annual interest equal to the greater of (a) the prime rate or (b)
5% per annum. As of March 31, 2021, the latest published prime rate was 3.25% per annum.
On
April 2, 2020, as part of the Bank’s COVID-19 pandemic relief program, Oncocyte and the Bank entered into a Loan Deferral
Agreement (“Loan Deferral”) with respect to the Amended Loan Agreement. Under the Loan Deferral Agreement, the Bank
agreed to (i) extend the scheduled maturity date of the Amended Loan Agreement from March 31, 2022 to September 30, 2022, and
(ii) deferred the principal payments by an additional 6 months whereby payments of interest only on the Bank loan principal balance
will be due monthly from May 1, 2020 through October 1, 2020, followed by 23 monthly payments of principal and interest beginning
on November 1, 2020, all provided at no additional fees to Oncocyte. No other terms of the Amended Loan Agreement were changed
or modified. The Loan Deferral was accounted for as a modification of debt in accordance with ASC 470-50, Debt – Modifications
and Extinguishments, thus there was no gain or loss recognized on the transaction.
At
maturity of the loan, Oncocyte will also pay the Bank an additional final payment fee of $200,000, which was recorded as a deferred
financing charge in October 2019 and is being amortized to interest expense over the term of the loan using the effective interest
method. As of March 31, 2021, the unamortized deferred financing cost was $50,000.
Oncocyte
may prepay in full the outstanding principal balance at any time, subject to a prepayment fee equal to 2.0% of the outstanding
principal balance if prepaid more than one year but less than two years after October 17, 2019, or 1.0% of the outstanding principal
balance if prepaid two years or more after October 17, 2019. Any amounts borrowed and repaid may not be reborrowed.
The
outstanding principal amount of the loan, with interest accrued, the final payment fee, and the prepayment fee may become due
and payable prior to the applicable maturity date if an “Event of Default” as defined in the Amended Loan Agreement
occurs. Oncocyte was in compliance with the Amended Loan Agreement as of the filing date of this Report.
Bank
Warrants
In
2017, in connection with the Loan Agreement, Oncocyte issued common stock purchase warrants to the Bank (the “2017 Bank
Warrants”) entitling the Bank to purchase shares of Oncocyte common stock in tranches related to the loan tranches under
the Loan Agreement. In conjunction with the availability of the loan, the Bank was issued warrants to purchase 8,247 shares of
Oncocyte common stock at an exercise price of $4.85 per share, through February 21, 2027. On March 23, 2017, the Bank was issued
warrants to purchase an additional 7,321 shares at an exercise price of $5.46 per share, through March 23, 2027. The Bank may
elect to exercise the 2017 Bank Warrants on a “cashless exercise” basis and receive a number of shares determined
by multiplying the number of shares for which the applicable tranche is being exercised by (A) the excess of the fair market value
of the common stock over the applicable exercise price, divided by (B) the fair market value of the common stock. The fair market
value of the common stock will be the last closing or sale price on a national securities exchange, interdealer quotation system,
or over-the-counter market.
On
October 17, 2019, in conjunction with Tranche 1 becoming available under the Amended Loan Agreement, Oncocyte issued a common
stock purchase warrant to the Bank (the “2019 Bank Warrant”) entitling the Bank to purchase 98,574 shares of Oncocyte
common stock at the initial “Warrant Price” of $1.69 per share through October 17, 2029. The number of shares of common
stock issuable upon the exercise of the 2019 Bank Warrant will increase on the date of each draw, if any, on Tranche 2. The number
of additional shares of common stock issuable upon the exercise of the 2019 Bank Warrant will be equal to 0.02% of Oncocyte’s
fully diluted equity outstanding for each $1 million draw under Tranche 2. The Warrant Price for Tranche 2 warrant shares will
be determined upon each draw of Tranche 2 funds and will be closing price of Oncocyte common stock on the NYSE American or other
applicable market on the date immediately before the applicable date on which Oncocyte borrows funds under Tranche 2. The Bank
may elect to exercise the 2019 Bank Warrant on a “cashless exercise” basis and receive a number of shares determined
by multiplying the number of shares for which the 2019 Bank Warrant is being exercised by (A) the excess of the fair market value
of the common stock over the applicable Warrant Price, divided by (B) the fair market value of the common stock. The fair market
value of the common stock will be last closing or sale price on a national securities exchange, interdealer quotation system,
or over-the-counter market.
Paycheck
Protection Program Loan
On
April 23, 2020, Oncocyte obtained a PPP loan from the Bank in the principal amount of $1,140,930. The PPP loan bears interest
at a rate of 1% per annum and matures on April 23, 2022. Under the provisions of the PPP loan, the principal amount and accrued
interest is subject to forgiveness by the Bank through the SBA. Oncocyte’s loan forgiveness application with the SBA is
pending as of the date of this Report. Although Oncocyte was obligated to make monthly payments of principal and interest commencing
on November 23, 2020, each in such equal amount required to fully amortize the principal amount outstanding on the PPP loan by
the maturity date, Oncocyte has not been billed or charged for any repayment amounts on the PPP loan because of its loan forgiveness
application pending status. Oncocyte continues to accrue interest on the PPP loan and there can be no assurance that any part
of the PPP loan will be forgiven.
