NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
1 - Organization and Nature of Operations
Nephros,
Inc. (“Nephros” or the “Company”) was incorporated under the laws of the State of Delaware on April 3,
1997. Nephros was founded by health professionals, scientists and engineers affiliated with Columbia University to develop advanced
End Stage Renal Disease (“ESRD”) therapy technology and products. The Company has two products in the hemodiafiltration
(“HDF”) modality to deliver therapy for ESRD patients. These are the OLpūr mid-dilution HDF filter or “dialyzer,”
designed expressly for HDF therapy, and the OLpūr H2H HDF module, an add-on module designed to allow the most common types
of hemodialysis machines to be used for HDF therapy. In 2009, the Company introduced its Dual Stage Ultrafilter (“DSU”)
water filter, which represented a new and complementary product line to the Company’s ESRD therapy business. The DSU incorporates
the Company’s unique and proprietary dual stage filter architecture.
On
June 4, 2003, Nephros International Limited was incorporated under the laws of Ireland as a wholly-owned subsidiary of the Company.
In August 2003, the Company established a European Customer Service and financial operations center in Dublin, Ireland.
The
U.S. facilities, located at 41 Grand Avenue, River Edge, New Jersey, 07661, are used to house the Company’s corporate headquarters
and research facilities.
Note
2 - Summary of Significant Accounting Policies
Principles
of Consolidation and Basis of Presentation
The
accompanying consolidated financial statements include the accounts of the Company and its wholly owned subsidiary, Nephros International
Limited. All intercompany accounts and transactions have been eliminated in consolidation.
Use
of Estimates in the Preparation of Financial Statements
The
preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States
of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities, at the date of the financial statements, and the reported amount of revenues
and expenses, during the reporting period. Actual results could differ materially from those estimates. Included in these estimates
are assumptions about the valuation of the warrant liability, the collection of accounts receivable, value of inventories, useful
life of fixed assets and intangible assets, assumptions used in determining stock compensation such as expected volatility and
risk-free interest rate and the ability of the Company to continue as a going concern.
Reclassifications
Certain
reclassifications were made to the prior year’s amounts to conform to the 2016 presentation. Other assets, net,
as presented as of December 31, 2015 is now presented as license and supply agreement, net and other asset, respectively.
Going
Concern
The
accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern.
The Company’s recurring losses and difficulty in generating sufficient cash flow to meet its obligations and sustain its
operations raise substantial doubt about its ability to continue as a going concern. The Company’s consolidated financial
statements do not include any adjustments that might result from the outcome of this uncertainty.
The
Company has incurred significant losses from operations in each quarter since inception. In addition, the Company has not generated
positive cash flow from operations for the years ended December 31, 2016 and 2015. To become profitable, the Company must increase
revenue substantially and achieve and maintain income from operations. If the Company is not able to increase revenue and generate
income from operations sufficiently to achieve profitability, its results of operations and financial condition will be materially
and adversely affected.
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
2 - Summary of Significant Accounting Policies (continued)
On
March 17, 2017, the Company entered into a Securities Purchase Agreement (the “Purchase Agreement”) with certain purchasers,
including members of the Company’s management, identified therein. Pursuant to the Purchase Agreement, the Company agreed
to issue and sell, and the purchasers agreed to purchase, an aggregate of 4,059,994 shares at a price of $0.30 per share for total
gross proceeds of approximately $1.2 million. In addition, the Company will issue to the purchasers warrants to purchase an aggregate
of 4,059,994 shares of common stock. The warrants will have an exercise price of $0.30 per share and will be exercisable for a
five-year term. See Note 14 for further discussion.
On
June 7, 2016, the Company received gross proceeds of approximately $1,187,000 in connection with the issuance of unsecured promissory
notes and warrants. The portion of the outstanding unsecured promissory notes held by related parties comprised of entities
controlled by a member of management and by Lambda Investors LLC (“Lambda”), the majority shareholder, amounted to
$30,000 and $300,000, respectively. The outstanding principal under the Notes accrues interest at a rate of 11% per annum.
In addition to the Notes, the Company issued Warrants to purchase approximately 2.4 million shares of the Company’s common
stock to the investors in the Agreement. The Warrants have an exercise price of $0.30 per share and are exercisable for 5 years
from the issuance date. See Note 7 for further discussion.
On
December 23, 2015, the Company received proceeds of approximately $688,000 in connection with its offer to holders of certain
warrants of the opportunity to exercise their warrants at a temporarily reduced cash exercise price. Warrant holders elected to
exercise warrants to purchase an aggregate of 3,442,521 shares of the Company’s common stock at the reduced cash exercise
price of $0.20 per share, providing a total of approximately $688,000 in gross proceeds to the Company. Of the 3,442,521 shares
issued, 2,782,577 are held by Lambda, the majority shareholder. The warrants that were not exercised pursuant to the offer
to exercise will remain in effect, with an exercise price of $0.40 per share of common stock.
On
September 29, 2015, the Company issued 11,742,100 shares of common stock to Lambda, the majority shareholder, for warrants
exercised and received approximately $1,761,000 in cash proceeds. The exercise price for each warrant was $0.15. See Note 3 for
further discussion.
On
July 24, 2015, the Company entered into a purchase agreement (the “Purchase Agreement”), together with a registration
rights agreement (the “Registration Rights Agreement”), with Lincoln Park Capital Fund, LLC (“Lincoln Park”),
pursuant to which the Company has the right to sell and Lincoln Park has the obligation to purchase up to $10,000,000 of the Company’s
common stock. In connection with the Purchase Agreement, the Company issued to Lincoln Park 250,000 shares of common stock for
no proceeds. Pursuant to the Purchase Agreement, in September 2015, the Company issued and sold 300,000 shares of common stock
to Lincoln Park at a per share purchase price of $0.45, resulting in gross proceeds of $136,000. See Note 11 - Stockholders’
Equity (Deficit).
On
May 18, 2015, the Company raised gross proceeds of approximately $1,230,000 through the private placement of 1,834,299 units of
its securities. Each unit consisted of one share of its common stock and a five-year warrant to purchase one-half of one share
of the Company’s common stock. The purchase price for each unit was $0.67. The 917,149 warrants issued are exercisable at
a price of $0.85 per share. See Note 11 - Stockholders’ Equity (Deficit).
There can be no assurance that the Company’s future cash flow will be sufficient to meet its obligations
and commitments. If the Company is unable to generate sufficient cash flow from operations in the future to service its commitments,
the Company will be required to adopt alternatives, such as seeking to raise debt or equity capital, curtailing its planned activities
or ceasing its operations. There can be no assurance that any such actions could be effected on a timely basis or on satisfactory
terms or at all, or that these actions would enable the Company to continue to satisfy its capital requirements.
Recently
Adopted Accounting Pronouncement
In
August 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”)
2014-15, “Presentation of Financial Statements - Going Concern (Subtopic 205-40): Disclosure of Uncertainties about an Entity’s
Ability to Continue as a Going Concern.” ASU 2014-15 provides guidance about management’s responsibility to evaluate
whether there is substantial doubt about an entity’s ability to continue as a going concern and sets rules for how this
information should be disclosed in the financial statements. ASU 2014-15 is effective for annual periods ending after December
15, 2016 and interim periods thereafter. The Company adopted ASU 2014-15 as of the fiscal year ended December 31, 2016.
In
April 2015, the FASB issued ASU 2015-03, “Interest - Imputation of Interest (Subtopic 2015-03): Simplifying the Presentation
of Debt Issuance Costs” related to the presentation requirements for debt issuance costs and debt discount and premium.
ASU 2015-03 requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct
deduction from the carrying amount of that debt liability, consistent with debt discounts. The recognition and measurement guidance
for debt issuance costs are not affected by ASU 2015-03. ASU 2015-03 is effective for annual and interim periods beginning after
December 15, 2015. The Company adopted ASU 2015-03 upon entering into the Note and Warrant Agreement as discussed in Note 7.
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
2 - Summary of Significant Accounting Policies (continued)
Concentration
of Credit Risk
The
Company deposits its cash in financial institutions. At times, such deposits may be in excess of insured limits. To date, the
Company has not experienced any impairment losses on its cash.
Major
Customers
For
the year ended December 31, 2016, four customers accounted for 55% of the Company’s revenues. For the year ended December
31, 2015, four customers accounted for 67% of the Company’s revenues. As of December 31, 2016, four customers accounted
for 59% of the Company’s accounts receivable. As of December 31, 2015, four customers accounted for 73% of the Company’s
accounts receivable.
