Quarterly report pursuant to Section 13 or 15(d)

SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Policies)

v3.19.3
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Policies)
9 Months Ended
Sep. 30, 2019
Accounting Policies [Abstract]  
Going Concern Assessment

Going Concern Assessment

In accordance with Accounting Standards Update (“ASU”) No. 2014-15, Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern (Subtopic 205-40), the Company has evaluated whether there are certain conditions and events, considered in the aggregate, that raise substantial doubt about the Company’s ability to continue as a going concern within one year after the date that the consolidated financial statements are issued.

Based on our loss to date, anticipated future revenues and operating expenses, debt repayment obligations and cash and cash equivalent of $13.5 million, of which $12.2 million was attributable to a variable interest entity (“VIE”) as of September 30, 2019, we do not have sufficient operating capital for our business without raising additional capital and therefore there is substantial doubt about the Company’s ability to continue as a going concern.

Organization and Nature of Operations

Organization and Nature of Operations

 

As of and for the period ending June 30, 2019, Emmaus Life Sciences, Inc. (“Emmaus,” “we,” “us,” “our,” or the “Company”), formerly known as MYnd Analytics, Inc., was a predictive analytics company that had developed a decision support tool to help physicians reduce trial and error treatment in mental health and provide more personalized care to patients. On July 17, 2019, the Company completed its merger transaction with EMI Holding, Inc., formerly known as Emmaus Life Sciences, Inc. (“EMI”), in accordance with the terms of the Agreement and Plan of Merger and Reorganization, dated as of January 4, 2019, among the Company, Athena Merger Subsidiary, Inc. (“Merger Sub”), and Emmaus, as amended by Amendment No. 1 thereto, dated as of May 10, 2019 (as so amended, the “Merger Agreement”), pursuant to which Merger Sub merged with and into EMI, with EMI surviving as a wholly-owned subsidiary of the Company (the “Merger”). On July 17, 2019, immediately after completion of the Merger, the Company changed its name to “Emmaus Life Sciences, Inc.”.

 

The Merger was treated as a reverse recapitalization with EMI being deemed the acquiring company for accounting purposes under the acquisition method of accounting in accordance with accounting principles generally accepted in the United States. The Merger is intended to qualify as a tax-free reorganization for U.S. federal income tax purposes.

 

In connection with and prior to the Merger, the Company contributed and transferred to Telemynd, Inc. (“Telemynd”), a newly formed, wholly owned subsidiary of the Company, all or substantially all of the Company’s business, assets and liabilities pursuant to the Amended and Restated Separation and Distribution Agreement, dated as of March 27, 2019, among the Company, Telemynd and MYnd Analytics, Inc., a wholly owned subsidiary of the Company (the “Separation Agreement”). On July 15, 2019, the board of directors of the Company declared a dividend with respect to the shares of the Company common stock outstanding at the close of business on that day of one share of the Telemynd common stock held by the Company for each outstanding share of the Company common stock after giving effect to the reverse split described below. The dividend, which together with the contribution and transfer of MYnd’s business, assets and liabilities described above, is referred to as the “Spin-Off.” Prior to the Spin-Off, Telemynd engaged in no business or operations.

 

On July 17, 2019, in connection with, and prior to the completion of, the Merger, the Company effected a 1-for-6 reverse split (the “Reverse Split”) of its outstanding shares of common stock, par value $0.001 per share.

 

As a result of the Spin-Off and the Merger, since July 17, 2019 the Company has operated through EMI and its direct and indirect subsidiaries and the ongoing business of the Company is the EMI business, which is that of a commercial-stage biopharmaceutical company focused on the development, marketing and sale of innovative treatments and therapies, including those in the rare and orphan disease categories. As the acquiring company for accounting purposes, financial condition and results of operations of the Company reflected in the accompanying unaudited consolidated interim financial statements for periods prior to the Merger are those of EMI. .