The
PPP loan promissory note contains customary borrower default provisions and lender remedies, including the right of the Bank to
require immediate repayment in full the outstanding principal balance of the PPP loan with accrued interest.
10.
Shareholders’ Equity
Preferred
Stock
Oncocyte
is authorized to issue 5,000,000 shares of no par value preferred stock. As of March 31, 2021, no preferred shares were issued
or outstanding.
Common
Stock
Oncocyte
has 150,000,000 shares of common stock, no par value, authorized. As of March 31, 2021 and December 31, 2020, respectively, Oncocyte
had 88,914,128 and 69,116,802 shares of common stock issued and outstanding.
Common
Stock Purchase Warrants
As
of March 31, 2021, Oncocyte had an aggregate of 3,135,662 common stock purchase warrants issued and outstanding with exercise
prices ranging from $1.69 to $5.50 per warrant. The warrants will expire on various dates through October 17, 2029. Certain warrants
have “cashless exercise” provisions meaning that the value of a portion of warrant shares may be used to pay the exercise
price rather than payment in cash, which may be exercised under any circumstances in the case of the 2017 Bank Warrants and 2019
Bank Warrants or, in the case of certain other warrants, only if a registration statement for the warrants and underlying shares
of common stock is not effective under the Securities Act or a prospectus in the registration statement is not available for the
issuance of shares upon the exercise of the warrants.
Oncocyte
has considered the guidance in ASC 815-40, Accounting for Derivative Financial Instruments Indexed to, and Potentially Settled
in, a Company’s Own Stock, which states that contracts that require or may require the issuer to settle the contract
for cash are liabilities recorded at fair value, irrespective of the likelihood of the transaction occurring that triggers the
net cash settlement feature. This liability classification guidance also applies to financial instruments that may require cash
or other form of settlement for transactions outside of the company’s control and, in which the form of consideration to
the warrant holder may not be the same as to all other shareholders in connection with the transaction. However, if a transaction
is not within the company’s control but the holder of the financial instrument can solely receive the same type or form
of consideration as is being offered to all the shareholders in the transaction, then equity classification of the financial instrument
is not precluded, if all other applicable equity classification criteria are met. Based on the above guidance and, among other
factors, the fact that the warrants cannot be cash settled under any circumstance but require share settlement, all of the outstanding
warrants meet the equity classification criteria and have been classified as equity.
Reconciliation
of Changes in Shareholders’ Equity
The
following tables show changes in components of shareholders’ equity for the three months ended March 31, 2021 (unaudited
and in thousands).
|
|
Common Stock
|
|
|
Accumulated Other
Comprehensive
|
|
|
Accumulated
|
|
|
Total
Shareholders’
|
|
|
|
Shares
|
|
|
Amount
|
|
|
Loss
|
|
|
Deficit
|
|
|
Equity
|
|
BALANCE AT JANUARY 1, 2021
|
|
|
69,117
|
|
|
$
|
157,160
|
|
|
$
|
-
|
|
|
$
|
(123,677)
|
|
|
$
|
33,483
|
|
Net loss
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
(3,919)
|
|
|
|
(3,919)
|
|
Stock-based compensation
|
|
|
-
|
|
|
|
1,290
|
|
|
|
-
|
|
|
|
-
|
|
|
|
1,290
|
|
Sale of common shares, including at-the-market transactions
|
|
|
18,427
|
|
|
|
71,746
|
|
|
|
-
|
|
|
|
-
|
|
|
|
71,746
|
|
Financing costs paid to issue common shares, including at-the-market transactions
|
|
|
-
|
|
|
|
(2,878)
|
|
|
|
-
|
|
|
|
-
|
|
|
|
(2,878)
|
|
Exercise of stock options
|
|
|
140
|
|
|
|
348
|
|
|
|
-
|
|
|
|
-
|
|
|
|
348
|
|
Exercise of warrants
|
|
|
248
|
|
|
|
802
|
|
|
|
-
|
|
|
|
-
|
|
|
|
802
|
|
Issuance of common stock to Razor Genomics
|
|
|
982
|
|
|
|
5,756
|
|
|
|
-
|
|
|
|
-
|
|
|
|
5,756
|
|
BALANCE AT MARCH 31, 2021
|
|
|
88,914
|
|
|
$
|
234,224
|
|
|
$
|
-
|
|
|
$
|
(127,596)
|
|
|
$
|
106,628
|
|
The
following table shows changes in components of shareholders’ equity for the three months ended March 31, 2020 (unaudited
and in thousands).