Accounts
Receivable
The
Company provides credit terms to customers in connection with purchases of the Company’s products. Management periodically
reviews customer account activity in order to assess the adequacy of the allowances provided for potential collection issues and
returns. Factors considered include economic conditions, each customer’s payment and return history and credit worthiness.
Adjustments, if any, are made to reserve balances following the completion of these reviews to reflect management’s best
estimate of potential losses. The allowance for doubtful accounts was approximately $50,000 and $15,000 as of December 31, 2016
and 2015, respectively. There was no allowance for sales returns at December 31, 2016 or 2015. There were no write offs of accounts
receivable to bad debt expense during 2016 or 2015.
Inventory
The
Company engages third parties to manufacture and package inventory held for sale, takes title to certain inventory once manufactured,
and warehouses such goods until packaged for final distribution and sale. Inventory consists of finished goods held at the manufacturers’
facilities, and are valued at the lower of cost or market using the first-in, first-out method.
The
Company’s inventory reserve requirements are based on factors including the products’ expiration date and estimates
for the future sales of the product. If estimated sales levels do not materialize, the Company will make adjustments to its assumptions
for inventory reserve requirements.
License
and Supply Rights
The
Company’s rights under the License and Supply Agreement are capitalized and stated at cost, less accumulated amortization,
and are amortized using the straight-line method over the term of the License and Supply Agreement. The License and Supply Agreement
term is from April 23, 2012 through December 31, 2022. The Company determines amortization periods for licenses based on its assessment
of various factors impacting estimated useful lives and cash flows of the acquired rights. Such factors include the expected launch
date of the product, the strength of the intellectual property protection of the product and various other competitive, developmental
and regulatory issues, and contractual terms.
Patents
The
Company has filed numerous patent applications with the United States Patent and Trademark Office and in foreign countries. All
costs and direct expenses incurred in connection with patent applications have been expensed as incurred and are included in Selling,
General and Administrative expenses on the accompanying consolidated statement of operations and comprehensive loss.
Property
and Equipment, net
Property
and equipment, net is stated at cost less accumulated depreciation. These assets are depreciated over their estimated useful lives
of three to seven years using the straight line method.
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
2 - Summary of Significant Accounting Policies (continued)
Impairment
for Long-Lived Assets
The
Company adheres to Accounting Standards Codification (“ASC”) Topic 360 and periodically evaluates whether current
facts or circumstances indicate that the carrying value of its depreciable assets to be held and used may not be recoverable.
If such circumstances are determined to exist, an estimate of undiscounted future cash flows produced by the long-lived assets,
or the appropriate grouping of assets, is compared to the carrying value to determine whether impairment exists. If an asset is
determined to be impaired, the loss is measured based on the difference between the asset’s fair value and its carrying
value. For long-lived assets, the estimate of fair value is based on various valuation techniques, including a discounted value
of estimated future cash flows. The Company reports an asset to be disposed of at the lower of its carrying value or its fair
value less costs to sell. There were no impairment losses for long-lived assets recorded for the years ended December 31, 2016
and December 31, 2015.
Fair
Value of Financial Instruments
The
carrying amounts of cash, accounts receivable, accounts payable and accrued expenses approximate fair value due to the short-term
maturity of these instruments. See Note 3 for information on the fair value of derivative liabilities.
The
carrying amounts of the investment in lease, net, and the unsecured long-term note payable approximate fair value as of December
31, 2016 because those financial instruments bear interest at rates that approximate current market rates for similar agreements
with similar maturities and credit.
Revenue
Recognition
Revenue
is recognized in accordance with ASC Topic 605. Four basic criteria must be met before revenue can be recognized: (i) persuasive
evidence of an arrangement exists; (ii) delivery has occurred or services have been rendered; (iii) the fee is fixed or determinable;
and (iv) collectability is reasonably assured.
The
Company recognizes revenue related to product sales when delivery is confirmed by its external logistics provider and the other
criteria of ASC Topic 605 are met. Product revenue is recorded net of returns and allowances. All costs and duties relating to
delivery are absorbed by Nephros. All shipments are currently received directly by the Company’s customers.
Deferred
revenue was approximately $348,000 and $417,000 on the accompanying consolidated balance sheets as of December 31, 2016 and 2015,
respectively, and is related to the License Agreement with Bellco. The Company has recognized approximately $2,728,000 of revenue
related to this license agreement to date, including approximately $69,000 for the year ended December 31, 2016, resulting in
$348,000 being deferred over the remainder of the expected obligation period (see Note 13). The Company recognized approximately
$70,000 of revenue related to this license agreement for the year ended December 31, 2015.
Beginning
on January 1, 2015, Bellco began paying the Company a royalty based on the number of units of certain products sold per year (see
Note 13). The Company recognized royalty income of approximately $114,000 and $84,000, respectively, for the years ended December
31, 2016 and 2015.
The
Company also invoiced Biocon 1, LLC approximately $24,000 related to consulting services provided during the fiscal year ended
December 31, 2016, which is included in license, royalty and other revenue on the consolidated statement of operations and comprehensive
loss. Approximately $24,000 is also included in accounts receivable as of December 31, 2016.
On
May 6, 2015, the Company entered into a Sublicense Agreement with CamelBak Products, LLC (“CamelBak”). The Company
granted CamelBak an exclusive, non-transferable, worldwide (with the exception of Italy) sublicense and license, in each case
solely to market, sell, distribute, import and export the HydraGuard individual water treatment devices. In exchange for the rights
granted to CamelBak, CamelBak agreed, through December 31, 2022, to pay the Company a percentage of the gross profit on any sales
made to a branch of the U.S. military, subject to certain exceptions, and to pay the Company a fixed per-unit fee for any other
sales made. The Company recognized royalty revenue of $10,000 during the fiscal year ended December 31, 2016.
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
2 - Summary of Significant Accounting Policies (continued)
On
October 17, 2016, the Company entered into a Sublicense Agreement with Roving Blue, Inc. (“Roving Blue”). The Company
granted Roving Blue an exclusive, non-transferable, worldwide (with the exception of Italy) sublicense and license. In exchange
for the rights granted to Roving Blue, Roving Blue paid the Company an upfront fee of $10,000, which was recognized as royalty
revenue during the fiscal year ended December 31, 2016. The Sublicense Agreement with Roving Blue also includes an agreement for
Roving Blue to pay the Company a fixed per-unit fee for sales made, subject to certain minimums.
Shipping
and Handling Costs
Shipping
and handling costs charged to customers are recorded as cost of goods sold and were approximately $24,000 and $12,000 for the
years ended December 31, 2016 and 2015, respectively.
Research
and Development Costs
Research
and development costs are expensed as incurred.
Stock-Based
Compensation
The
fair value of stock options is recognized as stock-based compensation expense in the Company’s consolidated statement of
operations and comprehensive loss. The Company calculates employee stock-based compensation expense in accordance with ASC 718.
The Company accounts for stock option grants to consultants under the provisions of ASC 505-50, and as such, these stock options
are revalued at each reporting period through the vesting period. The fair value of the Company’s stock option awards are
estimated using a Black-Scholes option valuation model. This model requires the input of highly subjective assumptions and elections
including expected stock price volatility and the estimated life of each award. In addition, the calculation of compensation costs
requires that the Company estimate the number of awards that will be forfeited during the vesting period. The fair value of stock-based
awards is amortized over the vesting period of the award.
Warrants
The
Company accounts for stock warrants as either equity instruments or derivative liabilities depending on the specific terms of
the warrant agreement. Stock warrants that allow for cash settlement or provide for anti-dilution of the warrant exercise price
under certain conditions are accounted for as derivative liabilities. The Company classifies derivative warrant liabilities on
the balance sheet as a liability, which is revalued using a binomial options pricing model at each balance sheet date subsequent
to the initial issuance. A binomial options pricing model requires the input of highly subjective assumptions and elections including
expected stock price volatility and the estimated life of each award. The changes in fair value of the derivative warrant liabilities
are remeasured at each balance sheet date and the resulting changes in fair value are recorded in current period earnings.
Amortization
of Debt Issuance Costs
The
Company accounts for debt issuance costs in accordance with ASU 2015-03, which requires that costs paid directly to the issuer
of a recognized debt liability be reported in the balance sheet as a direct deduction from the carrying amount of that debt liability,
consistent with debt discounts. The Company amortizes the debt discount, including debt issuance costs, in accordance with ASC
835, Interest, over the term of the associated debt. See Note 7 for a discussion of the Company’s unsecured long-term note
payable.
Other
Income (Expense), net
Other
income of approximately $4,000 and $37,000, respectively, for the years ended December 31, 2016 and 2015 is primarily due to foreign
currency transaction gains.
