Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
You should read the following discussion and analysis together with our consolidated financial statements and related notes included in “Item 8. Financial Statements and Supplementary Data.” in this Annual Report on Form 10-K. The following discussion contains forward-looking statements that involve risks and uncertainties. For a complete discussion of forward-looking statements, see the section above titled “Special Note Regarding Forward Looking Statements.” Our actual results could differ materially from those expressed or implied in any forward-looking statements as a result of various factors, including those set forth under the caption “Item 1A. Risk Factors.”
Overview
We are a clinical-stage biotechnology company focused on developing novel therapies for neuronal excitability disorders to address unmet needs in chronic pain, psychiatry, epilepsy and other disorders of the peripheral and central nervous systems. These disorders often occur when neurons are overly excited or inhibited, leading to an imbalance, and our focus is on restoring homeostasis. We are developing a pipeline of clinically differentiated product candidates focused on validated mechanisms of action with broad therapeutic potential to deliver improved therapeutics for patients with these disorders.
Our two lead clinical-stage candidates are ETX-810 and ETX-155. ETX-810 is a novel palmitoylethanolamide (PEA) prodrug initially being developed for the treatment of diabetic peripheral neuropathic pain (DPNP) and lumbosacral radicular pain (LSRP), commonly referred to as sciatica. ETX-810 is being evaluated in two Phase 2a clinical trials that are expected to report topline data in 2022 (DPNP Phase 2a in the first half of 2022, and LSRP Phase 2a in the second half of 2022). ETX-155 is a neurosteroid GABAA receptor positive allosteric modulator (PAM) initially being developed for the treatment of major depressive disorder (MDD), perimenopausal depression (PMD) and focal onset seizures (FOS), the most common type of seizure in people with epilepsy. In the first half of 2022, assuming FDA clearance of our IND filed in the first quarter of 2022, we plan to initiate two Phase 2a clinical trials for ETX-155 in patients with MDD and PMD, and we expect both to report topline data in the second half of 2023. In addition, we have initiated a Phase 1b proof-of-concept clinical trial in patients with photosensitive epilepsy that is expected to report interim data in the first half of 2022.
Below is a summary of our wholly owned pipeline.
We have incurred significant operating losses since inception, as we have devoted substantially all of our resources to organizing and staffing our company, identifying potential product candidates, business planning, raising capital, undertaking research, executing preclinical studies and clinical development trials, and providing general and administrative support for business activities. We incurred net losses of $47.5 million and $20.7 million for the years ended December 31, 2021 and 2020, respectively. We had an accumulated deficit of $75.6 million and $28.1 million as of December 31, 2021 and December 31, 2020, respectively. Since our inception, we have funded our operations primarily with an aggregate of $208.3 million in net proceeds from the sale and issuance of shares of our redeemable convertible preferred stock and our initial public offering of our common stock. We had cash, cash equivalents, and marketable securities of $161.4 million and $20.5 million as of December 31, 2021 and December 31, 2020, respectively. Based on our current operating plan, we estimate that our cash, cash equivalents and marketable securities will be sufficient to fund our operating expenses and capital expenditure requirements into late 2023. We have based this estimate on assumptions that may prove to be wrong, and we could exhaust our available capital resources sooner than we expect.
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We anticipate that our expenses and operating losses will increase substantially over the foreseeable future. The expected increase in expenses will be largely driven by our ongoing activities as we:
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continue to develop and conduct clinical trials, including for ETX-810 and ETX-155 for our initial and any potential additional indications; initiate and continue research and development, including preclinical, clinical and discovery efforts for any future product candidates; seek regulatory approvals for ETX-810 and ETX-155, or any other product candidates that successfully complete clinical development;
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add operational, financial and management information systems and personnel, including personnel to support our product candidate development and help us comply with our obligations as a public company;
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hire and retain additional personnel, such as clinical, manufacturing, quality control, scientific, commercial and administrative personnel; maintain, expand and protect our intellectual property portfolio;
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establish sales, marketing, distribution, manufacturing, supply chain and other commercial infrastructure in the future to commercialize various products for which we may obtain regulatory approval; and
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add equipment and physical infrastructure to support our research and development and growing staff; acquire or in-license other product candidates and technologies; and incur increased costs as a result of operating as a public company.
We do not have any products approved for sale and have not generated any revenue from product sales since our inception. Our ability to generate product revenue will depend on the successful development, regulatory approval and eventual commercialization of one or more of our product candidates, if approved. We cannot assure you that we will ever be profitable or generate positive cash flow from operating activities.
We will require substantial additional funding to support our continuing operations and further the development of our product candidates. Until such time as we can generate significant revenue from product sales, if ever, we expect to finance our operations through the sale of equity, debt financings or other capital sources, which could include income from collaborations, strategic partnerships or other strategic arrangements. To a lesser extent, we also expect to continue to rely on U.K. research and development tax credits and incentives for funding. Adequate funding may not be available when needed or on terms acceptable to us, or at all. If we are unable to raise additional capital as needed, we may have to significantly delay, scale back or discontinue development of our product candidates. Our ability to raise additional funds may be adversely impacted by potential worsening global economic conditions and the recent disruptions to, and volatility in, the credit and financial markets in the United States and worldwide, resulting from increased volatility in the trading prices for shares in the biopharmaceutical industry, the ongoing pandemic, or otherwise. In addition, our ability to continue to benefit from research and development tax credits and incentives will depend on our ability to continue meet the applicable requirements for them. If we fail to obtain necessary capital when needed on acceptable terms, or at all, it could force us to delay, limit, reduce or terminate our product development programs, commercialization efforts or other operations. Insufficient liquidity may also require us to relinquish rights to product candidates at an earlier stage of development or on less favorable terms than we would otherwise choose.
Acquisition
In October 2020, we acquired 100% of the share capital of Athenen Therapeutics, Inc. (the Athenen Acquisition), a company developing ETX-155, in a one-for-one exchange of their outstanding preferred and common stock. As a result, we issued a total of 2.5 million shares of Series A redeemable convertible preferred stock and 1.55 million shares of common stock, valued at $5.80 per share and $1.32 per share, respectively, for total purchase consideration of $16.5 million. The IPR&D acquired in this acquisition will enable us to continue to develop ETX-155. The Athenen Acquisition is accounted for as an asset acquisition. Since the acquired IPR&D did not have an alternative future use, we recognized a charge of $9.2 million which is included as a component of in-process research and development on the consolidated statements of operations and comprehensive loss for the year ended December 31, 2020.
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Impact of the COVID-19 Pandemic on Our Operations
In March 2020, the World Health Organization characterized the outbreak of COVID-19 as a global pandemic and recommended containment and mitigation measures. Since then, extraordinary actions have been taken by international, federal, state, and local public health and governmental authorities to contain and combat the outbreak and spread of COVID-19 in regions throughout the world, including the U.K. and the State of Washington, where most of our operations are conducted. These actions substantially restricted daily activities for individuals and caused many businesses to curtail or cease normal operations. We have been carefully monitoring the COVID-19 pandemic as it continues to progress and its potential impact on our business. As a result of COVID-19, we have taken precautionary measures in order to minimize the risk of the virus to our employees, including the suspension of all non-essential business travel during peak periods of outbreak. In addition, all of our workforce has the ability to work remotely. To date, we have been able to continue our key business activities and advance our clinical programs. We have experienced delays in availability and shipping of preclinical and clinical supplies and delays in vendor services caused by understaffing or illness. However, to date, these delays have not materially impacted our business. However, in the future, it is possible that delays such as these or other disruptions such as delays related to enrolling participants in our clinical trials could impact our clinical development timelines. While the broader implications of the COVID-19 pandemic on our results of operations and overall financial performance remain uncertain, it has, to date, not had a material adverse impact on our results of operations or our ability to raise funds to sustain operations. The economic effects of the pandemic and resulting societal changes are currently not predictable, and the future financial impacts could vary from those foreseen.