|
|
Common Stock
|
|
|
Accumulated Other Comprehensive
|
|
|
Accumulated
|
|
|
Total
Shareholders’
|
|
|
|
Shares
|
|
|
Amount
|
|
|
Loss
|
|
|
Deficit
|
|
|
Equity
|
|
BALANCE AT JANUARY 1, 2020
|
|
|
57,032
|
|
|
$
|
124,583
|
|
|
$
|
-
|
|
|
$
|
(93,745)
|
|
|
$
|
30,838
|
|
Net loss
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
(7,732)
|
|
|
|
(7,732)
|
|
Stock-based compensation
|
|
|
-
|
|
|
|
937
|
|
|
|
-
|
|
|
|
-
|
|
|
|
937
|
|
Sale of common shares
|
|
|
3,523
|
|
|
|
7,597
|
|
|
|
-
|
|
|
|
-
|
|
|
|
7,597
|
|
Financing costs paid to issue common shares
|
|
|
-
|
|
|
|
(1)
|
|
|
|
-
|
|
|
|
-
|
|
|
|
(1)
|
|
Shares issued upon vesting of RSU, net of shares retired to pay employees’ taxes
|
|
|
13
|
|
|
|
(14)
|
|
|
|
-
|
|
|
|
-
|
|
|
|
(14)
|
|
Issuance of common stock for Insight Genetics acquisition
|
|
|
1,916
|
|
|
|
5,000
|
|
|
|
-
|
|
|
|
-
|
|
|
|
5,000
|
|
BALANCE AT MARCH 31, 2020
|
|
|
62,484
|
|
|
$
|
138,102
|
|
|
$
|
-
|
|
|
$
|
(101,477)
|
|
|
$
|
36,625
|
|
11.
Stock-Based Compensation
Oncocyte
had a 2010 Stock Option Plan (the “2010 Plan”) under which 5,200,000 shares of common stock were authorized for the
grant of stock options or the sale of restricted stock. On August 27, 2018, Oncocyte shareholders approved a new Equity Incentive
Plan (the “2018 Incentive Plan”) to replace the 2010 Plan. In adopting the 2018 Incentive Plan, Oncocyte terminated
the 2010 Plan and will not grant any additional stock options or sell any stock under restricted stock purchase agreements under
the 2010 Plan; however, stock options issued under the 2010 Plan will continue in effect in accordance with their terms and the
terms of the 2010 Plan until the exercise or expiration of the individual options.
In
2018, under the 2010 Plan, Oncocyte granted certain stock options with exercise prices ranging from $2.30 per share to $3.15 per
share, that will vest in increments upon the attainment of specified performance conditions related to the development of DetermaDx™
and obtaining Medicare reimbursement coverage for that test (“Performance-Based Options”). The Medicare reimbursement
conditions will not be met as Oncocyte has determined not to pursue commercialization of DetermaDx™. Approximately 125,000
stock options granted in May 2018 contain a hybrid vesting condition which vest on the earlier to occur of three years of service
from the grant date or achieving a defined Performance-Based Option milestone with respect to DetermaDx™ local decision
coverage. These stock options are considered to be service-based awards for financial accounting purposes with the fair value
of the options being recognized in stock-based compensation expense over an effective three-year service period.
During
the three months ended March 31, 2021, no stock-based compensation expense was recorded with regard to the Performance-Based Options
due to the discontinuation of development of DetermaDx™. During the three months ended March 31, 2020, certain performance
conditions required for vesting were met, and, accordingly, 50,000 shares vested and $106,000 of stock-based compensation expense
was recorded with regard to the Performance-Based Options. As of March 31, 2021, there were no Performance-Based Options outstanding.
A
summary of Oncocyte’s 2010 Plan activity and related information follows (in thousands except weighted average exercise
price):
Options
|
|
Shares
Available
for Grant
|
|
|
Number
of Options
Outstanding
|
|
|
Weighted
Average Exercise Price
|
|
|
|
|
|
|
|
|
|
|
|
Balance at December 31, 2020
|
|
|
-
|
|
|
|
1,218
|
|
|
$
|
3.55
|
|
Options exercised
|
|
|
-
|
|
|
|
(90)
|
|
|
$
|
2.09
|
|
Options forfeited, canceled and expired
|
|
|
-
|
|
|
|
-
|
|
|
$
|
-
|
|
Balance at March 31, 2021
|
|
|
-
|
|
|
|
1,128
|
|
|
$
|
3.65
|
|
Exercisable at March 31, 2021
|
|
|
|
|
|
|
1,081
|
|
|
$
|
3.76
|
|
As
of March 31, 2021, 11,000,000 shares of common stock were reserved under the 2018 Incentive Plan for the grant of stock options
or the sale of restricted stock or for the settlement of hypothetical units issued with reference to common stock (“RSUs”).
Oncocyte may also grant stock appreciation rights under the 2018 Incentive Plan.