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
2 - Summary of Significant Accounting Policies (continued)
Income
Taxes
The
Company accounts for income taxes in accordance with ASC Topic 740, which requires accounting for deferred income taxes under
the asset and liability method. Deferred income taxes are recognized for the tax consequences of temporary differences by applying
enacted statutory tax rates applicable in future years to differences between the financial statement carrying amounts and the
tax basis of existing assets and liabilities.
For
financial reporting purposes, the Company has incurred a loss in each period since its inception. Based on available objective
evidence, including the Company’s history of losses, management believes it is more likely than not that the net deferred
tax assets will not be fully realizable. Accordingly, the Company provided for a full valuation allowance against its net deferred
tax assets at December 31, 2016 and 2015.
ASC
Topic 740 prescribes, among other things, a recognition threshold and measurement attributes for the financial statement recognition
and measurement of uncertain tax positions taken or expected to be taken in a company’s income tax return. ASC 740
utilizes a two-step approach for evaluating uncertain tax positions. Step one, or recognition, requires a company to determine
if the weight of available evidence indicates a tax position is more likely than not to be sustained upon audit, including resolution
of related appeals or litigation processes, if any. Step two, or measurement, is based on the largest amount of benefit,
which is more likely than not to be realized on settlement with the taxing authority. The Company is subject to income tax examinations
by major taxing authorities for all tax years subsequent to 2012. During the years ended December 31, 2016 and 2015,
the Company recognized no adjustments for uncertain tax positions. However, management’s conclusions regarding this policy
may be subject to review and adjustment at a later date based on factors including, but not limited to, on-going analyses of and
changes to tax laws, regulation and interpretations, thereof.
Net
Income (loss) per Common Share
Basic
income (loss) per common share is calculated by dividing net income (loss) available to common shareholders by the number of weighted
average common shares issued and outstanding. Diluted earnings (loss) per common share is calculated by dividing net income (loss)
available to common shareholders by the weighted average number of common shares issued and outstanding for the period, plus amounts
representing the dilutive effect from the exercise of stock options and warrants, as applicable. The Company calculates dilutive
potential common shares using the treasury stock method, which assumes the Company will use the proceeds from the exercise of
stock options and warrants to repurchase shares of common stock to hold in its treasury stock reserves.
The
following securities have been excluded from the dilutive per share computation as they are antidilutive:
|
|
December
31,
|
|
|
|
2016
|
|
|
2015
|
|
Shares underlying options
outstanding
|
|
|
4,592,347
|
|
|
|
4,303,638
|
|
Shares underlying warrants outstanding
|
|
|
3,291,149
|
|
|
|
2,482,563
|
|
Unvested restricted stock
|
|
|
957,336
|
|
|
|
501,182
|
|
Foreign
Currency Translation
Foreign
currency translation is recognized in accordance with ASC Topic 830. The functional currency of Nephros International Limited
is the Euro and its translation gains and losses are included in accumulated other comprehensive income. The balance sheet is
translated at the year-end rate. The statement of operations is translated at the weighted average rate for the year.
Comprehensive
Income (Loss)
Comprehensive
income (loss), as defined in ASC 220, is the total of net income (loss) and all other non-owner changes in equity (or other comprehensive
income (loss)). The Company’s other comprehensive income (loss) consists only of foreign currency translation adjustments.
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
2 - Summary of Significant Accounting Policies (continued)
Recent
Accounting Pronouncements
In
May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”)
2014-09, “Revenue from Contracts with Customers,” related to revenue recognition. The underlying principle of the
new standard is that a business or other organization will recognize revenue to depict the transfer of promised goods or services
to customers in an amount that reflects what it expects to be entitled to in exchange for the goods or services. The standard
also requires more detailed disclosures and provides additional guidance for transactions that were not addressed completely in
prior accounting guidance. ASU 2014-09 provides alternative methods of initial adoption, and was effective for fiscal years beginning
after December 15, 2016, and interim periods within those annual periods. Early adoption was not permitted. In August, 2015, the
FASB issued ASU No. 2015-14, “Revenue from Contracts with Customers: Deferral of the Effective Date”. The amendment
in this ASU defers the effective date of ASU No. 2014-09 for all entities for one year. Public business entities, certain not-for-profit
entities, and certain employee benefit plans should apply the guidance in ASU 2014-09 to fiscal years beginning after December
15, 2017, including interim reporting periods within that fiscal year. Earlier application is permitted only as of fiscal years
beginning after December 31, 2016, including interim reporting periods with that fiscal year. The Company is currently reviewing
the revised guidance and assessing the potential impact on its consolidated financial statements.
In
July 2015, the FASB issued ASU No. 2015-11, “Simplifying the Measurement of Inventory,” that requires inventory be
measured at the lower of cost and net realizable value and options that currently exist for market value be eliminated. The standard
defines net realizable value as estimated selling prices in the ordinary course of business, less reasonably predictable costs
of completion, disposal, and transportation and is effective for fiscal years beginning after December 15, 2016 and interim periods
within those fiscal years with early adoption permitted. The guidance should be applied prospectively. The Company does not believe
that the adoption of ASU 2015-11 will have a significant impact on its consolidated financial statements.
In
November 2015, the FASB issued ASU No. 2015-17, “Balance Sheet Classification of Deferred Taxes,” that requires that
deferred tax liabilities and assets be classified as noncurrent in a classified statement of financial position. The current requirement
that deferred tax liabilities and assets of a tax-paying component of an entity be offset and presented as a single amount is
not affected by this amendment. The new guidance is effective for fiscal years, and interim periods within those years, beginning
after December 15, 2016. Early adoption is permitted and the standard may be applied either retrospectively or on a prospective
basis to all deferred tax assets and liabilities. The Company does not believe that the adoption of ASU 2015-17 will have a significant
impact on its consolidated financial statements.
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
2 - Summary of Significant Accounting Policies (continued)
In
January 2016, the FASB issued ASU No. 2016-01, “Recognition and Measurement of Financial Assets and Financial Liabilities,”
that modifies certain aspects of the recognition, measurement, presentation, and disclosure of financial instruments. The accounting
standard update is effective for fiscal years, and interim periods within those years, beginning after December 15, 2017, and
early adoption is permitted. The Company is currently assessing the impact that adopting this new accounting guidance will have
on its consolidated financial statements.
In
February 2016, the FASB issued ASU No. 2016-02, “Leases”, that discusses how an entity should account for lease assets
and lease liabilities. The guidance specifies that an entity who is a lessee under lease agreements should recognize lease assets
and lease liabilities for those leases classified as operating leases under previous FASB guidance. Accounting for leases by lessors
is largely unchanged under the new guidance. The guidance is effective for the Company beginning in the first quarter of 2019.
Early adoption is permitted. In transition, lessees and lessors are required to recognize and measure leases at the beginning
of the earliest period presented using a modified retrospective approach. The Company is evaluating the impact of adopting this
guidance on its consolidated financial statements.
In
March 2016, the FASB issued ASU 2016-08, “Principal versus Agent Considerations (Reporting Revenue Gross versus Net),”
which clarifies the implementation guidance on principal versus agent considerations. The amendments in this update do not change
the core principle of ASU 2014-09. The effective date and transition requirements for the amendments in this update are the same
as the effective date and transition requirements of ASU 2014-09. As discussed above, ASU 2015-14 defers the effective date of
ASU 2014-09 by one year. The Company is assessing the impact that adopting this new accounting guidance will have on its consolidated
financial statements.
In
March 2016, the FASB issued ASU 2016-09, “Improvements to Employee Share-Based Payment Accounting,” which simplifies
several aspects of the accounting for share-based payment transactions, including the income tax consequences, classification
of awards as either equity or liabilities, and classification on the statement of cash flows. The guidance is effective for the
Company beginning in the first quarter of fiscal year 2017. Early adoption is permitted. The Company is evaluating the impact
of adopting this guidance on its consolidated financial statements.
In
April 2016, the FASB issued ASU 2016-10, “Identifying Performance Obligations and Licensing,” which clarifies the
implementation guidance for performance obligations and licensing. The amendments in this update do not change the core principle
of ASU 2014-09. The effective date and transition requirements for the amendments in this update are the same as the effective
date and transition requirements of ASU 2014-09. As discussed above, ASU 2015-14 defers the effective date of ASU 2014-09 by one
year. The Company is currently assessing the impact that adopting this new accounting guidance will have on its consolidated financial
statements.
In
May 2016, the FASB issued ASU 2016-12, “Narrow Scope Improvements and Practical Expedients,” which clarifies the accounting
for certain aspects of guidance issued in ASU 2014-09, including assessing collectability and noncash consideration. The clarifications
in this update do not change the core principle of ASU 2014-09. The effective date and transition requirements for the amendments
in this update are the same as the effective date and transition requirements of ASU 2014-09. As discussed above, ASU 2015-14
defers the effective date of ASU 2014-09 by one year. The Company is currently assessing the impact that adopting this new accounting
guidance will have on its consolidated financial statements.