Components of Operating Results
Operating Expenses
Our operating expenses consist of (i) research and development expenses, including expenses incurred with related parties, (ii) in-process research and development, and (iii) general and administrative expenses.
Research and Development
Our research and development expenses consist primarily of direct and indirect costs incurred in connection with our discovery efforts, preclinical studies, and clinical trial activities related to our pipeline, including our lead product candidates, ETX-810 and ETX-155.
Our direct research and development costs include:
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expenses incurred in connection with research, laboratory consumables and preclinical and clinical trial activities;
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the cost to manufacture drug products for use in our preclinical and clinical trials; and
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consulting fees, including services provided by a related party.
Our indirect research and development costs include:
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personnel-related expenses, such as salaries, bonuses, benefits, and stock-based compensation expense, for our scientific personnel performing research and development activities; and
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facility rent.
Total direct costs and indirect costs are as follows (in thousands):
Year Ended
December 31,
Research and development tax credits (6,596 ) (2,429 )
Total research and development expenses $ 23,322 $ 9,342
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We expense research and development costs as incurred. Non-refundable advance payments for goods and services that will be used over time for research and development are capitalized and recognized as goods are delivered or as the related services are performed. Costs to acquire technologies used in research and development that have not yet received regulatory approval and that are not expected to have an alternative future use are expensed when incurred. We categorize costs by stage of development clinical or preclinical. Given our stage of development and the utilization of our resources across our various programs, we have not historically tracked our research and development costs by program. Research and development expenses are presented net of reimbursement received for refundable research and development tax credits from the U.K. government.
Research and development costs by stage of development are as follows (in thousands):
Year Ended
December 31,
Research and development tax credits (6,596 ) (2,429 )
Total research and development expenses $ 23,322 $ 9,342
Research and development activities are central to our business model. We expect our research and development expenses to increase substantially for the foreseeable future as we continue to ramp up our clinical development activities and incur expenses associated with hiring additional personnel to support our research and development efforts. Our research and development expenses may vary significantly based on factors such as:
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the number and scope of clinical studies needed for regulatory approval;
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the number and scope of preclinical and IND-enabling studies;
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the phases of development of our product candidates;
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the progress and results of our research and development activities;
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the length of time required to enroll eligible subjects and initiate clinical trials;
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the number of subjects that participate in the clinical trials;
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potential additional safety monitoring requested by regulatory agencies;
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the duration of subject participation in the trials and follow-up;
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the cost and timing of manufacturing of our product candidates;
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the timing, receipt and terms of any marketing approvals from applicable regulatory authorities;
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the hiring and retention of research and development personnel;
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the degree to which we obtain, maintain, defend and enforce our intellectual property rights; and
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the extent to which we establish collaborations, strategic partnerships or other strategic arrangements and the performance of any related third parties.
A change in the outcome of any of these variables with respect to the development of any of our product candidates could significantly change the costs and timing associated with the development of that product candidate.
Research and development expenses, related party included expense reimbursements paid to Carnot Pharma, LLC, a related party, of $1.3 million and $0.6 million for the years ended December 31, 2021 and 2020, respectively.
In-process Research and Development
Our IPR&D expense consists of the relative fair value of the assets acquired and consideration given in connection with the Athenen Acquisition. As the assets acquired were in the research and development phase and were determined to not have any alternative future use, it was expensed as in-process research and development.
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General and Administrative
Our general and administrative expenses consist primarily of personnel-related expenses, such as salaries, bonuses, benefits, and stock-based compensation, for our personnel in executive, finance and accounting, human resources, business development and other administrative functions. Other significant general and administrative expenses include legal fees relating to intellectual property and corporate matters, professional fees for accounting, tax and consulting services, insurance costs, and travel expenses.
We expect that our general and administrative expenses will substantially increase for the foreseeable future as we continue to increase our general and administrative headcount to support our continued research and development activities and, if any product candidates receive marketing approval, commercialization activities, as well as to support our operations generally. We also expect to incur increased expenses associated with operating as a public company, including costs related to accounting, audit, legal, regulatory, and tax-related services associated with maintaining compliance with exchange listing and Securities and Exchange Commission (SEC) requirements, director and officer insurance costs, and investor and public relations costs.
Other Income (Expense)
Change in Fair Value of Redeemable Convertible Preferred Tranche Liability
Our redeemable convertible preferred stock tranche lability was accounted for at fair value at inception, with changes in the fair value recorded in earnings at each reporting period through settlement. Refer to Note 6 of the consolidated financial statements.
Foreign Currency Gain (Loss)
Our foreign currency gain (loss) primarily consists of foreign exchanges gains and losses resulting from remeasurement and foreign currency transactions between the British Pound and the U.S. Dollar.
Other Income, net
Our other income consists of interest income, accretion and amortization related to our investments.
Results of Operations
The following table summarizes our results of operations for the years ended December 31, 2021 and 2020 (dollars in thousands):
Year EndedDecember 31, Change
Operating expenses:
In-process research and development — 9,158 (9,158 ) (100.0 )%
Other income (expense):
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Comparison of the Years Ended December 31, 2021 and December 31, 2020
Operating Expenses
The following table sets forth our operating expenses (dollars in thousands):
Year EndedDecember 31, Change
In-process research and development — 9,158 (9,158 ) (100.0 )%
Research and Development and Research and Development, related party
Research and development expenses increased 151.4% from $8.8 million in 2020 to $22.0 million in 2021. Research and development expenses, related party increased 122.7% to $1.3 million in 2021. In total, research and development expenses increased 149.6% from $9.3 million in 2020 to $23.3 million in 2021. This increase was primarily driven by a $9.5 million increase in clinical expenses associated with Phase 1 and Phase 2 clinical trials of ETX-155 and ETX-810, a $5.8 million increase in preclinical expenses associated with ETX-155, ETX-810, and our preclinical programs, and a $2.9 million increase in personnel-related expenses from increased headcount and stock-based compensation. Clinical and preclinical costs have increased and are expected to continue to increase due to the further advancement of our programs into later stages of clinical development where clinical studies may have increased numbers of subjects, longer duration and more substantial data collection and analysis. The increase was partially offset by a $4.2 million increase in the refundable research and development tax credits from the U.K. generated from the increased research and development activities.
In-process Research and Development
In-process research and development expenses decreased by $9.2 million from 2020 to 2021 as the Athenen Acquisition was completed in October 2020, and we did not acquire any IPR&D in 2021.
General and Administrative
General and administrative expenses increased 409.3% from $2.4 million in 2020 to $12.4 million in 2021. The increase is primarily due to a $5.4 million increase in personnel-related expenses from increased headcount and stock-based compensation, as well as an increase of $3.1 million in consulting and legal expenses and an increase of $0.9 million in insurance costs.
Other Income (Expense)
The following table sets forth our other income (expense) (dollars in thousands):
Year EndedDecember 31, Change
Change in Fair Value of Redeemable Convertible Preferred Tranche Liability
For the year ended December 31, 2021, we recognized an $11.7 million charge from the remeasurement of our Series A-1 preferred stock tranche liability immediately prior to settlement.
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Foreign Currency Gain (Loss)
Foreign currency gain (loss) decreased from a $0.3 million gain for the year ended December 31, 2020 to a $0.2 million loss for the year ended December 31, 2021. The loss was due to unfavorable foreign currency exchange rates between the British Pound and the U.S. Dollar.
Other Income, net
Other income, net increased by $0.1 million for the year ended December 31, 2021. The increase was due to the interest income, partially offset by amortization of premiums and accretion of discounts recognized on our investments recognized during the year. In 2020, we held no investments.