A
summary of Oncocyte’s 2018 Incentive Plan activity and related information follows (in thousands except weighted average
exercise price):
|
|
Shares
Available
for Grant
|
|
|
Number
of Options
Outstanding
|
|
|
Number
of RSUs
Outstanding
|
|
|
Weighted
Average
Exercise Price
|
|
Balance at December 31, 2020
|
|
|
3,346
|
|
|
|
7,212
|
|
|
|
201
|
|
|
$
|
2.60
|
|
RSUs vested
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
$
|
-
|
|
RSUs granted
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
$
|
-
|
|
Options granted
|
|
|
(2,966)
|
|
|
|
2,966
|
|
|
|
-
|
|
|
$
|
5.12
|
|
Options exercised
|
|
|
-
|
|
|
|
(195)
|
|
|
|
-
|
|
|
$
|
|
|
Options forfeited/cancelled
|
|
|
76
|
|
|
|
(76)
|
|
|
|
-
|
|
|
$
|
2.69
|
|
Balance at March 31, 2021
|
|
|
456
|
|
|
|
9,907
|
|
|
|
201
|
|
|
$
|
3.35
|
|
Options exercisable at March 31, 2021
|
|
|
|
|
|
|
2,849
|
|
|
|
|
|
|
$
|
2.67
|
|
Oncocyte
recorded stock-based compensation expense in the following categories on the accompanying condensed consolidated statements of
operations for the three months ended March 31, 2021 and 2020 (unaudited and in thousands):
|
|
Three Months Ended
March 31,
|
|
|
|
2021
|
|
|
2020
|
|
Cost of revenues
|
|
$
|
22
|
|
|
$
|
5
|
|
Research and development
|
|
|
257
|
|
|
|
194
|
|
General and administrative
|
|
|
778
|
|
|
|
634
|
|
Sales and marketing
|
|
|
233
|
|
|
|
104
|
|
Total stock-based compensation expense
|
|
$
|
1,290
|
|
|
$
|
937
|
|
The
assumptions that were used to calculate the grant date fair value of Oncocyte’s employee and non-employee stock option grants
for the three months ended March 31, 2021 and 2020 were as follows (unaudited):
|
|
Three Months Ended
March 31,
|
|
|
|
2021
|
|
|
2020
|
|
Expected life (in years)
|
|
|
6.0
|
|
|
|
6.0
|
|
Risk-free interest rates
|
|
|
1.02%
|
|
|
|
1.34%
|
|
Volatility
|
|
|
102.62%
|
|
|
|
105.09%
|
|
Dividend yield
|
|
|
-%
|
|
|
|
-%
|
|
The
determination of stock-based compensation is inherently uncertain and subjective and involves the application of valuation models
and assumptions requiring the use of judgment. If Oncocyte had made different assumptions, its stock-based compensation expense
and net loss for the three months ended March 31, 2021 and 2020 may have been significantly different.
Oncocyte
does not recognize deferred income taxes for incentive stock option compensation expense and records a tax deduction only when
a disqualified disposition has occurred.
12.
Income Taxes
The
provision for income taxes for interim periods is determined using an estimated annual effective tax rate in accordance with ASC
740-270, Income Taxes, Interim Reporting. The effective tax rate may be subject to fluctuations during the year as new
information is obtained, which may affect the assumptions used to estimate the annual effective tax rate, including factors such
as valuation allowances against deferred tax assets, the recognition or de-recognition of tax benefits related to uncertain tax
positions, if any, and changes in or the interpretation of tax laws in jurisdictions where Oncocyte conducts business.
In
connection with the Razor acquisition discussed in Note 6, a change in the acquirer’s valuation allowance that stems from
the purchase of assets should be recognized as an element of the acquirer’s income tax benefit in the period of the acquisition.
Accordingly, for the three months ended March 31, 2021, Oncocyte recorded a $7.6 million partial release of its valuation allowance
and a corresponding income tax benefit stemming from the DTLs generated by the Razor intangible asset acquired.
In
connection with the Merger discussed in Note 5 and in accordance with ASC 805, a change in the acquirer’s valuation allowance
that stems from a business combination should be recognized as an element of the acquirer’s income tax expense or benefit
in the period of the acquisition. Accordingly, for the three months ended March 31, 2020, Oncocyte recorded a $1.1 million partial
release of its valuation allowance and a corresponding income tax benefit stemming from the DTLs generated by the IPR&D and
customer relationships intangible assets acquired in the Merger.
A
valuation allowance is provided when it is more likely than not that some portion of the deferred tax assets will not be realized.
Other than the partial releases discussed above, Oncocyte established a full valuation allowance for all periods presented due
to the uncertainty of realizing future tax benefits from its net operating loss carryforwards and other deferred tax assets.
13.