Principles of consolidation

 

Principles of consolidation—The consolidated financial statements include the accounts of the Company, EMI and EMI’s wholly‑owned subsidiary, Emmaus Medical, Inc. and Emmaus Medical, Inc.’s wholly‑owned subsidiaries, Newfield Nutrition Corp., Emmaus Medical Japan, Inc. (“EMJ”), Emmaus Life Sciences, Co. Ltd (“ELSK”) and Emmaus Medical Europe, Ltd (“EM Europe”). All significant intercompany transactions have been eliminated.

The Company also consolidates EJ Holdings, Inc., a Japanese corporation, as a variable interest entity (VIE) on the basis that the Company is an indirect 40% shareholder and the primary beneficiary of the VIE. The Company is deemed to be the primary beneficiary of the VIE if it has both (a) the power to direct the activities of the VIE that most significantly affect the VIE’s economic performance and (b) the obligation to absorb losses of the VIE that could potentially be significant to the VIE or the right to receive benefits from the VIE that could potentially be significant to the VIE.

The preparation of the consolidated financial statements requires the use of management estimates that affect the reported amounts of assets and liabilities as of the date of the financial statements and the reported amounts of revenues and expenses for the reported period. Actual results could differ materially from those estimates.

Revenues

Revenues – Effective January 1, 2018, the Company adopted Accounting Standard Codification (“ASC”) Topic 606, Revenue from Contracts with Customers using the modified retrospective transition method. The adoption of ASC 606 did not have a material impact on the measurement or on the recognition of revenue of contracts for which all revenue had not been recognized as of January 1, 2018, therefore no cumulative adjustment has been made to the opening balance of accumulated deficit at the beginning of 2018.

The Company generates revenues through the sale of Endari® as a treatment for sickle cell disease (“SCD”) and to a much lesser extent from the sale of AminoPure®, a nutritional supplement.

 

Revenues from Endari® product sales are recognized upon delivery and transfer of control of products to the Company’s distributors and specialty pharmacy customers. Distributors resell the products to other specialty pharmacy providers, health care providers, hospitals, patients and clinics. In addition to distribution agreements with distributors, the Company enters into contractual arrangements with specialty pharmacy providers, in-office dispensing providers, group purchasing organizations, and government entities that provide for government-mandated or privately negotiated rebates, chargebacks and discounts with respect to the purchase of our products. These various discounts, rebates, and chargebacks are referred to as “variable consideration.” Revenues from product sales are recorded net of variable consideration.

 

Prior to recognizing revenues, the Company’s management forecasts and estimates variable consideration. Amounts of variable consideration are included in the transaction price to the extent that it is probable that a significant reversal in the amount of cumulative revenues recognized will not occur when the uncertainty associated with the variable consideration is subsequently resolved.

 

Provisions for returns and other variable consideration adjustments are provided for in the period in which the related revenues are recorded. Actual amounts of consideration ultimately received may differ from our estimates. If actual results in the future vary from our estimates, we will adjust these estimates, which would affect net product revenues and earnings in the period such variances become known.  The following are our significant categories of variable consideration:

 

Sales Discounts and Allowances: The Company provides its customers contractual prompt payment discounts and from time to time offers additional one-time discounts that are recorded as a reduction of revenues in the period the revenues are recognized.

 

Product Returns: The Company offers its distributors a right to return product purchased directly from the Company based principally upon (i) overstocks, (ii) inactive product or non-moving product due to market conditions, and (iii) expired products. Product return allowances are estimated and recorded at the time of sale.

 

Government Rebates: The Company is subject to discount obligations under state Medicaid programs and the Medicare Part D prescription drug coverage gap program.  The Company’s management estimates Medicaid and Medicare Part D prescription drug coverage gap rebates based upon a range of possible outcomes that are probability-weighted for the estimated payor mix. These reserves are recorded in the same period the related revenues are recognized, resulting in a reduction of product revenues and the establishment of a current liability that is included as accounts payable and accrued expenses in our balance sheet. The liability for these rebates consists primarily of estimates of claims expected to be received in future periods related to the recognized revenues.