Liquidity and Capital Resources
Sources of Liquidity
We primarily generate cash and cash equivalents from the sale of our equity securities, including common stock and redeemable convertible preferred stock, and to a lesser extent from cash received pursuant to U.K. research and development tax credits and incentives. From our inception to December 31, 2021, we raised aggregate proceeds of $208.3 million from the issuance of shares of our redeemable convertible preferred stock and from our initial public offering of our common stock. We have not generated any revenue from product sales or otherwise. We have incurred net losses from operations since our inception and anticipate we will continue to incur net losses for the foreseeable future. As of December 31, 2021 and December 31, 2020, we had cash, cash equivalents, and marketable securities of $161.4 million and $20.5 million and an accumulated deficit of $75.6 million and $28.1 million, respectively.
Funding Requirements
We have experienced recurring net losses since inception. Our transition to profitability is dependent upon the successful development, approval and commercialization of our product candidates and achieving a level of revenue adequate to support our cost structure. We do not expect to achieve such revenue and expect to continue to incur losses for the foreseeable future. We believe our cash, cash equivalents, and marketable securities of $161.4 million as of December 31, 2021 will enable us to fund our operating expenses and capital expenditure requirements through late 2023.
We expect that our research and development and general and administrative expenses will continue to increase for the foreseeable future. As a result, we will need significant additional capital to fund our operations, which we may obtain through one or more equity offerings, debt financings or other third-party funding, including potential strategic alliances and licensing or collaboration arrangements. Because of the numerous risks and uncertainties associated with the development and commercialization of our product candidates, we are unable to estimate the amount of increased capital we will need to raise to support our operations and the outlays and operating expenditures necessary to complete the development of our product candidates and build additional manufacturing capacity, and we may use our available capital resources sooner than we currently expect.
Our future capital requirements will depend on many factors, including:
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the progress of our current and future product candidates through preclinical and clinical development;
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potential delays in our preclinical studies and clinical trials, whether current or planned, or other factors;
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continuing our research and discovery activities;
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initiating and conducting additional preclinical, clinical, or other studies for our product candidates;
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changing or adding additional contract manufacturers or suppliers;
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seeking regulatory approvals and marketing authorizations for our product candidates;
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establishing sales, marketing, and distribution infrastructure to commercialize any products for which we obtain approval;
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acquiring or in-licensing product candidates, intellectual property and technologies;
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making milestone, royalty, or other payments due under any current or future collaboration or license agreements;
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obtaining, maintaining, expanding, protecting, and enforcing our intellectual property portfolio;
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potential delays or other issues related to our operations;
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meeting the requirements and demands of being a public company;
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defending against any product liability claims or other lawsuits related to our products; and
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the continued impact of the COVID-19 pandemic, which may exacerbate the magnitude of the factors discussed above.
We have based our estimates as to how long we expect we will be able to fund our operations on assumptions that may prove to be wrong, and we could use our available capital resources sooner than we currently expect, in which case, we would be required to obtain additional financing sooner than currently projected, which may not be available to us on acceptable terms, or at all. Our failure to raise capital as and when needed would have a negative impact on our financial condition and our ability to pursue our business strategy.
We will need substantial additional funding to support our continuing operations and pursue our development strategy. Until such time as we can generate significant revenue from sales of our product candidates, if ever, we expect to finance our operations through the sale of equity, debt financings or other capital sources, including potential collaborations with other companies or other strategic transactions. Adequate funding may not be available to us on acceptable terms, or at all. If we are unable to raise capital or enter into such agreements as, and when, needed, we may have to significantly delay, scale back, or discontinue the development and commercialization of our product candidates or delay our efforts to expand our product pipeline. We may also be required to sell or license to other parties’ rights to develop or commercialize our product candidates that we would prefer to retain.
Cash Flows
The following table summarized our cash flows (in thousands):
Year Ended'December 31,
Net cash used in operating activities $ (36,072 ) $ (14,098 )
Net cash provided by (used in) investing activities $ (114,970 ) $ 8,078
Net cash provided by financing activities $ 177,232 $ 4,925
Operating activities
In 2021, net cash used in operating activities was $36.1 million. This consisted primarily of net loss of $47.5 million and a net increase in our operating assets and liabilities of $4.2 million, primarily related to research and development activities, which was partially offset by the non-cash charges for changes in the fair value of the redeemable convertible preferred stock tranche liability of $11.7 million and stock-based compensation of $3.7 million.
In 2020, net cash used in operating activities was $14.1 million. This consisted primarily of net loss of $20.7 million and an increase in our operating assets and liabilities of $2.9 million, mostly related to research and development activities, which was partially offset by the non-cash charges for in-process research and development expenses of $9.2 million and stock-based compensation of $0.7 million
Investing activities
In 2021, net cash used in investing activities was $115.0 million. This consisted of purchases of investments in U.S. government debt securities, commercial paper, and corporate bonds.
In 2020, net cash provided by investing activities was $8.1 million, which was attributable to the $8.3 million in cash acquired from the Athenen Acquisition which was partially offset by the legal fees of $0.2 million paid for such acquisition
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Financing activities
In 2021, net cash provided by financing activities was $177.2 million, primarily attributable to the proceeds, net of issuance costs, from the issuance of our Series A-1 and Series B redeemable convertible preferred stock, and the issuance of our common stock in our initial public offering.
In 2020, net cash provided by financing activities was $4.9 million, attributable to the proceeds, net of issuance costs, from the issuance of our Series A-1 redeemable convertible preferred stock.
Contractual Commitments and Obligations
In the normal course of business, we enter into contracts with contract research organizations (CROs), contract development and manufacturing organizations (CDMOs), and other third parties for preclinical studies and clinical trials, research and development supplies, and other testing and manufacturing services. These contracts do not contain material minimum purchase commitments and generally provide us the option to cancel, reschedule and adjust our requirements based on our business needs, prior to the delivery of goods or performance of services. However, it is not possible to predict the maximum potential amount of future payments under these agreements due to the conditional nature of our obligations and the unique facts and circumstances involved in each agreement.
We lease various operating spaces in the U.S. and the U.K. under non-cancelable operating lease arrangements that expire on various dates through January 31, 2025. As of December 31, 2021 and 2020, our future minimum lease payments under non-cancelable lease agreements were approximately $1.0 million and $47,000, respectively.
Off Balance Sheet Arrangements
We did not have any off-balance sheet arrangements as of December 31, 2021 and December 31, 2020.
Critical Accounting Policies and Estimates
A summary of the significant accounting policies is provided in Note 2 to our consolidated financial statements.
Our management’s discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with U.S. GAAP. The preparation of consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements, as well as the reported expenses incurred during the reporting periods. Our estimates are based on our historical experience and on various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
Management considers an accounting estimate to be critical if:
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it requires a significant level of estimation uncertainty; and
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changes in the estimate are reasonably likely to have a material effect on our financial condition or results of operations.
We believe the following critical accounting policies and estimates describe the more significant judgments and estimates used in the preparation of our consolidated financial statements.
Stock-Based Compensation
We measure our stock-based awards granted to employees, non-employee directors, consultants and independent advisors based on the estimated grant-date fair value of the awards. We use the Black-Scholes option pricing model to estimate the fair value of our stock option awards. The Black-Scholes option pricing model requires us to make assumptions and judgements about the variables used in the calculation, including the fair value of common stock, expected term, expected volatility of our common stock, risk-free interest rate and expected dividend yield. Changes in the assumptions can materially affect the fair value and ultimately how much stock-based compensation is recognized. As a result, if factors or expected outcomes change and we use significantly different assumptions or estimates, our stock-based compensation recognized in future periods could be materially different.
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Refer to Note 2 and 8 to our consolidated financial statements for further details regarding the development and evaluation of the assumptions used to estimate the fair value of our stock-based awards, and the related effect of stock-based compensation expense on the consolidated financial statements.