Disaggregation of Revenues and Concentration Risk
The
following table presents the percentage of consolidated revenues generated by unaffiliated customers that individually represent
greater than ten percent of consolidated revenues:
|
|
Three Months Ended
March 31,
|
|
|
|
2021
|
|
|
2020
|
|
Medicare for DetermaRx™
|
|
|
27%
|
|
|
|
-%
|
|
Medicare Advantage for DetermaRx™
|
|
|
27%
|
|
|
|
-
|
|
Pharma Services Company A
|
|
|
20%
|
|
|
|
*
|
|
Pharma Services Company B
|
|
|
15%
|
|
|
|
*
|
|
The
following table presents the percentage of consolidated revenues attributable to products or services classes that represent greater
than ten percent of consolidated revenues:
|
|
Three Months Ended
March 31,
|
|
|
|
2021
|
|
|
2020
|
|
DetermaRx™
|
|
|
54%
|
|
|
|
10%
|
|
Pharma Services
|
|
|
46%
|
|
|
|
90%
|
|
Total
|
|
|
100%
|
|
|
|
100%
|
|
The
following table presents the percentage of consolidated revenues attributable to geographical locations:
|
|
Three Months Ended
March 31,
|
|
|
|
2021
|
|
|
2020
|
|
United States
|
|
|
57%
|
|
|
|
95%
|
|
Outside of the United States – Pharma Services
|
|
|
43%
|
|
|
|
5%
|
|
Total
|
|
|
100%
|
|
|
|
100%
|
|
The
following table presents accounts receivable, as a percentage of total consolidated accounts receivables, from third-party payers
and other customers that provided in excess of 10% of Oncocyte’s total accounts receivable.
|
|
March 31, 2021
|
|
|
December 31, 2020
|
|
Pharma Services Company A
|
|
|
24%
|
|
|
|
35%
|
|
Medicare for DetermaRx™
|
|
|
16%
|
|
|
|
45%
|
|
Pharma Services Company B
|
|
|
18%
|
|
|
|
-
|
|
Medicare Advantage for DetermaRx™
|
|
|
38%
|
|
|
|
-
|
|
14.
Commitments and Contingencies
Oncocyte
has certain commitments other than discussed in Notes 5 and 6.
Office
Lease Agreement
On
December 23, 2019, Oncocyte entered into an Office Lease Agreement (the “Irvine Lease”) of a building containing approximately
26,800 square feet of rentable space located at 15 Cushing in Irvine, California (the “Premises”) that will serve
as Oncocyte’s new principal executive and administrative offices and laboratory facility. Oncocyte completed the relocation
of its offices to the Premises in January 2020. Oncocyte is constructing a laboratory at the Irvine facility to perform cancer
diagnostic tests. The laboratory construction is expected to be completed during 2021.
The
Irvine Lease has an initial term of 89 calendar months (the “Term”), which commenced on June 1, 2020 (the “Commencement
Date”). Oncocyte has an option to extend the Term for a period of five years (the “Extended Term”).
Oncocyte
will pay base monthly rent in the amount of $61,640 during the first 12 months of the Term. Base monthly rent will increase annually,
over the base monthly rent then in effect, by 3.5%. Oncocyte will be entitled to an abatement of 50% of the base monthly rent
during the first ten calendar months of the Term. If the Lease is terminated based on the occurrence of an “event of default,”
Oncocyte will be obligated to pay the abated rent to the lessor.
If
Oncocyte exercises its option to extend the Term, the initial base monthly rent during the Extended Term will be the greater of
the base monthly rent in effect during the last year of the Term or the prevailing market rate. The prevailing market rate will
be determined based on annual rental rates per square foot for comparable space in the area where the Premises are located. If
Oncocyte does not agree with the prevailing market rate proposed by the lessor, the rate may be determined through an appraisal
process. The base monthly rent during the Extended Term shall be subject to the same annual rent adjustment as applicable for
base monthly rent during the Term.
In
addition to base monthly rent, Oncocyte will pay in monthly installments (a) all costs and expenses, other than certain excluded
expenses, incurred by the lessor in each calendar year in connection with operating, maintaining, repairing (including replacements
if repairs are not feasible or would not be effective) and managing the Premises and the building in which the Premises are located
(“Expenses”), and (b) all real estate taxes and assessments on the Premises and the building in which the Premises
are located, all personal property taxes for property that is owned by Landlord and used in connection with the operation, maintenance
and repair of the Premises, and costs and fees incurred in connection with seeking reductions in such tax liabilities (“Taxes”).
Subject to certain exceptions, Expenses shall not be increased by more than 4% annually on a cumulative, compounded basis.
Oncocyte
was entitled to an abatement of its obligations to pay Expenses and Taxes while constructing improvements to the Premises constituting
“Tenant’s Work” under the Lease prior to the Commencement Date, except that Oncocyte was obligated to pay 43.7%
of Expenses and Taxes during the period prior to the Commencement Date for its use of the second floor of the Premises, which
was already built out as office space.