 

Chargebacks and Discounts: Chargebacks for fees and discounts represent the estimated obligations resulting from contractual commitments to sell products to certain specialty pharmacy providers, in-office dispensing providers, group purchasing organizations, and government entities at prices lower than the list prices charged to distributors. The distributors and pharmacy benefit management charge the Company for the difference between what they pay for the products and the Company’s contracted selling price to these specialty pharmacy providers, in-office dispensing providers, group purchasing organizations, and government entities. These reserves are established in the same period that the related revenues are recognized, resulting in a reduction of revenues. Chargeback amounts are generally determined at the time of resale of products by the distributors.

Leases

Leases As described below under "Recent accounting pronouncements,” we adopted ASU 2016-02 – Leases (Topic 842) (“ASU 2016-02”) as of January 1, 2019. Pursuant to ASU 2016-02, all of our leases outstanding on January 1, 2019 continued to be classified as operating leases. With the adoption of ASU 2016-02, we recorded an operating lease right-of-use asset and an operating lease liability on our balance sheet. Right-of-use lease assets represent our right to use the underlying asset during the lease term and the lease obligation represents our commitment to make lease payments arising from the lease. Right-of-use lease assets and obligations were recognized based on the present value of remaining lease payments over the lease term. As the Company’s leases do not provide an implicit rate, we have used an estimated incremental borrowing rate based on the information available at our adoption date in determining the present value of lease payments. Operating lease expense is recognized on a straight-line basis over the lease term. Variable lease costs such as common area costs and other operating costs are expensed as incurred. For all lease agreements, we combine lease and non-lease components. No right-of-use asset and related lease liability are recorded for leases with an initial term of 12 months or less.

Prior to our adoption of ASU 2016-02, when our lease agreements contained tenant improvement allowances and rent escalation clauses, we recorded a deferred rent asset or liability equal to the difference between the rent expense and the future minimum lease payments due. The lease expense related to operating leases was recognized on a straight-line basis in the statements of operations over the term of each lease. In cases where the lessor granted us leasehold improvement allowances, we capitalized the improvements as incurred and recognized it over the shorter of the lease term or the expected useful life of the improvements.

Inventories

 

Inventories — Substantially, all the raw material purchased during the three and nine months ended September 30, 2019 and the year ended December 31, 2018 were from one vendor. The below table presents inventory by category (in thousands):

 

 

 

 

 

 

 

September 30, 2019

 

 

December 31,

2018

 

Raw materials and components

 

$

1,089

 

 

$

171

 

Work-in-process

 

 

2,392

 

 

 

2,471

 

Finished goods

 

 

4,010

 

 

 

2,063

 

Total

 

$

7,491

 

 

$

4,705

 

Marketable securities

Marketable securities— The Company’s marketable securities as of December 31, 2018 consisted of the following; (a) 39,250 shares of capital stock of CellSeed, Inc., a Japanese Corporation (“CellSeed”) acquired in January 2009 at ¥680 JPY per share ($7.69 USD), which shares were sold in June 2019 for cash proceeds of approximately $221,000; and (b) 6,643,559 shares of capital stock of Telcon RF Pharmaceutical, Inc., a Korean corporation (formerly, Telcon Inc. and herein “Telcon”), which were acquired in July 2017 for ₩36,001,446,221 KRW (equivalent to $31.8 million USD) at ₩5,419 KRW per share.

As of September 30, 2019 and December 31, 2018, the closing prices per Telcon share on the Korean Securities Dealers Automated Quotations (“KOSDAQ”) were ₩4,995 ($4.16 USD) and ₩8,280 KRW ($7.43 USD), respectively.  As of December 31, 2018, the closing price per CellSeed share on the Tokyo Stock Exchange was ¥668 JPY ($6.07 USD).

As of September 30, 2019 and December 31, 2018, all shares of Telcon common stock were pledged to secure our obligations under the revised API agreement with Telcon.