Fair Value of Common Stock
Following the closing of our IPO, the fair market value of our common stock is based on its closing price as reported on the date of grant on the Nasdaq Global Market, on which our common stock is traded. Prior to our IPO, because there was no public market for our common stock, the estimated fair value of our common stock was determined by the board of directors as of the date of each option grant with input from management, considering the most recently available third-party valuation of common stock, and the board of directors’ assessment of additional objective and subjective factors that it believed were relevant and which may have changed from the date of the most recent valuation through the date of the grant.
The assumptions underlying these valuations represented management’s best estimates which involved inherent uncertainties. As a result, if we had used significantly different assumptions or estimates, the fair value of our common stock and stock-based compensation expense could have been materially different.
Refer to Note 2 to our consolidated financial statements for further details regarding the factors considered and valuation approaches utilized in determining the best estimate of fair value of our common stock prior to our IPO.
Redeemable Convertible Preferred Stock Tranche Liability
Our Series A-1 redeemable convertible preferred stock included an obligation whereby the investors agreed to buy, and the Company agreed to sell, additional shares at a fixed price if certain agreed upon milestones were achieved (Series A-1 Tranche Rights). This redeemable convertible preferred stock tranche liability was determined to be a freestanding financial instrument that should be accounted for as a liability at fair value and was revalued at each reporting period until settlement, with changes in the fair value recorded as a change in redeemable convertible preferred stock tranche liability in the consolidated statements of operations and comprehensive loss. Upon the closing of the redeemable convertible preferred stock, the redeemable convertible preferred stock purchase rights liability was extinguished, and the mark-to-market fair value of the liability was included in the carrying value of the redeemable convertible preferred stock issued.
We estimated the fair value of the Series A-1 redeemable convertible preferred stock tranche liability using a probability-weighted present value model that considered the probability of triggering the Series A-1 Tranche Rights through achievement of the clinical development milestones specified in the Series A-1 redeemable convertible preferred stock purchase agreement. Significant estimates and assumptions impacting the fair value measurement included the estimated fair value per share of the underlying Series A-1 redeemable convertible preferred stock, risk-free rate, expected dividend yield, time to liquidity, expected volatility of the price of the underlying redeemable convertible preferred stock and determining the type of option (call option and/or forward contract) and associated probabilities. The most significant assumptions impacting the fair value of the redeemable convertible preferred stock tranche feature included the estimated fair value of our Series A-1 redeemable convertible preferred stock, estimated time to achieve the tranche milestone, and the determination of the type of option (call option and/or forward contract) and associated probability of success of completing the milestone.
We determined the estimated fair value per share of the underlying redeemable convertible preferred stock by taking into consideration the most recent sales of our redeemable convertible preferred stock as well as additional factors that we deemed relevant. We assessed these assumptions and estimates on a quarterly basis as additional information impacting the assumptions became available. The risk-free rate was determined by reference to the U.S. Treasury yield curve for time periods approximately equal to the expected term of the preferred stock tranche feature. We estimated a 0% dividend yield based on the expected dividend yield and the fact that we have never paid or declared dividends. We estimated the time to liquidity by weighting potential timelines associated with reaching various pipeline milestones. We historically have been a private company and lack company-specific historical and implied volatility information of our stock. Therefore, we estimated our expected stock volatility based on the historical volatility of a representative group of public companies in the biotechnology industry for the expected terms. The determination of the type of option is based on the payouts available to the holders of the Series A-1 Tranche Rights and the level of control the investors had over exercising these rights.
These estimates involved inherent uncertainties and the application of significant judgment. As a result, if factors or expected outcomes changed and we used significantly different assumptions or estimates, our redeemable convertible preferred stock tranche liability could have been materially different.
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Internal Controls over Financial Reporting
In connection with the audit of our consolidated financial statements as of and for the years ended December 31, 2021 and 2020, we identified material weaknesses in our internal control over financial reporting. See the section titled “Risk Factors—Risks Related to Our Common Stock —We have identified material weaknesses in our internal control over financial reporting. If we are unable to remediate the material weaknesses, or if we identify additional material weaknesses in the future or otherwise fail to maintain an effective system of internal controls, we may not be able to accurately or timely report our financial condition or results of operations, which may adversely affect our business.”
Emerging Growth Company Status
We are an emerging growth company, as defined in the Jumpstart Our Business Startups Act (JOBS Act). Under the JOBS Act, emerging growth companies can delay adopting new or revised accounting standards issued subsequent to the enactment of the JOBS Act until such time as those standards apply to private companies. Other exemptions and reduced reporting requirements under the JOBS Act for emerging growth companies include presentation of only two years audited consolidated financial statements in a registration statement for an initial public offering, an exemption from the requirement to provide an auditor’s report on internal controls over financial reporting pursuant to the Sarbanes-Oxley Act, an exemption from any requirement that may be adopted by the Public Company Accounting Oversight Board regarding mandatory audit firm rotation, and less extensive disclosure about our executive compensation arrangements. We have elected to use the extended transition period for complying with new or revised accounting standards that have different effective dates for public and private companies until the earlier of the date that (i) we are no longer an emerging growth company or (ii) we affirmatively and irrevocably opt out of the extended transition period provided in the JOBS Act.
As a result, our consolidated financial statements may not be comparable to companies that comply with the new or revised accounting pronouncements as of public company effective dates. We will remain an emerging growth company under the JOBS Act until the earliest of (i) the last day of our first fiscal year in which we have total annual gross revenue of $1.07 billion or more, (ii) the date on which we have issued more than $1.0 billion of non-convertible debt instruments during the previous three fiscal years, (iii) the date on which we are deemed a “large accelerated filer” under the rules of the SEC with at least $700.0 million of outstanding equity securities held by non-affiliates, or (iv) December 31, 2026.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
As a smaller reporting company, we are not required to provide the information requested by this item pursuant to Item 305(e) of Regulation S-K.
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Item 8. Financial Statements and Supplementary Data.
Page
Report of Independent Registered Public Accounting Firm (PCAOB ID 238) 114
Consolidated Balance Sheets 115
Consolidated Statements of Operations and Comprehensive Loss 116
Consolidated Statements of Cash Flows 118
Notes to Consolidated Financial Statements 119
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of Eliem Therapeutics, Inc.
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of Eliem Therapeutics, Inc. and its subsidiaries (the “Company”) as of December 31, 2021 and 2020, and the related consolidated statements of operations and comprehensive loss, of redeemable convertible preferred stock and stockholders’ equity (deficit) and of cash flows for the years then ended, including the related notes (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2021 and 2020, and the results of its operations and its cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America.
Basis for Opinion
These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s consolidated financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits of these consolidated financial statements in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud.
Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ PricewaterhouseCoopers LLP
Seattle, Washington
March 7, 2022
We have served as the Company’s auditor since 2021.
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Eliem Therapeutics, Inc.
Consolidated Balance Sheets
(in thousands, except share and per share amounts)
As of December 31,
Assets
Short-term marketable securities 89,558 —
Prepaid expenses and other current assets 11,772 1,511
Long-term marketable securities 24,919 —
Other long-term assets 70 2,633
Liabilities, redeemable convertible preferred stock, and stockholders’ deficit
Current liabilities:
Accounts payable, related party — 207
Accrued expenses, related party 39 —
Redeemable convertible preferred stock tranche liability — 551
Total current liabilities $ 6,031 $ 3,063
Other long-term liabilities 7 —
Commitments and contingencies (Note 7)
Stockholders’ equity (deficit)
Accumulated other comprehensive loss (123 ) —
Total stockholders’ equity (deficit) $ 167,203 $ (24,983 )
The accompanying notes are an integral part of these consolidated financial statements.
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Eliem Therapeutics, Inc.