The
lessor has agreed to provide Oncocyte with a “Tenant Improvement Allowance” in the amount of $1,340,000 to pay for
the plan, design, permitting, and construction of the improvements constituting Tenant’s Work. The lessor shall be entitled
to retain 1.5% of the Tenant Improvement Allowance as an administrative fee. As of March 31, 2021, the lessor had provided $1.1
million of the total Tenant Improvement Allowance.
Oncocyte
has provided the lessor with a security deposit in the amount of $150,000 and a letter of credit in the amount of $1,700,000.
The lessor may apply the security deposit, in whole or in part, for the payment of rent and any other amount that Oncocyte is
or becomes obligated to pay under the Irvine Lease but fails to pay when due and beyond any cure period. The lessor may draw on
the letter of credit from time to time to pay any amount that is unpaid and due, or if the original issuing bank notifies the
lessor that the letter of credit will not be renewed or extended for the period required under the Irvine Lease and Oncocyte fails
to timely provide a replacement letter of credit, or an event of default under the Irvine Lease occurs and continues beyond the
applicable cure period, or if certain insolvency or bankruptcy or insolvency with respect to Oncocyte occur. Oncocyte is required
to restore any portion of the security deposit that is applied by the lessor to payments due under the Lease, and Oncocyte is
required to restore the amount available under the letter of credit to the required amount if any portion of the letter of credit
is drawn by the lessor. Commencing on the 34th month of the Term, (a) the amount of the letter of credit that Oncocyte is required
to maintain shall be reduced on a monthly basis, in equal installments, to amortize the required amount to zero at the end of
the Term, and (b) Oncocyte will have the right to cancel the letter of credit at any time if it meets certain market capitalization
and balance sheet thresholds; provided, in each case, that Oncocyte is not in then default under the Lease beyond any applicable
notice and cure period and the lessor has not determined that an event exists that would lead to an event of default.
To
obtain the letter of credit, Oncocyte has provided the issuing bank with a restricted cash deposit that the bank will hold to
cover its obligation to pay any draws on the letter of credit by the lessor. The restricted cash may not be used for any other
purpose (see Note 3).
Application
of leasing standard, ASC 842
The
Irvine Lease is an operating lease under ASC 842 included in the tables below. The tables below provide the amounts recorded in
connection with the application of ASC 842 as of, and during, the three months ended March 31, 2021, for Oncocyte’s operating
and financing leases (see Note 2).
Under
the Laboratory Agreement discussed in Note 6, Oncocyte assumed all of Razor’s Laboratory Agreement payment obligations amounting
to $450,000 per year. Although Oncocyte is not a party to any lease agreement with Razor or Encore, under the terms of the Laboratory
Agreement, Oncocyte received the landlord’s consent for the use of the laboratory at Razor’s Brisbane, California
location (the “Brisbane Facility”) under the terms of a sublease to which Encore is the sublessee. The sublease expires
on March 31, 2023 (the “Brisbane Lease”). The laboratory fee payments to Encore include both laboratory services and
the use of the Brisbane Facility. Under the provisions of the Laboratory Agreement, if Oncocyte terminates the Laboratory Agreement
prior to the expiration of the Brisbane Lease, Oncocyte shall assume the costs related to the subletting or early termination
of the Brisbane Lease. If the Laboratory Agreement were to be terminated on March 31, 2021, the aggregate payments due to the
landlord for early cancellation of the Brisbane Lease would be approximately $297,000 (aggregate payments from March 31, 2021
through March 31, 2023). Oncocyte determined that the Laboratory Agreement contains an embedded operating lease for the Brisbane
Facility and Oncocyte allocated the aggregate payments to this lease component for purposes of calculating the net present value
of the right-of-use asset and liability as of the inception of the Laboratory Agreement in accordance with ASC 842, as shown in
the table below.
Financing
lease
As
of March 31, 2021, Oncocyte has one financing lease remaining through December 2023 for certain laboratory equipment with aggregate
remaining payments of $382,000 shown in the table below.