As of December 31, 2018, the 39,250 shares of CellSeed common stock were pledged to secure a $300,000 convertible note of the Company issued to Mitsubishi UFJ Capital III Limited Partnership that was due on demand and were classified as marketable securities, pledged to creditor in our balance sheet. During the nine months ended September 30, 2019, the Company repaid the convertible notes.

Prepaid expenses and other current assets

Prepaid expenses and other current assets — Prepaid expenses and other current assets consisted of the following at September 30, 2019 and December 31, 2018 (in thousands):

 

 

 

 

 

 

 

September 30, 2019

 

 

December 31, 2018

 

Prepaid insurance

 

$

427

 

 

$

82

 

Other prepaid expenses and current assets

 

 

767

 

 

 

661

 

 

 

$

1,194

 

 

$

743

 

 

Other long-term liabilities

Other long-term liabilities—Other long-term liabilities consisted of the following at September 30, 2019 and December 31, 2018 (in thousands):

 

 

September 30, 2019

 

 

December 31, 2018

 

Trade discount

 

$

24,052

 

 

$

26,222

 

Unearned revenue

 

 

10,500

 

 

 

10,000

 

Other long-term liabilities

 

 

4

 

 

 

 

Total other long-term liabilities

 

$

34,556

 

 

$

36,222

 

 

On June 12, 2017, the Company entered into an API Supply Agreement with Telcon pursuant to which Telcon advanced to the Company approximately ₩36.0 billion KRW (approximately $31.8 million USD) in consideration for the right to supply 25% of the Company’s requirements for bulk containers of pharmaceutical grade L-glutamine (“PGLG”). The advance was accounted for a trade discount. See Note 10 for additional details.

Fair value measurements

Fair value measurements — The following table presents the change in fair value of warrant derivative liabilities on a recurring basis using Level 3 inputs during the year ended December 31, 2018 (in thousands):

 

 

Year Ended

 

Warrant Derivative Liabilities—Stock Purchase Warrants

 

December 31, 2018

 

Balance, beginning of period

 

$

26,377

 

Repurchased

 

 

(6,186

)

Change in fair value included in the statement of comprehensive income (loss)

 

 

(20,191

)

Balance, end of period

 

$

 

 

The following table presents the change in fair value of warrants issued to GPB Debt Holdings II, LLC as described in Note 8 as of September 30, 2019 and December 31, 2018 (in thousands):

 

 

Nine Months Ended

 

 

Year Ended

 

 

 

September 30, 2019

 

 

December 31, 2018

 

Warrant Derivative Liabilities—GPB

 

Warrants

 

 

Embedded Conversion Option

 

 

Warrants

 

 

Embedded Conversion Option

 

Balance, beginning of period

 

$

1,399

 

 

$

 

 

$

1,882

 

 

$

1,289

 

Change in fair value included in the statement of comprehensive income (loss)

 

 

(623

)

 

 

 

 

 

(483

)

 

 

(466

)

Extinguished upon debt repayment

 

 

 

 

 

 

 

 

 

 

 

(823

)

Reclassification to equity

 

 

(776

)

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

 

 

$

 

 

$

1,399

 

 

$

 

 

The value of warrant derivative liabilities and the change in fair value of the warrant derivative liabilities were determined using a Binomial Monte-Carlo Cliquet Option Pricing Model. The model is similar to traditional Black-Scholes-type option pricing models, except that the exercise price resets at certain dates in the future. In connection with the Merger, the variable exercise price was fixed, and the warrants were reclassified to equity.

 

The value as of the dates set forth in the table above was based on upon following assumptions:

 

 

July 17, 2019

 

 

December 31, 2018

 

Stock price

 

$

7.02

 

 

$

9.10

 

Risk‑free interest rate

 

 

1.81

%

 

 

2.48

%

Expected volatility (peer group)

 

 

70.00

%

 

 

70.00

%

Expected life (in years)

 

 

3.96

 

 

 

4.00

 

Expected dividend yield

 

 

 

 

 

Number outstanding

 

 

252,802

 

 

 

240,764

 

Balance, end of period:

 

 

 

 

 

 

 

 

Warrant derivative liabilities (long-term) (in thousands)

 

$

776

 

 

$

1,399

 

 

The embedded conversion option in our 10% senior secured convertible debentures is separately accounted at fair value as a derivative liability under the guidance in ASC 815 as of September 30, 2019 and any changes in the fair value of the embedded conversion option are recognized in earnings.