Consolidated Statements of Operations and Comprehensive Loss
(in thousands, except share and per share amounts)
Year Ended December 31,
Operating expenses:
Research and development, related party 1,276 573
In-process research and development — 9,158
Other income (expense):
Foreign currency gain (loss) (170 ) 257
Other income, net 80 —
Total other income (expense) (11,808 ) 257
Net loss attributable to common stockholders $ (52,028 ) $ (22,953 )
Comprehensive loss:
Other comprehensive loss:
Unrealized loss on investments, net of tax of $0 (123 ) —
The accompanying notes are an integral part of these consolidated financial statements.
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Eliem Therapeutics, Inc.
Consolidated Statements of Redeemable Convertible Preferred Stock and Stockholders’ Equity (Deficit)
(in thousands, except share and per share amounts)
Shares Amount Shares Amount Capital Loss Deficit (Deficit)
Vesting of restricted stock awards — — 38,426 — — — — —
Stock-based compensation — — — — 707 — — 707
Stock-based compensation — — — — 3,737 — 3,737
Other comprehensive loss — — — — — (123 ) — (123 )
The accompanying notes are an integral part of these consolidated financial statements.
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Eliem Therapeutics, Inc.
Consolidated Statements of Cash Flows
(in thousands)
As of December 31,
Cash flows from operating activities
Adjustments to reconcile net loss to net cash used in operating activities:
Investment amortization 370 —
Foreign currency gain from remeasurement (245 ) (359 )
In-process research and development expenses — 9,158
Changes in operating assets and liabilities:
Prepaid expenses and other assets (10,260 ) (1,352 )
Accounts payable and accrued liabilities, related party (168 ) 143
Long-term liabilities 7 —
Net cash used in operating activities $ (36,072 ) $ (14,098 )
Cash flows from investing activities:
Assets acquired in asset acquisition including cash — 8,279
Purchase of marketable securities (114,970 ) —
Net cash provided by (used in) investing activities $ (114,970 ) $ 8,078
Cash flows from financing activities:
Proceeds from initial public offering, net issuance costs 83,144 —
Proceeds from exercise of stock options 149 —
Net cash provided by financing activities $ 177,232 $ 4,925
Effect of exchange rate changes on cash 245 359
Net change in cash and cash equivalents $ 26,435 $ (736 )
Cash and cash equivalents at beginning of period 20,487 21,223
Cash and cash equivalents at end of period $ 46,922 $ 20,487
Supplemental disclosure of cash flow information:
Redeemable convertible preferred stock accretion $ — $ 1,503
The accompanying notes are an integral part of these consolidated financial statements.
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ELIEM THERAPEUTICS, INC
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1. Nature of Operations and Basis of Presentation
Organization
Eliem Therapeutics, Inc. (the Company) is a clinical-stage biotechnology company focused on developing novel therapies for neuronal excitability disorders to address unmet needs in chronic pain, neuropsychiatry, epilepsy and other disorders of the peripheral and central nervous systems. Headquartered in Redmond, Washington, the Company was incorporated on October 18, 2018 as a Delaware corporation.
Basis of Presentation and Principles of Consolidation
The accompanying consolidated financial statements of the Company and its wholly owned subsidiaries have been prepared in conformity with accounting principles generally accepted in the United States (U.S. GAAP). All intercompany transactions and balances have been eliminated in consolidation.
Reverse Stock Split
In July 2021, the Company's board of directors approved an amendment to the Company's certificate of incorporation to effect a reverse split of shares of the Company's common stock on a 1-for-2 basis, which was effected on July 29, 2021 (the Reverse Stock Split). The number of authorized shares and the par values of the common stock were not adjusted as a result of the Reverse Stock Split. In connection with the Reverse Stock Split, the number of authorized shares, outstanding shares, and the conversion ratio for the Company's redeemable convertible preferred stock was proportionately adjusted such that the common stock issuable upon conversion of such preferred stock was decreased in proportion to the Reverse Stock Split. All references to common stock and options to purchase common stock share data, per share data, and related information contained in the consolidated financial statements have been retroactively adjusted to reflect the effect of the Reverse Stock Split for all periods presented.
Initial Public Offering
On August 12, 2021, the Company completed its initial public offering (IPO) of 7,360,000 shares of common stock, including the underwriters' full exercise of their over-allotment option at the IPO price of $12.50 per share. Gross proceeds from the IPO were $92.0 million, and the net proceeds were $83.1 million, after deducting underwriting discounts of $6.4 million and $2.5 million of offering costs payable by the Company. At the closing of the IPO, all of the Company's then outstanding redeemable convertible preferred stock was automatically converted into an aggregate of 15,345,279 shares of common stock. The related carrying value of the redeemable convertible preferred stock of $152.8 million was reclassified to common stock and additional paid-in capital.
Liquidity
Since inception, the Company has experienced recurring losses from operations and generated negative cash flows from operations. The Company has an accumulated deficit of $75.6 million and expects to incur additional losses from operations in the future. The Company estimates the available cash, cash equivalents, and marketable securities of $161.4 million as of December 31, 2021 will be sufficient to meet its projected operating requirements for at least the next twelve months from the filing date of these consolidated financial statements.
The Company will need to obtain substantial additional funding to develop and commercialize the Company's clinical programs as currently contemplated. The Company expects to finance future cash needs through equity offerings, debt financings, collaborations, strategic alliances, licensing arrangements and other marketing and distribution arrangements. In addition, the Company expects to continue to rely on capital markets, and to a lesser extent, U.K. research and development tax credits and incentives for funding. There are no assurances that the Company will be able to raise sufficient amounts of funding in the future on acceptable terms, or at all.
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Note 2. Summary of Significant Accounting Policies
A summary of the significant accounting policies followed by the Company in the preparation of the accompanying consolidated financial statements follows:
Use of Estimates
The preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect reported amounts and disclosures. Accordingly, actual results could differ from those estimates. Estimates include those related to the valuation of assets acquired, accrual of research and development expenses, the valuation of stock-based awards, the valuation of common stock and redeemable convertible preferred stock, and the valuation of redeemable convertible preferred stock tranche liabilities. The Company evaluates its estimates and assumptions on an ongoing basis using historical experience and other factors and adjusts those estimates and assumptions when facts and circumstances dictate. Actual results could differ from those estimates.
Concentration of Credit Risk
Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of cash, cash equivalents, and marketable securities. The Company’s cash is held by two financial institutions in the United States (U.S.) and two financial institutions in the United Kingdom (U.K.). The Company does not believe that it is subject to unusual credit risk beyond the normal credit risk associated with commercial banking relationships. The Company’s deposits held in the U.S. and U.K. may exceed the Federal Depository Insurance Corporation and Financial Services Compensation Scheme, respectively, insured limits. The Company has investments in money market funds, U.S. government debt securities, commercial paper, and corporate bonds with high-quality accredited financial institutions.
Comprehensive Loss
Comprehensive loss consists of net loss and unrealized gains or losses on available-for-sale investments. The Company presents comprehensive loss and its components as part of the statements of operations and comprehensive loss.
Risks and Uncertainties
The Company is subject to risks and uncertainties common to early-stage companies in the biotechnology industry, including, but not limited to, development by competitors of new technological innovations, protection of proprietary technology, dependence on key personnel, reliance on single-source vendors and collaborators, availability of raw materials, patentability of the Company’s products and processes and clinical efficacy and safety of the Company’s products under development, compliance with government regulations and the need to obtain additional financing to fund operations. Product candidates currently under development will require significant additional research and development efforts, including extensive preclinical studies, clinical trials, and regulatory approval, prior to commercialization. These efforts will require significant amounts of additional capital, adequate personnel infrastructure and extensive compliance and reporting.
There can be no assurance that the Company’s research and development will be successfully completed, that adequate protection for the Company’s intellectual property will be obtained or maintained, that any products developed will obtain necessary government regulatory approval or that any approved products will be commercially viable. Even if the Company’s product development efforts are successful, it is uncertain when, if ever, the Company will generate revenue from product sales. The Company operates in an environment of rapid technological change and substantial competition from other pharmaceutical and biotechnology companies. In addition, the Company is dependent upon the services of its employees, consultants and other third parties.