In
June 2016, the FASB issued ASU 2016-13, “Measurement of Credit Losses on Financial Instruments,” which replaces the
incurred loss impairment methodology in current GAAP with a methodology that reflects expected credit losses and requires consideration
of a broader range of reasonable and supportable information to inform credit loss estimates. The guidance is effective for the
Company beginning in the first quarter of fiscal year 2020. Early adoption is permitted beginning in the first quarter of fiscal
year 2019. The Company is evaluating the impact of adopting this guidance on its consolidated financial statements.
In
August 2016, the FASB issued ASU 2016-15, “Classification of Certain Cash Receipts and Cash Payments,” which clarifies
how certain cash receipts and cash payments are presented and classified in the statement of cash flows in order to reduce diversity
in practice. The guidance is effective for the Company beginning in the first quarter of fiscal year 2018. Early adoption is permitted.
The Company is evaluating the impact of adopting this guidance on its consolidated financial statements.
In
November 2016, the FASB issued ASU 2016-17, “Restricted Cash,” which clarifies how restricted cash is presented and
classified in the statement of cash flows. The guidance is effective for the Company beginning in the first quarter of fiscal
year 2018. Early adoption is permitted. The Company is evaluating the impact of adopting this guidance on its consolidated financial
statements.
In
January 2017, the FASB issued ASU 2017-01, “Clarifying the Definition of a Business,” which clarifies the definition
of a business in a business combination. The guidance is effective for the Company beginning in the first quarter of fiscal year
2018. Early adoption is permitted. The Company does not expect this ASU to have a significant impact on its consolidated financial
statements.
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
2 - Summary of Significant Accounting Policies (continued)
In
January 2017, the FASB issued ASU 2017-04, “Simplifying the Test for Goodwill Impairment,” which simplifies the test
for goodwill impairment. The guidance is effective for the Company beginning in the first quarter of fiscal year 2020. Early adoption
is permitted for interim or annual goodwill impairments tests after January 1, 2017. The Company does not expect this ASU to have
a significant impact on its consolidated financial statements.
Note
3 - Financial Instruments
The
fair value guidance requires fair value measurements be classified and disclosed in one of the following three categories:
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●
|
Level
1: Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets
or liabilities;
|
|
|
|
|
●
|
Level
2: Quoted prices in markets that are not active, or inputs which are observable, either directly or indirectly, for substantially
the full term of the asset or liability;
|
|
|
|
|
●
|
Level
3: Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable
(i.e., supported by little or no market activity).
|
The
Company had outstanding warrants originally issued in 2007 (the “2007 Warrants”) that were accounted for as a derivative
liability until they were fully exercised on September 29, 2015. The 2007 Warrants were classified as a liability because
the transactions that would trigger the anti-dilution adjustment provision in the 2007 Warrants were not inputs to the fair value
of the warrants. The 2007 Warrants were recorded as liabilities at their estimated fair value at the date of issuance, with the
subsequent changes in estimated fair value recorded in changes in fair value of warrant liability in the Company’s consolidated
statement of operations and comprehensive income (loss) in each subsequent period. The Company utilized a binomial options pricing
model to value the 2007 Warrants at each reporting period.
The
estimated fair value of the 2007 Warrants was determined using Level 3 inputs. Inherent in a binomial options pricing model are
assumptions related to expected stock-price volatility, expected life, risk-free interest rate and dividend yield. The Company
estimates the volatility of its common stock based on historical volatility that matches the expected remaining life of the warrants.
The risk-free interest rate is based on the U.S. Treasury zero-coupon yield curve on the grant date for a maturity similar to
the expected remaining life of the warrants. The expected life of the warrants is assumed to be equivalent to their remaining
contractual term. The dividend rate is based on the historical rate, which the Company anticipates to remain at zero.
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
3 - Financial Instruments (continued)
On
the consolidated statement of operations for the year ended December 31, 2015, the Company recorded income of approximately $2,099,000
as a result of the change in fair value of the warrant liability. A reconciliation of the warrant liability is as follows (in
thousands):
|
|
2007
Warrants
|
|
Balance at December 31, 2014
|
|
$
|
7,386
|
|
Decrease
in fair value of warrant liability
|
|
|
(2,099
|
)
|
Balance at September 29, 2015
|
|
$
|
5,287
|
|
The
following table summarizes the calculated aggregate fair value of the warrants, along with the assumptions utilized in the calculation:
|
|
September
29, 2015
|
|
Calculated aggregate value
|
|
$
|
5,287
|
|
Weighted average exercise price
|
|
$
|
0.30
|
|
Closing price per share of common stock
|
|
$
|
0.40
|
|
Volatility
|
|
|
137
|
%
|
Weighted average remaining expected
life (years)
|
|
|
4.2
|
|
Risk-free interest rate
|
|
|
1.4
|
%
|
Dividend yield
|
|
|
-
|
|
On
September 29, 2015, the Company entered into a Warrant Amendment and Exercise Agreement (the “Amendment”) with Lambda.
Pursuant to the Amendment, the Company agreed to reduce the current exercise price of the 2007 Warrants by 50%, to $0.15 per share,
in exchange for Lambda’s agreement to exercise the 2007 Warrants in their entirety immediately following the modification.
Upon exercise of the 2007 Warrants, the Company issued 11,742,100 shares of common stock to Lambda and received approximately
$1,761,000 in cash proceeds from Lambda. Following such exercise, no 2007 Warrants remain outstanding. The value of the 2007 Warrants
as of September 29, 2015, after the modification, was approximately $7,048,000, calculated as intrinsic value with an expected
term of zero. As a result, approximately $1,761,000 was recorded as warrant modification expense for the year ended December 31,
2015.
Note
4 - Inventory
The
Company’s inventory components as of December 31, 2016 and 2015 were as follows:
|
|
December
31,
|
|
|
|
2016
|
|
|
2015
|
|
Total gross inventory, finished
goods
|
|
$
|
528,000
|
|
|
$
|
634,000
|
|
Less: inventory
reserve
|
|
|
(49,000
|
)
|
|
|
(43,000
|
)
|
Total inventory
|
|
$
|
479,000
|
|
|
$
|
591,000
|
|
Note
5 - Prepaid Expenses and Other Current Assets
Prepaid
expenses and other current assets as of December 31, 2016 and 2015 were as follows:
|
|
December
31,
|
|
|
|
2016
|
|
|
2015
|
|
Prepaid insurance premiums
|
|
$
|
66,000
|
|
|
$
|
62,000
|
|
Deposit on equipment
|
|
|
-
|
|
|
|
124,000
|
|
Inventory in transit
|
|
|
-
|
|
|
|
18,000
|
|
Other
|
|
|
29,000
|
|
|
|
24,000
|
|
Prepaid expenses
and other current assets
|
|
$
|
95,000
|
|
|
$
|
228,000
|
|
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
6 - Property and Equipment, Net
Property
and equipment as of December 31, 2016 and 2015 was as follows:
|
|
|
|
December
31,
|
|
|
|
Life
|
|
2016
|
|
|
2015
|
|
Manufacturing equipment
|
|
3-5 years
|
|
$
|
690,000
|
|
|
$
|
611,000
|
|
Research equipment
|
|
5 years
|
|
|
37,000
|
|
|
|
37,000
|
|
Computer equipment
|
|
3-4 years
|
|
|
43,000
|
|
|
|
43,000
|
|
Furniture and
fixtures
|
|
7 years
|
|
|
37,000
|
|
|
|
37,000
|
|
Property and equipment, gross
|
|
|
|
|
807,000
|
|
|
|
728,000
|
|
Less: accumulated
depreciation
|
|
|
|
|
737,000
|
|
|
|
716,000
|
|
Property and
equipment, net
|
|
|
|
$
|
70,000
|
|
|
$
|
12,000
|
|
Depreciation
expense for each of the years ended December 31, 2016 and 2015 was approximately $19,000 and $1,000, respectively.
Note
7 - Unsecured Promissory Notes and Warrants
On
June 7, 2016, the Company entered into a Note and Warrant Agreement (the “Agreement”) with new creditors as well as
existing shareholders under which the Company issued unsecured promissory notes (“Notes”) and warrants (“Warrants”)
resulting in total gross proceeds to the Company during June 2016 of approximately $1,187,000. As of December 31, 2016, the portion
of the outstanding unsecured promissory notes held by related parties comprised of entities controlled by a member of management
and by Lambda Investors LLC (“Lambda”), the majority shareholder, amounted to $30,000 and $300,000, respectively.