 

The following table sets forth the fair value of the embedded conversion option measured as of September 30, 2019:

 

 

Nine Months Ended

 

Embedded Conversion Option Liabilities—10% Secured Senior Debentures

 

September 30, 2019

 

Balance, beginning of period

 

$

 

Fair value at issuance date

 

$

635

 

Change in fair value included in the statement of comprehensive income (loss)

 

 

(342

)

Balance, end of period

 

$

293

 

 

The value and the change in fair value of embedded conversion option liabilities were determined using a binomial lattice model. The model produces an estimated fair value based on changes in the price of the underlying common stock over successive periods of time.

 

The values as of September 30, 2019 and as of the Merger date were based upon following assumptions:

 

 

September 30, 2019

 

 

July 17, 2019

 

Conversion price

 

$

9.52

 

 

$

10.00

 

Risk‑free interest rate

 

 

1.74

%

 

 

1.92

%

Expected volatility (peer group)

 

 

60.00

%

 

 

55.00

%

Expected life (in years)

 

 

1.06

 

 

 

1.26

 

Expected dividend yield

 

 

 

 

Balance, end of period:

 

 

 

 

 

 

 

 

Embedded conversion option liabilities (in thousands)

 

$

293

 

 

$

635

 

 

Net loss per share

Net loss per share — As of September 30, 2019 and 2018, the Company had outstanding potentially dilutive securities exercisable for or convertible into 13,458,185 and 16,053,511 shares of Company common stock, respectively. No potentially dilutive securities were included in the calculation of diluted net loss per share since their effect would be anti-dilutive for the period ended September 30, 2019.

Recent accounting pronouncements

Recent accounting pronouncements— In June 2016, the FASB issued ASU 2016-13—Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which represents a new credit loss standard that will change the impairment model for most financial assets and certain other financial instruments. Specifically, this guidance will require entities to utilize a new “expected loss” model as it relates to trade and other receivables. In addition, entities will be required to recognize an allowance for estimated credit losses on available-for-sale debt securities, regardless of the length of time that a security has been in an unrealized loss position. This guidance will be effective for annual reporting periods beginning after December 15, 2019, including interim periods within those annual reporting periods. Early adoption is permitted. We are currently evaluating the impact of this new standard on our financial statements and related disclosures.

In August 2018, the FASB issued ASU No. 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework – Changes to the Disclosure Requirements for Fair Value Measurement (“ASU 2018-13”), which changes the fair value measurement disclosure requirements of ASC 820. The amendments in ASU 2018-13 remove some disclosures, modify others, and add some new disclosure requirements. The amendments in this ASU are effective for all entities for fiscal years, and interim period within those fiscal years, beginning after December 15, 2019 with early adoption permitted. The Company is currently assessing the impact the adoption of ASU 2018-13 will have on its consolidated financial statements and accompanying footnote disclosures.

 

In October 2018, the FASB issued ASU 2018-17, Consolidation (Topic 810) Targeted Improvements to Related Party guidance for Variable Interest Entities (“ASU 2018-17”), which amends two aspects of the related-party guidance in ASC 810. Specifically, ASU 2018-17 (1) adds an elective private-company scope exception to the variable interest entity guidance for entities under common control and (2) removes a sentence in ASC 810-10-55-37D regarding the evaluation of fees paid to decision makers to conform with the amendments in ASU 2016-17, Interest Held Through Related Parties That Are Under Common Control. The amendments in ASU 2018-17 are effective for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years. The Company does not expect the adoption of ASU 2018-17 to have a material impact on its consolidated financial statements.