Operating
and Financing leases
The
following table presents supplemental cash flow information related to operating and financing leases for the three months ended
March 31, 2021 and 2020 (in thousands):
|
|
Three Months Ended
March 31,
|
|
|
|
2021
|
|
|
2020
|
|
Cash paid for amounts included in the measurement of financing lease liabilities:
|
|
|
|
|
|
|
|
|
Operating cash flows from operating leases
|
|
$
|
220
|
|
|
$
|
78
|
|
Operating cash flows from financing leases
|
|
|
10
|
|
|
|
3
|
|
Financing cash flows from financing leases
|
|
|
41
|
|
|
|
17
|
|
Right-of-use assets obtained in exchange for lease obligation:
|
|
|
|
|
|
|
|
|
Operating lease, including lease acquired in Insight Genetics business combination
|
|
|
-
|
|
|
|
536
|
|
The
following table presents supplemental balance sheet information related to operating and financing leases as of March 31, 2021
(in thousands, except lease term and discount rate):
|
|
March 31, 2021
|
|
Operating leases
|
|
|
|
|
Right-of-use assets, net
|
|
$
|
2,801
|
|
|
|
|
|
|
Right-of-use lease liabilities, current
|
|
$
|
606
|
|
Right-of-use lease liabilities, noncurrent
|
|
|
3,664
|
|
Total operating lease liabilities
|
|
$
|
4,270
|
|
|
|
|
|
|
Financing leases
|
|
|
|
|
Machinery and equipment
|
|
$
|
537
|
|
Accumulated depreciation
|
|
|
(226)
|
|
Machinery and equipment, net
|
|
$
|
311
|
|
Current liabilities
|
|
$
|
135
|
|
Noncurrent liabilities
|
|
|
196
|
|
Total financing lease liabilities
|
|
$
|
331
|
|
|
|
|
|
|
Weighted average remaining lease term
|
|
|
|
|
Operating leases
|
|
|
6 years
|
|
Financing leases
|
|
|
2.5 years
|
|
|
|
|
|
|
Weighted average discount rate
|
|
|
|
|
Operating leases
|
|
|
11.16%
|
|
Financing leases
|
|
|
11.34%
|
|
Future
minimum lease commitments are as follows (in thousands):
|
|
Operating
Leases
|
|
|
Financing
Leases
|
|
Year Ending December 31,
|
|
|
|
|
|
|
|
|
2021
|
|
$
|
811
|
|
|
$
|
134
|
|
2022
|
|
|
1,096
|
|
|
|
124
|
|
2023
|
|
|
1,000
|
|
|
|
124
|
|
2024
|
|
|
889
|
|
|
|
-
|
|
2025
|
|
|
869
|
|
|
|
-
|
|
Thereafter
|
|
|
1,594
|
|
|
|
-
|
|
Total minimum lease payments
|
|
$
|
6,259
|
|
|
$
|
382
|
|
Less amounts representing interest
|
|
|
(1,760)
|
|
|
|
(51)
|
|
Less: Tenant Improvement Allowance, net of administrative fee (1)
|
|
|
(229)
|
|
|
|
-
|
|
Present value of net minimum lease payments
|
|
$
|
4,270
|
|
|
$
|
331
|
|
(1)
|
In
accordance with ASC 842, a tenant allowance should be included in the measurement of
the consideration in the lease agreement at inception and reflected as a reduction to
the right-of-use asset and a corresponding reduction to the right-use-liability if the
lessee both controls the construction of the tenant improvements and the expects to fully
earn all of the tenant allowance. Oncocyte has met both conditions at the inception of
the Irvine Lease and has recorded the Tenant Improvement Allowance accordingly. As the
cash for the Tenant Improvement Allowance is received from the lessor under the terms
of the Irvine Lease, the corresponding right-of-use liability will increase and will
be amortized as part of the right-of use asset and liability amortization over the term
of the Irvine Lease in accordance with ASC 842. As of March 31, 2021, the lessor had
provided $1.1 million of the total $1.3 million Tenant Improvement Allowance, leaving
a balance of $0.2 million.
|
Litigation
– General
Oncocyte
will be subject to various claims and contingencies in the ordinary course of its business, including those related to litigation,
business transactions, employee-related matters, and other matters. When Oncocyte is aware of a claim or potential claim, it assesses
the likelihood of any loss or exposure. If it is probable that a loss will result and the amount of the loss can be reasonably
estimated, Oncocyte will record a liability for the loss. If the loss is not probable or the amount of the loss cannot be reasonably
estimated, Oncocyte discloses the claim if the likelihood of a potential loss is reasonably possible and the amount involved could
be material.
Tax
Filings
Oncocyte
tax filings are subject to audit by taxing authorities in jurisdictions where it conducts business. These audits may result in
assessments of additional taxes that are subsequently resolved with the authorities or potentially through the courts. Management
believes Oncocyte has adequately provided for any ultimate amounts that are likely to result from these audits; however, final
assessments, if any, could be significantly different than the amounts recorded in the condensed consolidated interim financial
statements.
Employment
Contracts
Oncocyte
has entered into employment and severance benefit contracts with certain executive officers. Under the provisions of the contracts,
Oncocyte may be required to incur severance obligations for matters relating to changes in control, as defined, and certain
terminations of executives. As of March 31, 2021, Oncocyte accrued approximately $0.9 million in remaining severance obligations for
certain executive officers, in accordance with the severance benefit provisions of their respective employment and severance benefit
agreements, related to Oncocyte’s partial reduction in force plan and salary reduction agreements instituted in September
2020.