The outstanding principal under the Notes accrues interest at a rate of 11% per annum. The Company is required to make interest
only payments on a semi-annual basis, and all outstanding principal under the Notes is repayable in cash on June 7, 2019, the
third anniversary of the date of issuance. In addition to the Notes, the Company issued Warrants to purchase approximately 2.4
million shares of the Company’s common stock to the investors in the Agreement. The Warrants have an exercise price of $0.30
per share and are exercisable for 5 years from the issuance date. The Warrants issued under the Agreement are indexed to the Company’s
common stock, therefore, the Company is accounting for the Warrants as a component of equity. In connection with the Agreement,
the Company incurred approximately $13,000 in legal fees.
The
approximately $1,187,000 in gross proceeds from the Agreement, along with the legal fees of approximately $13,000, were allocated
between the Notes and Warrants based on their relative fair values. The portion of the gross proceeds allocated to the Warrants
of approximately $393,000 was accounted for as additional paid-in capital. Approximately $4,000 of the legal fees were allocated
to the Warrants and recorded as a reduction to additional paid-in capital. The remainder of the gross proceeds of approximately
$794,000, net of the remainder of the fees of approximately $9,000, was allocated to the Notes with the fair value of the Warrants
resulting in a debt discount. The debt discount is being amortized to interest expense using the effective interest method in
accordance with ASC 835 over the term of the Agreement. Approximately $53,000 was recognized as amortization of debt discount
during the fiscal year ended December 31, 2016 and is included in interest expense on the consolidated statement of operations
and comprehensive loss. Approximately $77,000 was recognized as interest expense for the fiscal year ended December 31, 2016 for
interest payable to noteholders. For the year ended December 31, 2016, the amount of interest expense recognized related
to related parties comprised of entities controlled by a member of management and by Lambda Investors LLC (“Lambda”),
the majority shareholder, was approximately $2,000 and $19,000, respectively. As of December 31, 2016, approximately $65,000 of
interest has been paid to noteholders and approximately $12,000 of interest is included in accrued expenses on the consolidated
balance sheet.
There were no unsecured long-term
notes payable outstanding as of December 31, 2015.
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
8 - Accrued Expenses
Accrued
expenses as of December 31, 2016 and 2015 were as follows:
|
|
December
31,
|
|
|
|
2016
|
|
|
2015
|
|
Accrued legal
|
|
$
|
99,000
|
|
|
$
|
103,000
|
|
Accrued directors’ compensation
|
|
|
30,000
|
|
|
|
52,000
|
|
Accrued royalty
|
|
|
18,000
|
|
|
|
14,000
|
|
Accrued credits issued to customers
|
|
|
-
|
|
|
|
10,000
|
|
Accrued management bonus
|
|
|
19,000
|
|
|
|
-
|
|
Accrued accounting
|
|
|
6,000
|
|
|
|
1,000
|
|
Accrued interest
|
|
|
17,000
|
|
|
|
12,000
|
|
Accrued other
|
|
|
51,000
|
|
|
|
45,000
|
|
|
|
$
|
240,000
|
|
|
$
|
237,000
|
|
Note
9 - Income Taxes
A
reconciliation of the income tax provision computed at the statutory tax rate to the Company’s effective tax rate is as
follows:
|
|
2016
|
|
|
2015
|
|
U.S. federal statutory rate
|
|
|
35.00
|
%
|
|
|
34.00
|
%
|
Warrant liability
|
|
|
-
|
%
|
|
|
3.71
|
%
|
State & local taxes
|
|
|
(5.21
|
)%
|
|
|
5.78
|
%
|
Tax on foreign operations
|
|
|
-
|
%
|
|
|
0.36
|
%
|
State research and development credits
|
|
|
1.87
|
%
|
|
|
1.47
|
%
|
Other
|
|
|
0.97
|
%
|
|
|
(3.11
|
)%
|
Valuation allowance
|
|
|
(32.63
|
)%
|
|
|
(42.21
|
)%
|
Effective tax
rate
|
|
|
-
|
%
|
|
|
-
|
%
|
Significant
components of the Company’s deferred tax assets as of December 31, 2016 and 2015 are as follows:
|
|
2016
|
|
|
2015
|
|
Deferred tax assets:
|
|
|
|
|
|
|
|
|
Net operating loss carry
forwards
|
|
$
|
29,861,148
|
|
|
$
|
29,092,799
|
|
Research and development credits
|
|
|
1,220,115
|
|
|
|
1,163,616
|
|
Nonqualified stock option compensation
expense
|
|
|
537,037
|
|
|
|
374,769
|
|
Other temporary
book - tax differences
|
|
|
254,813
|
|
|
|
258,445
|
|
Total deferred tax assets
|
|
|
31,873,112
|
|
|
|
30,889,629
|
|
Valuation allowance
for deferred tax assets
|
|
|
(31,873,112
|
)
|
|
|
(30,889,629
|
)
|
Net deferred
tax assets
|
|
$
|
-
|
|
|
$
|
-
|
|
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
9 - Income Taxes (continued)
A
valuation allowance has been recognized to offset the Company’s net deferred tax asset as it is more likely than not that
such net asset will not be realized. The Company primarily considered its historical loss and potential Internal Revenue Code
Section 382 limitations to arrive at its conclusion that a valuation allowance was required. The Company’s valuation allowance
increased $983,483 from December 31, 2015 to December 31, 2016.
At
December 31, 2016, the Company had Federal income tax net operating loss carryforwards of $79,458,888 and New Jersey income tax
net operating loss carryforwards of $19,233,370. Foreign income tax net operating loss carryforwards were $7,403,077 as of December
31, 2016. The Company also had Federal research tax credit carryforwards of $1,220,115 at December 31, 2016 and $1,163,616 at
December 31, 2015. The Company’s net operating losses and research credits may ultimately be limited by Section 382 of the
code and, as a result, it may be unable to offset future taxable income (if any) with losses, or its tax liability with credits,
before such losses and credits expire. The Federal and New Jersey net operating loss carryforwards and Federal tax credit carryforwards
will expire at various times between 2017 and 2035 unless utilized.
The
Company has analyzed the tax positions taken or expected to be taken in its tax returns and concluded it has no liability related
to uncertain tax positions. It is the Company’s policy to report interest and penalties, if any, related to unrecognized
tax benefits in income tax expense.
Note
10 - Stock Plans, Share-Based Payments and Warrants
Stock
Plans
In
2015, the Board of Directors adopted the Nephros, Inc. 2015 Equity Incentive Plan (“2015 Plan”). Under the 2015 Plan,
7,000,000 shares are reserved and authorized for awards and the maximum contractual term is 10 years for stock options issued
under the 2015 Plan.
The
Company’s previously adopted and approved plan, the 2004 Stock Incentive Plan (“2004 Plan”), expired in the
year ended December 31, 2014.
As
of December 31, 2016, 3,042,568 options had been issued to employees under the 2015 Plan and were outstanding. The options issued
to employees expire on various dates between May 7, 2025 and December 14, 2026. As of December 31, 2016, 281,656 options had been
issued to non-employees under the 2015 Plan, were outstanding and will expire on various dates between May 31, 2021 and May 7,
2025. Taking into account all options and restricted stock granted under the 2015 Plan, 1,865,610 shares are available for future
grant under the 2015 Plan. Options currently outstanding are fully vested or will vest upon a combination of the following: immediate
vesting, performance-based vesting or straight line vesting of two or four years. Of the 3,042,568 options granted to employees,
1,604,725 options will vest when the specified performance condition is met.
As
of December 31, 2016, 475,263 options had been issued to employees under the 2004 Plan and were outstanding. The options expire
on various dates between January 6, 2019 and February 5, 2024. As of December 31, 2016, 792,861 options had been issued to non-employees
under the 2004 Plan and were outstanding. Such options expire at various dates between November 30, 2017 and November 17, 2024.
No shares are available for future grants under the 2004 Plan. Options currently outstanding are fully vested or are currently
vesting over a period of four years.
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
10 - Stock Plans, Share-Based Payments and Warrants (continued)
Share-Based
Payment
Expense
is recognized, net of expected forfeitures, over the vesting period of the options. Stock based compensation expense recognized
for the years ended December 31, 2016 and 2015 was approximately $388,000 and approximately $328,000, respectively. Approximately
$5,000 of total stock based compensation expense is the result of a modification of stock options awards issued to a non-employee
director who is no longer serving as a director for the Company.