Moreover, the current COVID-19 pandemic, which is impacting worldwide economic activity, poses risk that the Company or its employees, contractors, suppliers, and other partners may be prevented from conducting business activities for an indefinite period of time which may increase costs and could delay the start-up and conduct of the Company’s clinical trials, and negatively impact manufacturing and testing activities performed by third parties. Any significant delays and higher costs may impact the use and sufficiency of the Company’s existing cash reserves, and the Company may be required to raise additional capital earlier than it had previously planned. The Company may be unable to raise additional capital if and when needed, which may result in delays or suspension of its development plans. The extent to which the pandemic will impact the Company’s business will depend on future developments that are highly uncertain and cannot be predicted at this time.
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Segments
Operating segments are identified as components of an enterprise about which separate discrete financial information is available for evaluation by the chief operating decision-maker (the CODM). The Company’s CODM is its chief executive officer who reviews financial information together with certain operating metrics principally to make decisions about how to allocate resources and to measure the Company’s performance. Management has determined that the Company operates as a single operating and reportable segment. The Company’s CODM evaluates financial information on a consolidated basis. As the Company operates as one operating segment, all required segment financial information is found in the consolidated financial statements.
Fair Value Measurement
Assets and liabilities recorded at fair value on a recurring basis in the balance sheet are categorized based upon the level of judgment associated with the inputs used to measure their fair values. Fair value is defined as the exchange price that would be received for an asset or an exit price that would be paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Valuation techniques used to measure fair value must maximize the use of observable inputs and minimize the use of unobservable inputs. The Company measures fair value based on a three-tier hierarchy, which prioritizes the inputs used in the valuation methodologies in measuring fair value as follows:
Level 1—Observable inputs such as unadjusted, quoted prices in active markets for identical assets or liabilities at the measurement date.
Level 2—Inputs (other than quoted prices included in Level 1) are either directly or indirectly observable for the assets or liabilities. These include quotedprices for similar assets or liabilities in active markets and quoted prices for identical or similar assets or liabilities in markets that are not active.
Level 3—Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.
In determining fair value, the Company utilizes quoted market prices, or valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs to the extent possible as well as considers counterparty credit risk in its assessment of fair value.
There were no transfers into or out of Level 3 for any of the periods presented.
The following table identifies the Company’s assets and liabilities that were measured at fair value (in thousands):
Level 1 Level 2 Level 3 Balance
Assets:
Cash equivalents:
Marketable securities:
U.S. government debt securities 3,979 — — 3,979
Level 1 Level 2 Level 3 Balance
Liabilities:
Redeemable convertible preferred stock
tranche liability $ — $ — $ 551 $ 551
Total liabilities $ — $ — $ 551 $ 551
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As discussed further in Note 6, the redeemable convertible preferred stock tranche liability was settled on March 9, 2021, and the fair value of the liability was remeasured immediately prior to settlement.
Cash and Cash Equivalents
The Company considers all highly liquid investments purchased with original maturities of three months or less from the purchase date to be cash equivalents. As of December 31, 2021, the Company's cash equivalents consisted of money market funds. There were no cash equivalents as of December 31, 2020.
Asset Acquisition
In accordance with the guidance in Topic 805, Business Combinations, in the Financial Accounting Standards Board’s (FASB) Accounting Standards Codification (ASC), the Company evaluates acquisitions of assets and related liabilities and other similar transactions to assess whether or not the transaction should be accounted for as a business combination or asset acquisition by first applying a screen test to determine if substantially all of the fair value of the gross assets acquired is concentrated in a single identifiable asset or group of similar identifiable assets. If the screen test is met, the transaction is accounted for as an asset acquisition. If the screen test is not met, further determination is required as to whether or not the Company has acquired inputs and processes that have the ability to create outputs which would meet the requirements of a business.
The Company accounts for an asset acquisition by recognizing net assets based on the cost to the acquiring entity on a relative fair value basis, which includes transaction costs in addition to consideration given. Goodwill is not recognized in an asset acquisition; any excess consideration transferred over the fair value of the net assets acquired is allocated to the non-monetary identifiable assets and liabilities assumed based on relative fair values. In-process research and development acquired in an asset acquisition is expensed provided there is no alternative future use.
Investments in Marketable Securities
Marketable securities are classified as available-for-sale, primarily consisting of U.S. government debt securities, commercial paper, and corporate bonds, and are reported at fair value. Unrealized holding gains and losses are reflected as a separate component of stockholders' equity (deficit) in accumulated other comprehensive loss until realized. Realized gains and losses on the sale of these securities are recognized in other income, net. The cost of marketable securities sold is based on the specific identification method.
The Company periodically reviews its available-for-sale securities to assess for credit impairment. Some of the factors considered in assessing impairment include the extent to which the fair value is less than the amortized cost basis, adverse conditions related to the security, an industry or geographic area, changes to security rating or sector credit ratings, and other relevant market data.
Research and Development Expenses
Research and development expenses consist primarily of research and development services and, to a lesser extent, salaries, benefits, and other personnel-related costs, including stock-based compensation, professional service fees, and other related costs such as facility rent, partially offset by fully refundable U.K. research and development tax credits. The Company recognizes the benefit of refundable research and development tax credits as a reduction of research and development expenses when there is reasonable assurance that the amount claimed will be recovered.
Research and development expenses includes estimates of the level of service performed and the associated cost incurred for the service when we have not yet been invoiced or otherwise notified of actual costs. Management estimates accrued expenses as of each balance sheet date in the consolidated financial statements based on facts and circumstances known at that time. Examples of estimated accrued research and development expenses include those related to fees paid to:
•
vendors in connection with preclinical development activities;
•
contract research organizations (CROs) in connection with preclinical studies and clinical trials; and
•
contract development and manufacturing organizations (CDMOs) in connection with the production of preclinical and clinical trial materials.
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All research and development costs are expensed in the period incurred, based on the estimates of the services received and efforts expended considering a number of factors, including, progress towards completion of the research, development and manufacturing activities, invoicing to date under the contracts, communication from the CROs, CDMOs and other companies of any actual costs incurred during the period that have not yet been invoiced and the costs included in the contracts and purchase orders. The financial terms of these agreements are subject to negotiation, vary from contract to contract and may result in uneven payment flows. There may be instances in which advance payments are made or payments made to vendors will exceed the level of services provided and result in a prepayment of the expense.
General and Administrative Expenses
General and administrative expenses consist primarily of personnel-related expenses, such as salaries, bonuses, benefits, and stock-based compensation, for our personnel in executive, finance and accounting, human resources, business development and other administrative functions. Other significant general and administrative expenses include legal fees relating to intellectual property and corporate matters, professional fees for accounting, tax and consulting services, insurance costs, and travel expenses. General and administrative costs are expensed as incurred.
Prepaid Expenses and Other Current Assets
Prepaid expenses and other current assets consist primarily of amounts due for refundable research and development tax credits from the U.K. government and operating expenses paid in advance.
Leases
The Company leases office space in the U.S. and the U.K. The Company analyzes leases at the inception of each agreement for classification as either an operating or capital lease. The terms in the Company's lease agreements include rent holidays and rent escalation clauses. The Company recognizes rent expense on a straight-line basis equal to the amount of total minimum lease payments over the noncancelable term of the operating leases and, accordingly, records the
difference between cash rent payments and the recognition of rent expense as an increase or decrease in deferred rent liability.
Accretion and Classification of Redeemable Convertible Preferred Stock
The redeemable convertible preferred stock is classified outside of stockholders’ equity (deficit) on the consolidated balance sheets because the holders of such shares have liquidation rights in the event of a deemed liquidation that, in certain situations, are not solely within the control of the Company and would require the redemption of the then-outstanding redeemable convertible preferred stock.