Indemnification
In
the normal course of business, Oncocyte may provide indemnification of varying scope under Oncocyte’s agreements with other
companies or consultants, typically Oncocyte’s clinical research organizations, investigators, clinical sites, suppliers
and others. Pursuant to these agreements, Oncocyte will generally agree to indemnify, hold harmless, and reimburse the indemnified
parties for losses and expenses suffered or incurred by the indemnified parties arising from claims of third parties in connection
with the use or testing of Oncocyte’s diagnostic tests. Indemnification provisions could also cover third party infringement
claims with respect to patent rights, copyrights, or other intellectual property pertaining to Oncocyte’s diagnostic tests.
Oncocyte’s office and laboratory facility leases also will generally contain indemnification obligations, including obligations
for indemnification of the lessor for environmental law matters and injuries to persons or property of others, arising from Oncocyte’s
use or occupancy of the leased property. The term of these indemnification agreements will generally continue in effect after
the termination or expiration of the particular research, development, services, lease, or license agreement to which they relate.
The Purchase Agreement also contains provisions under which Oncocyte has agreed to indemnify Razor and Encore from losses and
expenses resulting from breaches or inaccuracy of Oncocyte’s representations and warranties and breaches or nonfulfillment
of Oncocyte’s covenants, agreements, and obligations under the Purchase Agreement. Oncocyte periodically enters into underwriting
and securities sales agreements with broker-dealers in connection with the offer and sale of Oncocyte securities. The terms of
those underwriting and securities sales agreements include indemnification provisions pursuant to which Oncocyte agrees to indemnify
the broker-dealers from certain liabilities, including liabilities arising under the Securities Act, in connection with the offer
and sale of Oncocyte securities. The potential future payments Oncocyte could be required to make under these indemnification
agreements will generally not be subject to any specified maximum amounts. Historically, Oncocyte has not been subject to any
claims or demands for indemnification. Oncocyte also maintains various liability insurance policies that limit Oncocyte’s
financial exposure. As a result, Oncocyte management believes that the fair value of these indemnification agreements is minimal.
Accordingly, Oncocyte has not recorded any liabilities for these agreements as of March 31, 2021 and December 31, 2020.
15.
Subsequent Events
Merger
Agreement with Chronix Biomedical, Inc.
On
April 15, 2021 (the “Closing Date”), OncoCyte completed its acquisition of Chronix pursuant to an Agreement and Plan
of Merger dated February 2, 2021, amended February 23, 2021, and amended and restated as of April 15, 2021 (as amended and restated,
the “Chronix Merger Agreement”), by and among OncoCyte, CNI Monitor Sub, Inc., a Delaware corporation and wholly-owned
subsidiary of OncoCyte (“Merger Sub”), Chronix, the stockholders party to the Chronix Merger Agreement (the “Stockholders”)
and a party named as equityholder representative. Pursuant to the Chronix Merger Agreement, Merger Sub merged with and into Chronix,
with Chronix surviving as a wholly-owned subsidiary of OncoCyte (the “Chronix Merger”). Prior to the Chronix Merger,
Chronix was a privately-held molecular diagnostics company, developing blood tests for use in cancer treatment and organ transplantation.
Merger
Consideration
Pursuant
to the Chronix Merger Agreement, OncoCyte agreed to deliver closing consideration consisting of approximately (i) 591,000 shares
of OncoCyte common stock (the “Closing Shares”), which represents approximately $1.13 million of Closing Shares issued
to Chronix stockholders and approximately $1.87 million of Closing Shares issued to payoff assumed liabilities, based on the $5.09
closing price per share of OncoCyte common stock on the NYSE American on February 1, 2021; (ii) $4.25 million in cash; and (iii)
$2.5 million of assumed liabilities of Chronix payable in installments through July 2022. The closing consideration, milestones,
and earnout consideration include amounts payable to certain directors, officers and employees of Chronix, including officers
and employees who are expected to continue to provide services to Chronix following the Chronix Merger.
Milestones
& Earnout Consideration
As
consideration for holders of certain classes and series of Chronix capital stock, the Chronix Merger Agreement provides for OncoCyte
to pay (i) up to $14 million in any combination of cash or OncoCyte common stock if certain milestones are achieved, (ii) earnout
consideration during the five to ten-year earnout periods of up to 15% of net collections for sales of specified tests and products,
and (iii) up to 75% of net collections from the sale or license to a third party of Chronix’s patents for use in transplantation
medicine during a seven-year earnout period.
Liabilities
Pursuant
to the Chronix Merger Agreement, to the extent that OncoCyte or any of its subsidiaries, including Chronix, pays, performs or
discharges an amount of liabilities of Chronix in excess of $8.25 million (the “Excess Liabilities”), OncoCyte may set
off the Excess Liabilities against any additional payments that subsequently become due and payable pursuant to the Chronix Merger
Agreement. Chronix had Excess Liabilities approximating $4.6 million as of the Closing Date. Prior to Chronix equity holders
receiving any additional payments, all or a partial amount of any such additional payments may be used to pay Excess
Liabilities.