Approximately
$363,000 and $306,000, respectively, has been recognized in Selling, General and Administrative expenses on the consolidated statement
of operations and comprehensive loss for the years ended December 31, 2016 and 2015. Approximately $25,000 and $22,000, respectively,
has been recognized in Research and Development expenses on the consolidated statement of operations and comprehensive loss for
the years ended December 31, 2016 and 2015.
The
following table summarizes the option activity for the years ended December 31, 2016 and 2015:
|
|
Shares
|
|
|
Weighted
Average
Exercise
Price
|
|
Outstanding at December 31, 2014
|
|
|
2,472,234
|
|
|
$
|
0.96
|
|
Options granted
|
|
|
2,911,829
|
|
|
|
0.56
|
|
Options forfeited or expired
|
|
|
(1,080,425
|
)
|
|
|
1.28
|
|
Outstanding at December 31, 2015
|
|
|
4,303,638
|
|
|
|
0.65
|
|
Options granted
|
|
|
510,520
|
|
|
|
0.37
|
|
Options forfeited
or expired
|
|
|
(221,811
|
)
|
|
|
1.04
|
|
Outstanding at December 31, 2016
|
|
|
4,592,347
|
|
|
$
|
0.60
|
|
The
following table summarizes the options exercisable and vested and expected to vest as of December 31, 2016 and 2015:
|
|
Shares
|
|
|
Weighted
Average
Exercise
Price
|
|
Exercisable at December
31, 2015
|
|
|
1,377,665
|
|
|
$
|
0.84
|
|
Vested and expected
to vest at December 31, 2015
|
|
|
4,133,932
|
|
|
$
|
0.66
|
|
Exercisable at December 31, 2016
|
|
|
1,866,019
|
|
|
$
|
0.70
|
|
Vested and expected
to vest at December 31, 2016
|
|
|
4,434,220
|
|
|
$
|
0.61
|
|
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
10 - Stock Plans, Share-Based Payments and Warrants (continued)
The
fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model with the below
assumptions for the risk-free interest rates, expected dividend yield, expected lives and expected stock price volatility.
|
|
Option
Pricing Assumptions
|
|
Grant Year
|
|
2016
|
|
|
2015
|
|
Stock Price Volatility
|
|
|
114.63
|
%
|
|
|
121.90
|
%
|
Risk-Free Interest Rates
|
|
|
1.81
|
%
|
|
|
1.60
|
%
|
Expected Life (in years)
|
|
|
5.83
|
|
|
|
6.15
|
|
Expected Dividend Yield
|
|
|
0
|
%
|
|
|
0
|
%
|
Expected
volatility is based on historical volatility of the Company’s common stock at the time of grant. The risk-free interest
rate is based on the U.S. Treasury yields in effect at the time of grant for periods corresponding with the expected life of the
options. For the expected life, the Company is using the simplified method as described in the SEC Staff Accounting Bulletin 107.
This method assumes that stock option grants will be exercised based on the average of the vesting periods and the option’s
life.
The
weighted-average fair value of options granted in 2016 and 2015 is $0.31 and $0.49, respectively. The aggregate intrinsic values
of stock options outstanding and stock options vested or expected to vest as of December 31, 2016 are approximately $25,000 and
$24,000, respectively. A stock option has intrinsic value, at any given time, if and to the extent that the exercise price of
such stock option is less than the market price of the underlying common stock at such time. The weighted-average remaining contractual
life of options vested or expected to vest is 7.8 years.
The
aggregate intrinsic values of stock options outstanding and of stock options vested or expected to vest as of December 31, 2015
are $0. A stock option has intrinsic value, at any given time, if and to the extent that the exercise price of such stock option
is less than the market price of the underlying common stock at such time. The weighted-average remaining contractual life of
options vested or expected to vest is 8.5 years.
As
of December 31, 2016, there was approximately $934,000 of total unrecognized compensation cost related to unvested share-based
compensation awards granted under the equity compensation plans. Approximately $158,000 of the $934,000 total unrecognized compensation
will be recognized at the time if and when certain performance conditions are met. The remaining approximately $776,000 will be
amortized over the weighted average remaining requisite service period of 2.2 years.
Restricted
Stock Issued to Employees and Directors
The
Company has issued restricted stock as compensation for the services of certain employees and non-employee directors. The grant
date fair value of restricted stock was based on the fair value of the common stock on the date of grant, and compensation expense
is recognized based on the period in which the restrictions lapse.
The
following table summarizes restricted stock activity for the year end December 31, 2016 and 2015:
|
|
Shares
|
|
|
Weighted
Average
Grant Date
Fair Value
|
|
Nonvested at December 31, 2014
|
|
|
132,077
|
|
|
$
|
0.86
|
|
Granted
|
|
|
617,795
|
|
|
|
0.48
|
|
Vested
|
|
|
(248,690
|
)
|
|
|
0.73
|
|
Nonvested at December 31, 2015
|
|
|
501,182
|
|
|
|
0.46
|
|
Granted
|
|
|
957,336
|
|
|
|
0.35
|
|
Vested
|
|
|
(501,182
|
)
|
|
|
0.46
|
|
Nonvested at December 31, 2016
|
|
|
957,336
|
|
|
$
|
0.35
|
|
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
10 - Stock Plans, Share-Based Payments and Warrants (continued)
The
total fair value of restricted stock which vested during the years ended December 31, 2016 and 2015 was approximately $291,000
and $181,000, respectively.
Total
stock-based compensation expense for the restricted stock granted to employees and non-employee directors was approximately $163,000
and $161,000, respectively, for the years ended December 31, 2016 and December 31, 2015 and is included in Selling, General and
Administrative expenses on the accompanying consolidated statement of operations and comprehensive loss. Approximately $51,000
and $36,000 of restricted stock was granted to employees for the years ended December 31, 2016 and 2015, respectively, to settle
liabilities for services incurred in the respective prior fiscal years. As of December 31, 2016, there was approximately $178,000
of unrecognized compensation expense related to the restricted stock awards, which is expected to be recognized over the next
six months.
Restricted
Stock Issued to Nonemployees
In
March 2016, 57,143 shares of restricted stock, with a fair value of approximately $16,000, were issued as payment for consulting
services to be provided through December 2016. The Company recorded approximately $16,000 of selling, general and administrative
expense during the year ended December 31, 2016. The restricted stock vested on June 15, 2016.
In
March 2016, 38,461 shares of restricted stock, with a fair value of approximately $10,000, were issued as payment for consulting
services to be provided during the fiscal year ended December 31, 2016. The Company recorded approximately $10,000 of selling,
general and administrative expense during the year ended December 31, 2016. The restricted stock vested on September 30, 2016.
In
January 2016, 58,823 shares of restricted stock, with a fair value of approximately $20,000, were issued as payment for consulting
services to be provided through December 2016. The Company recorded approximately $20,000 of selling, general and administrative
expense during the year ended December 31, 2016. The restricted stock vested on April 12, 2016.
In
September 2015, 47,382 shares of restricted stock, with a fair value of approximately $23,000, were issued as payment for marketing
services to be provided in fiscal year 2015. The Company recorded approximately $23,000 of selling, general and administrative
expense during the year ended December 31, 2015. The restricted stock vested on November 25, 2015.
In
July 2015, 69,231 shares of restricted stock, with a fair value of approximately $45,000, were issued as payment for marketing
services to be provided through November 2015 under the Company’s agreement with Proactive Capital Resources Group. The
Company recorded approximately $45,000 of selling, general and administrative expense during the year ended December 31, 2015.
The restricted stock vested on August 7, 2015.
Warrants
The
Company accounts for stock warrants as either equity instruments or derivative liabilities depending on the specific terms of
the warrant agreement. Stock warrants are accounted for as derivative liabilities if the stock warrants allow for cash settlement
or provide for modification of the warrant exercise price in the event that subsequent sales of common stock are at a lower price
per share than the then-current warrant exercise price. The Company classifies derivative warrant liabilities on the balance sheet
as a long-term liability, which is measured to fair value at each balance sheet date subsequent to the initial issuance of the
stock warrant.
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
10 - Stock Plans, Share-Based Payments and Warrants (continued)
The
following table summarizes certain terms of all of the Company’s outstanding warrants at December 31, 2016 and 2015:
Total
Outstanding Warrants
|
|
|
|
|
|
Exercise
|
|
|
Total
Common
Shares Issuable as of
December 31,
|
|
Title
of Warrant
|
|
Date
Issued
|
|
Expiry
Date
|
|
Price
|
|
|
2016
|
|
|
2015
|
|
Equity-classified
warrants
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shareholder Rights Offering
Warrants
|
|
3/10/2011
|
|
3/10/2016
|
|
$
|
0.40
|
|
|
|
-
|
|
|
|
1,565,414
|
|
May 2015 - private placement warrants
|
|
3/18/2015
|
|
3/18/2020
|
|
$
|
0.85
|
|
|
|
917,149
|
|
|
|
917,149
|
|
June 2016 –
Note and Warrant Agreement
|
|
6/7/2016
|
|
6/7/2021
|
|
$
|
0.30
|
|
|
|
2,374,000
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
|
|
3,291,149
|
|
|
|
2,482,563
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
3,291,149
|
|
|
|
2,482,563
|
|
The
weighted average exercise price of the outstanding warrants was $0.45 as of December 31, 2016 and $0.57 as of December 31, 2015.