The holders of the Company’s redeemable convertible preferred stock had the option to redeem their shares beginning in October 2026. As a result, these shares were considered probable of becoming redeemable since the redemption option depends solely on the passage of time. The Company accreted changes in the redemption value over the period from the date of issuance to the earliest redemption date of October 2026. In October 2020, the Company amended the terms of its Certificate of Incorporation to remove the redemption option of their Series A and Series A-1 redeemable convertible preferred stock, which was accounted for as a modification, and the Company ceased accretion.
Upon completion of the IPO on August 12, 2021, all of the Company's then outstanding redeemable convertible preferred stock were converted on a 1-for-1 basis to shares of common stock. As of December 31, 2021, the Company had no redeemable convertible preferred stock outstanding.
Redeemable Convertible Preferred Stock Tranche Liability
The Company’s Series A-1 redeemable convertible preferred stock included tranche rights that were determined to be freestanding financial instruments that should be accounted for as a liability at fair value (Note 6). This redeemable convertible preferred stock tranche liability was revalued at each reporting period until settlement with changes in the fair value recorded as a change in redeemable convertible preferred stock tranche liability in the consolidated statements of operations and comprehensive loss. Upon the closing of the redeemable convertible preferred stock, the redeemable convertible preferred stock purchase rights liability was extinguished, and the mark-to-market fair value of the liability was included in the carrying value of the redeemable convertible preferred stock issued.
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As discussed further in Note 6, the Series A-1 redeemable convertible preferred tranche liability was settled on March 9, 2021 with the achievement of milestones set forth in the Series A-1 stock purchase agreement.
Stock-Based Compensation
The Company measures its stock-based awards granted to employees, non-employee directors, consultants and independent advisors based on the estimated grant-date fair value of the awards. For awards with only service conditions, including stock options and restricted stock awards, compensation expense is recognized over the requisite service period using the straight-line method. For awards that include performance conditions, compensation expense is not recognized until the performance condition is probable to occur. The Company uses the Black-Scholes option pricing model to estimate the fair value of its stock option awards. The Black-Scholes option pricing model requires the Company to make assumptions and judgements about the variables used in the calculations, including the fair value of common stock, expected term, expected volatility of the Company’s common stock, risk-free interest rate and expected dividend yield. As the stock-based compensation is based on awards ultimately expected to vest, it is reduced by forfeitures, which the Company accounts for as they occur.
Fair Value of Common Stock
Following the closing of the Company’s IPO, the fair market value of the Company's common stock is based on its closing price as reported on the date of grant on the Nasdaq Global Market, on which the Company’s common stock is traded.
Prior to the Company’s IPO, because there was no public market for the Company’s common stock, the estimated fair value of the Company’s common stock was determined by the board of directors as of the date of each option grant with input from management, considering the most recently available third-party valuation of common stock, and the board of directors’ assessment of additional objective and subjective factors that it believed were relevant and which may have changed from the date of the most recent valuation through the date of the grant. Management believes that the board of directors has the relevant experience and expertise to determine fair value of the common stock. Third-party valuations were performed in accordance with the guidance outlined in the American Institute of Certified Public Accountants’ Accounting and Valuation Guide, Valuation of Privately-Held-Company EquitySecurities Issued as Compensation. Management has considered numerous factors in determining the best estimate of fair value of our common stock,including the following:
•
valuations performed by independent third-party specialists;
•
the Company’s operating results, financial position, and capital resources;
•
the Company’s stage of development and material risks related to its business;
•
the progress of the Company’s research and development programs;
•
business conditions and projects;
•
the lack of marketability of the Company’s common stock and its redeemable convertible preferred stock as a private company;
•
the prices at which the Company sold shares of redeemable convertible preferred stock to outside investors in arms-length transactions;
•
the rights, preferences, and privileges of the Company’s redeemable convertible preferred stock relative to those of the Company’s common stock;
•
the analysis of IPOs and the market performance of similar companies in the biotechnology industry;
•
the likelihood of achieving a liquidity event for securityholders, such as an initial public offering or a sale of the Company, given prevailing market conditions;
•
the hiring of key personnel and the experience of management;
•
trends and developments in the industry; and
•
external market conditions affecting the life sciences and biotechnology industry sectors.
For valuations performed in the first and second quarter of 2021, in accordance with the Practice Aid, the Company determined that the Hybrid Method, was the most appropriate method for determining the fair value of its common stock based on its stage of development and other relevant factors.
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The Hybrid Method is a combination of an Option Pricing Method (OPM) scenario and one or more scenarios using a Probability Weighted Expected Return Method (PWERM). The Hybrid Method estimates the probability-weighted value across multiple scenarios, and uses the OPM to estimate the allocation of value within one or more of those scenarios. Weighting allocations are assigned to the OPM and PWERM methods factoring possible future liquidity events. The Company applied the Hybrid Method when it considered both an IPO and trade sale scenarios.
The OPM uses option theory to value the various classes of a company’s securities in light of their respective claims to the enterprise value. Total stockholders’ deficit value is allocated to the various share classes based upon their respective claims on a series of call options with strike prices at various value levels depending upon the rights and preferences of each class. A Black-Scholes closed form option pricing model is employed in this analysis, with an option term assumption that is consistent with the expected time to a liquidity event and a volatility assumption based on the estimated stock price volatility of a peer group of comparable public companies over a similar term.
The PWERM values each class of equity based on an analysis of the range of potential future enterprise values of the company and the manner in which those values would accrue to the owners of the different classes of equity. This method involves estimating the overall value of the subject company under various liquidity event scenarios and allocating the value to the various share classes based on their respective claim on the proceeds as of the date of each event. These different scenarios typically include an initial public offering, an acquisition, or a liquidation of the business, each resulting in a different value. For each scenario, the future value of each share class is calculated and discounted to a present value. The results of each scenario are then probability weighted in order to arrive at an estimate of fair value for each share class as of a current date.
For valuations performed in 2020, in accordance with the Practice Aid, the Company determined that the OPM was the most appropriate method for determining the fair value of its common stock based on its stage of development and other relevant factors.
The assumptions underlying these valuations represented management’s best estimates, which involved inherent uncertainties and the application of management’s judgment. As a result, if the Company had used significantly different assumptions or estimates, the fair value of its common stock and stock-based compensation expense could have been materially different.
Income Taxes
Income taxes are accounted for using the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts or existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using the enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period of enactment. The Company assesses the likelihood that its deferred tax assets will be recovered from future taxable income and, to the extent it believes, based upon the weight of available evidence, that it is more likely than not that all or a portion of the deferred tax assets will not be realized, a valuation allowance is established through a charge to income tax expense. Potential for recovery of deferred tax assets is evaluated by estimating the future taxable profits expected and considering prudent and feasible tax planning strategies.
The Company recognizes the tax benefit from an uncertain tax position if it is more likely than not that the tax position will be sustained upon examination by the tax authorities, based on the merits of the position. The Company’s policy is to recognize interest and penalties related to the underpayment of income taxes as a component of income tax expense or benefit. To date, there have been no interest or penalties charged in relation to the unrecognized tax benefits.
Foreign Currency
The Company’s reporting currency is the U.S. dollar. The functional currency of the Company and its subsidiaries is the U.S. dollar. Monetary assets and liabilities resulting from transactions denominated in currencies other than the functional currency are remeasured in the functional currency at exchange rates prevailing at the balance sheet date, and income items and expenses are translated into U.S. dollars at the average exchange rate in effect during the period. Exchange gains and losses resulting from remeasurement and foreign currency transactions are included in the determination of net loss.
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Net Loss Per Share
Basic net loss per share attributable to common stockholders is calculated by dividing the net loss attributable to common stockholders by the weighted-average number of shares of common stock outstanding during the period, adjusted for outstanding shares that are subject to repurchase.