Warrants
exercised during 2016 and 2015
During
the twelve months ended December 31, 2016, 19,621 warrants were exercised, resulting in proceeds of approximately $1,000 and the
issuance of 906 shares of the Company’s common stock.
On
December 18, 2015, the Company completed its offer to exercise (the “Offer to Exercise”) certain outstanding warrants
to purchase an aggregate of 5,008,689 shares of the Company’s common stock, consisting of outstanding warrants to purchase
an aggregate of 2,226,112 shares of the Company’s common stock at an exercise price of $0.40 per share, issued on March
10, 2011 to investors participating in the Company’s 2011 rights offering (the “Rights Offering Warrants”) and
outstanding warrants to purchase an aggregate of 2,782,577 shares of the Company’s common stock at an exercise price of
$0.40 per share, issued on March 10, 2011 to Lambda in connection with a private placement financing transaction (the “Lambda
Warrants” and, together with the Rights Offering Warrants, the “2011 Warrants”). Pursuant to the Offer to Exercise,
2011 Warrants to purchase an aggregate of 3,442,521 shares of the Company’s common stock were tendered by their holders
and were exercised in connection therewith. Gross proceeds of approximately $688,000 were received by the Company on December
23, 2015.
The
2011 Warrants of holders who elected to participate in the Offer to Exercise were exercisable at a temporarily reduced cash exercise
price of $0.20 per share of common stock beginning on November 20, 2015 and expiring on December 18, 2015. The incremental value
of the 2011 Warrants exercised pursuant to the Offer to Exercise on November 20, 2015, after the modification, was approximately
$106,000. As a result, approximately $73,000 was recorded as a deemed dividend for the year ended December 31, 2015.
During
the twelve months ended December 31, 2015, in addition to those warrants exercised during Offer to Exercise period above and those
warrants exercised by Lambda on September 29, 2015 (see Note 3), 2,127 shares of common stock were issued as a result of additional
warrants exercised, resulting in proceeds of $851.
In
addition, 30 common shares were not issued as a result of warrant exercises for the years ended December 31, 2015 due to rounding.
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
11 - Stockholders’ Equity (Deficit)
July
2015 Purchase Agreement and Registration Rights Agreement
On
July 24, 2015, the Company entered into a Purchase Agreement, together with a Registration Rights Agreement, with Lincoln Park,
an Illinois limited liability company.
Under
the terms and subject to the conditions of the Purchase Agreement, the Company has the right to sell to and Lincoln Park is obligated
to purchase up to $10.0 million in shares of the Company’s common stock, subject to certain limitations, from time to time,
over the 36-month period commencing on September 4, 2015. The Company may direct Lincoln Park, at its sole discretion and subject
to certain conditions, to purchase up to 100,000 shares of common stock on any business day, provided that at least one business
day has passed since the most recent purchase, increasing to up to 200,000 shares depending upon the closing sale price of the
common stock (such purchases, “Regular Purchases”). However, in no event shall a Regular Purchase be more than $500,000.
The purchase price of shares of common stock related to the future funding will be based on the prevailing market prices of such
shares at the time of sales, but in no event will shares be sold to Lincoln Park on a day the common stock closing price is less
than the floor price as set forth in the Purchase Agreement. In addition, the Company may direct Lincoln Park to purchase additional
amounts as accelerated purchases if on the date of a Regular Purchase the closing sale price of the common stock is not below
the threshold price as set forth in the Purchase Agreement. The Company’s sales of shares of common stock to Lincoln Park
under the Purchase Agreement are limited to no more than the number of shares that would result in the beneficial ownership by
Lincoln Park and its affiliates, at any single point in time, of more than 9.99% of the then-outstanding shares of the common
stock.
In
connection with the Purchase Agreement, the Company issued to Lincoln Park 250,000 shares of common stock for no proceeds. The
fair value of the 250,000 shares of common stock issued was approximately $163,000 and was recorded as a commitment fee. Pursuant
to the Purchase Agreement, in September 2015, the Company issued and sold an additional 300,000 shares of common stock to Lincoln
Park at a per share price of $0.45, resulting in gross proceeds of $135,000. The commitment fee of $163,000 was fully amortized
and recorded in additional paid-in capital as of December 31, 2015.
The
Purchase Agreement and the Registration Rights Agreement contain customary representations, warranties, agreements and conditions
to completing future sale transactions, indemnification rights and obligations of the parties. The Company has the right to terminate
the Purchase Agreement at any time, at no cost or penalty. Actual sales of shares of common stock to Lincoln Park under the Purchase
Agreement will depend on a variety of factors to be determined by the Company from time to time, including, among others, market
conditions, the trading price of the common stock and determinations by the Company as to the appropriate sources of funding for
the Company and its operations. There are no trading volume requirements or restrictions under the Purchase Agreement. Lincoln
Park has no right to require any sales by the Company, but is obligated to make purchases from the Company as the Company directs
in accordance with the Purchase Agreement. Lincoln Park has covenanted not to cause or engage in any manner whatsoever, any direct
or indirect short selling or hedging of Company shares.
May
2015 Private Placement
On
May 18, 2015, the Company raised gross proceeds of approximately $1.23 million through the private placement of 1,834,299 units
of its securities. Each unit consisted of one share of its common stock and a five-year warrant to purchase one-half of one share
of the Company’s common stock. The purchase price for each unit was $0.67. The 917,149 warrants issued are equity-classified
and are exercisable at a price of $0.85 per share. Proceeds net of equity issuance costs of $24,000 were recorded as a result
of the private placement was approximately $1,205,000.
Note
12 - 401(k) Plan
The
Company has established a 401(k) deferred contribution retirement plan (the “401(k) Plan”) which covers all employees.
The 401(k) Plan provides for voluntary employee contributions of up to 15% of annual earnings, as defined. As of January 1, 2004,
the Company matches 100% of the first 3% and 50% of the next 2% of employee earnings to the 401(k) Plan. The Company contributed
and expensed $44,000 and $42,000 in 2016 and 2015, respectively.
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
13 - Commitments and Contingencies
Manufacturing
and Suppliers
The
Company has not and does not intend in the near future, to manufacture any of its products and components. With regard to the
OLpur MD190 and MD220, on June 27, 2011, the Company entered into a license agreement, effective July 1, 2011, with Bellco S.r.l.,
an Italy-based supplier of hemodialysis and intensive care products, for the manufacturing, marketing and sale of our patented
mid-dilution dialysis filters (MD 190, MD 220), referred to herein as the Products. Under the agreement, Nephros granted Bellco
a license to manufacture, market and sell the Products under its own name, label and CE mark in Italy, France, Belgium, Spain
and Canada on an exclusive basis, and to do the same on a non-exclusive basis in the United Kingdom and Greece and, upon our written
approval, other European countries where the Company does not sell the Products as well as non-European countries (referred to
as the “Territory”).
On
February 19, 2014, the Company entered into the First Amendment to License Agreement (the “First Amendment”), by and
between the Company and Bellco, which amends the License Agreement, entered into as of July 1, 2011 by and between the Company
and Bellco. Pursuant to the First Amendment, the Company and Bellco agreed to extend the term of the License Agreement from December
31, 2016 to December 31, 2021. The First Amendment also expands the Territory covered by the License Agreement to include, on
an exclusive basis, Sweden, Denmark, Norway and Finland and on a non-exclusive basis, Korea, Mexico, Brazil, China and the Netherlands.
The First Amendment further provides new minimum sales targets which, if not satisfied, will, at the discretion of the Company,
result in conversion of the license to non-exclusive status. The Company has agreed to reduce the fixed royalty payment payable
to the Company for the period beginning on January 1, 2015 through and including December 31, 2021. Beginning on January 1, 2015
through and including December 31, 2021, Bellco will pay the Company a royalty based on the number of units of Products sold per
year in the Territory as follows: for the first 125,000 units sold in total, €1.75 (approximately $1.91) per unit; thereafter,
€1.25 (approximately $1.36) per unit. In addition, the Company received a total of €450,000 (approximately $612,000)
in upfront fees in connection with the First Amendment, half of which was received on February 19, 2014 and the remaining half
was received on April 4, 2014. In addition, the First Amendment provides that, in the event that the Company pursues a transaction
to sell, assign or transfer all right, title and interest to the licensed patents to a third party, the Company will provide Bellco
with written notice thereof and a right of first offer with respect to the contemplated transaction for a period of thirty (30)
days.
L
icense
and Supply Agreement
On
April 23, 2012, the Company entered into a License and Supply Agreement (the “License and Supply Agreement”) with
Medica S.p.A. (“Medica”), an Italy-based medical product manufacturing company, for the marketing and sale of certain
filtration products based upon Medica’s proprietary Medisulfone ultrafiltration technology in conjunction with the Company’s
filtration products (collectively, the “Filtration Products”), and to engage in an exclusive supply arrangement for
the Filtration Products. Under the License and Supply Agreement, Medica granted to the Company an exclusive license, with right
of sublicense, to market, promote, distribute, offer for sale and sell the Filtration Products worldwide, excluding Italy for
the first three years, during the term of the License and Supply Agreement. In addition, the Company granted to Medica an exclusive
license under the Company’s intellectual property to make the Filtration Products during the term of the License and Supply
Agreement. In exchange for the rights granted, the Company agreed to make minimum annual aggregate purchases from Medica of €300,000
(approximately $400,000), €500,000 (approximately $700,000) and €750,000 (approximately $1,000,000) for the years 2012,
2013 and 2014, respectively. The Company’s aggregate purchase commitments totaled approximately €1,200,000 (approximately
$1,300,000) and €999,000 (approximately $1,119,000) for the years ended December 31, 2016 and 2015, respectively. For calendar
years 2017 through 2022, annual minimum amounts will be mutually agreed upon between Medica and the Company. The Company has not
yet formalized an agreed upon minimum purchase level for 2017 with Medica. In exchange for the license, the Company paid Medica
a total of €1,500,000 (approximately $2,000,000) in three installments: €500,000 (approximately $700,000) on April 23,
2012, €600,000 (approximately $800,000) on February 4, 2013, and €400,000 (approximately $500,000) on May 23, 2013.
As
further consideration for the license and other rights granted to the Company, the Company granted Medica options to purchase
300,000 shares of the Company’s common stock. The fair market value of these stock options was approximately $273,000 at
the time of their issuance, calculated as described in Note 2 under Stock-Based Compensation. The fair market value of the options,
along with the total installment payments, is approximately $2,250,000 and has been capitalized as a long-term intangible
asset on the consolidated balance sheet. As of December 31, 2016 and 2015, accumulated amortization related to the Medica
long-term asset is approximately $988,000 and $777,000, respectively. The Medica long-term asset is being amortized as
an expense over the life of the agreement. Approximately $211,000 has been charged to amortization expense for the years ended
December 31, 2016 and 2015 on the consolidated statement of operations and comprehensive loss. Approximately $210,000 of amortization
expense will be recognized in each of the years ended December 31, 2017 through 2022. In addition, for the period beginning April
23, 2014 through December 31, 2022, the Company will pay Medica a royalty rate of 3% of net sales of the Filtration Products sold,
subject to reduction as a result of a supply interruption pursuant to the terms of the License and Supply Agreement.
Royalty
expense of approximately $18,000 and $14,000, respectively was included in accrued expenses as of December 31, 2016 and 2015.
The term of the License and Supply Agreement commenced on April 23, 2012 and continues in effect through December 31, 2022, unless
earlier terminated by either party in accordance with the terms of the License and Supply Agreement.
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
13 - Commitments and Contingencies (continued)
As
of September 2013, the Company has an understanding with Medica whereby the Company has agreed to pay interest to Medica at a
12% annual rate calculated on the principal amount of any outstanding invoices that are not paid pursuant to the original payment
terms. For each of the fiscal years ended December 31, 2016 and 2015, approximately $41,000 was recognized as interest expense.
Contractual
Obligations
The
Company had an operating lease that expired on November 30, 2015 for the rental of its U.S. office and research and development
facilities with a monthly cost of approximately $8,000. The rental agreement was renewed with a monthly cost of approximately
$9,000 and will expire in November 2018. Approximately $21,000 related to a security deposit for the U.S. office facility is classified
as an other asset on the consolidated balance sheet as of December 31, 2016 and 2015. We use these facilities to house our corporate
headquarters and research facilities.
The
lease agreement for the office space in Europe was entered into on August 1, 2016 and includes a twelve month term.
Rent
expense for the years ended December 31, 2016 and 2015 totaled $126,000 and $125,000, respectively.
Investment
in Lease, net
On
October 8, 2015, the Company entered into an equipment lease agreement with Biocon 1, LLC. The lease commenced on January 1, 2016
with a term of 60 months and monthly rental payments of approximately $1,800 will be paid to the Company. At the completion of
the lease term, Biocon 1, LLC will own the equipment provided under the agreement. An investment in lease was established for
the sales-type lease receivable at the present value of the future minimum lease payments. Interest income will be recognized
monthly over the lease term using the effective-interest method. Cash received will be applied against the direct financing lease
receivable and will be presented within changes in operating assets and liabilities in the operating section of the Company’s
consolidated statement of cash flows. At lease inception, an investment in the lease of approximately $92,000 was recorded, net
of unearned interest of approximately $14,000. During the fiscal year ended December 31, 2016, approximately $5,000 was recognized
in interest income. As of December 31, 2016, investment in lease, current, is approximately $27,000, net of unearned interest
of $4,000. As of December 31, 2016, investment in lease, noncurrent, is approximately $61,000, net of unearned interest of $5,000.
As
of December 31, 2016, scheduled maturities of minimum lease payments receivable were as follows:
2016
|
|
$
|
13,000
|
|
2017
|
|
|
17,000
|
|
2018
|
|
|
18,000
|
|
2019
|
|
|
19,000
|
|
2020
|
|
|
21,000
|
|
|
|
|
88,000
|
|
Less: Current
portion
|
|
|
(27,000
|
)
|
Investment in
sales-type lease, noncurrent
|
|
$
|
61,000
|
|
NEPHROS,
INC. AND SUBSIDIARY
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
Note
13 - Commitments and Contingencies (continued)
Contractual
Obligations and Commercial Commitments
The
following tables summarize our approximate minimum contractual obligations and commercial commitments as of December 31, 2016:
|
|
Payments
Due in Period
|
|
|
|
Total
|
|
|
Within
1 Year
|
|
|
Years
2 - 3
|
|
|
Years
4 - 5
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Leases
1
|
|
$
|
240,000
|
|
|
$
|
116,000
|
|
|
$
|
118,000
|
|
|
$
|
6,000
|
|
Employment
Contract
2
|
|
|
550,000
|
|
|
|
240,000
|
|
|
|
310,000
|
|
|
|
-
|
|
Total
|
|
$
|
790,000
|
|
|
$
|
356,000
|
|
|
$
|
428,000
|
|
|
$
|
6,000
|
|
1
In
addition to lease obligations for office space, obligations include a lease for various office equipment which expires in 2020.
2
Relates
to employment agreement with Daron Evans, the Company’s President and Chief Executive Officer, entered into on April 15,
2015 for a term of four years.
Note
14 – Subsequent Event
On
March 17, 2017, the Company entered into a Securities Purchase Agreement (the “Purchase Agreement”) with certain purchasers
identified therein. Pursuant to the Purchase Agreement, the Company agreed to issue and sell, and the purchasers agreed to purchase,
an aggregate of 4,059,994 shares at a price of $0.30 per share for total gross proceeds of approximately $1.2 million. In addition,
the Company will issue to the purchasers warrants to purchase an aggregate of 4,059,994 shares of common stock. The warrants will
have an exercise price of $0.30 per share and will be exercisable for a five-year term. The purchase and sale of the shares and
warrants is expected to close on or about March 22, 2017, subject to satisfying customary closing conditions. Additionally, the
Company entered into a Registration Rights Agreement with such purchasers, pursuant to which the Company has agreed to file a
registration statement with the SEC covering the resale of the shares of common stock and shares issuable upon the exercise of
the warrants within thirty days of the closing date. Maxim Group LLC (“Maxim”) is acting as the sole placement agent
for the offering, and the Company has agreed to pay Maxim a cash fee equal to 7.5% of the aggregate gross proceeds of the offering,
to reimburse Maxim for certain expenses, and to grant Maxim a warrant to purchase 81,199 shares of common stock, upon substantially
the same terms as the warrants issued to the purchasers, except that the warrant issued to Maxim will have an exercise price of
$0.33 per share.