Diluted net loss per share attributable to common stockholders is computed by giving effect to all potentially dilutive securities outstanding for the period using the treasury stock method or the if-converted method based on the nature of such securities. For periods in which the Company reports net losses, diluted net loss per common share attributable to common stockholders is the same as basic net loss per share attributable to common stockholders, because potentially dilutive common shares are not assumed to have been issued if their effect is anti-dilutive.
Prior to completion of the IPO on August 12, 2021 (at which time the Company's then outstanding redeemable convertible preferred stock were converted on a 1-for-1 basis to shares of common stock, thereby eliminating the cumulative preferred stock dividend), basic net loss per share attributable to common stockholders was computed using the two-class method required for multiple classes of common stock and participating securities based upon their respective rights to receive dividends as if all income for the period has been distributed. The two-class method requires loss available to common stockholders for the period to be allocated between common and participating securities based upon their respective rights to share in undistributed earnings as if all loss for the period had been distributed. The Company’s participating securities included the Company’s redeemable convertible preferred stock, as the holders are entitled to receive dividends on a pari passu basis in the event that a dividend was paid on common stock. The holders of redeemable convertible preferred stock do not have a contractual obligation to share in losses of the Company, and therefore during periods of loss there was no allocation required under the two-class method.
Emerging Growth Company Status
The Company is an emerging growth company, as defined in the Jumpstart Our Business Startups Act of 2012 (JOBS Act). Under the JOBS Act, emerging growth companies can delay adopting new or revised accounting standards issued subsequent to the enactment of the JOBS Act until such time as those standards apply to private companies. The Company has elected to avail itself of this extended transition period for complying with new or revised accounting standards that have different effective dates for public and private companies until the earlier of the date that it (i) is no longer an emerging growth company or (ii) affirmatively and irrevocably opts out of the extended transition period provided in the JOBS Act. As a result, these consolidated financial statements may not be comparable to companies that comply with the new or revised accounting pronouncements as of public company effective dates.
Recently Adopted Accounting Pronouncements
In August 2018, the FASB issued Accounting Standards Update (ASU) 2018-15, Intangibles — Goodwill and Other — Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract. ASU 2018-15 requires customers in a cloud computing arrangement that is a service contract to follow the internal-use software guidance in Accounting Standards Codification (ASC) 350-402 to determine which implementation costs to capitalize as assets, and is effective for non-public companies for annual periods beginning after 15 December 2020, and interim periods in annual periods beginning after 15 December 2021. The Company adopted ASU 2018-05 on January 1, 2021, which did not have a material impact on the Company’s consolidated financial statements.
Recent Accounting Pronouncements Not Yet Adopted
In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842), related to leases to increase transparency and comparability among organizations by requiring the recognition of right-of-use (ROU) assets obtained in exchange for lease liabilities on the balance sheet. Most prominent among the changes in the standard is the recognition of ROU assets and lease liabilities by lessees for those leases classified as operating leases. Under the standard, disclosures are required to meet the objective of enabling users of consolidated financial statements to assess the amount, timing, and uncertainty of cash flows arising from leases. The effective date of this update for nonpublic companies is for fiscal years beginning after December 15, 2021 and interim periods therein. The Company estimates that adoption will not have a material impact on its consolidated financial statements.
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In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. The standard changes how entities will measure credit losses for most financial assets, including accounts and notes receivables. The standard will replace today’s “incurred loss” approach with an “expected loss” model, under which companies will recognize allowances based on expected rather than incurred losses. Entities will apply the standard’s provisions as a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective. The effective date of this update for non-public companies is for fiscal years beginning after December 15, 2022 and interim periods therein. The Company estimates that adoption will not have a material impact on its consolidated financial statements
In December 2019, the FASB issued ASU No. 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes. The standard simplifies the accounting for income taxes by removing certain exceptions to the general principles in Topic 740 and also improves consistent application by clarifying and amending existing guidance. The effective date of this update for non-public companies is for fiscal years beginning after December 15, 2021 and interim periods within fiscal years beginning after December 15, 2022. The Company is assessing the impact of this guidance and is continuing to evaluate the impact on its consolidated financial statements.
In August 2020, the FASB issued ASU 2020-06, Debt—Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging —Contracts in Entity’s Own Equity (Subtopic 815-40)—Accounting For Convertible Instruments and Contracts in an Entity’s Own Equity. The standard simplifies accounting for convertible instruments by removing major separation models required under current GAAP. Consequently, more convertible debt instruments will be reported as a single liability instrument with no separate accounting for embedded conversion features. ASU 2020-06 removes certain settlement conditions that are required for equity contracts to qualify for the derivative scope exception, which will permit more equity contracts to qualify for it. The standard also simplifies the diluted net income per share calculation in certain areas. The effective date of this update for non-public companies is for fiscal years beginning after December 15, 2023, including interim periods therein. Early adoption is permitted for fiscal years beginning after December 15, 2020 and interim periods therein. The Company is currently evaluating the impact that this new guidance will have on its consolidated financial statements.
3. Investments
Investments consists of available-for-sale securities as follows (in thousands):
Amortized Cost Unrealized Gain Unrealized Loss Estimated FairValue
Short-term marketable securities:
Long-term marketable securities:
U.S. government debt securities 3,996 — (17 ) 3,979
Total long-term marketable securities $ 25,006 $ — $ (87 ) $ 24,919
All the commercial paper, U.S. government debt securities, and corporate bonds designated as short-term marketable securities have a contractual maturity date that is equal to or less than one year from the respective balance sheet date. Those that are designated as long-term marketable securities have a contractual maturity date that is more than one year from the respective balance sheet date.
Accrued interest receivable is excluded from the amortized cost and estimated fair value of the Company's marketable securities. Accrued interest receivable of $0.5 million is presented separately within the prepaid expenses and other current assets line items in the Company's consolidated balance sheet as of December 31, 2021.
As of December 31, 2021, there were $60.1 million of corporate bonds and $4.0 million of commercial paper in a continual unrealized loss position for less than 12 months. There were no investments in a continual unrealized loss position for greater than twelve months.
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Furthermore, the Company did not intend, nor was the Company more likely than not to be required, to sell its available-for-sale investments before the recovery of the amortized cost basis, which may be maturity. Based on the Company's assessment, it concluded that none of the available-for-sale investments held as of December 31, 2021 were considered to be other-than-temporarily impaired, as such, no impairment loss was recorded for the year ended December 31, 2021. There was no realized gain or loss on available-for-sale securities in the periods presented.
There were no investments as of December 31, 2020.
4. Certain Balance Sheet Accounts
Prepaid Expenses and Other Current Assets
Prepaid expenses and other current assets consist of the following (in thousands):
Recoverable research and development tax credits $ 6,523 $ —
Prepaid research and development expenses 2,906 1,500
Prepaid expenses 1,491 —
Total prepaid expenses and other current assets $ 11,772 $ 1,511
Accrued Expenses
Accrued expenses consist of the following (in thousands):
Accrued research and development expenses 2,159 627
Other accrued expenses 248 —
5. Redeemable Convertible Preferred Stock
Upon completion of the IPO on August 12, 2021, all of the Company’s then outstanding redeemable convertible preferred stock was converted into an aggregate of 15,345,279 shares of common stock. As of December 31, 2021, the Company had no redeemable convertible preferred stock outstanding.
As of December 31, 2020, the Company’s redeemable convertible preferred stock consisted of the following balance (in thousands, except share and per share amounts):
Issue Shares Shares Issued and Carrying AggregateLiquidation
Price Authorized Outstanding Value Preference
In March 2021, Series A-1 preferred stockholders exercised their tranche rights in connection with milestone achievements related to Phase 1 clinical trial results of ETX-155. As a result, the Company issued an additional 4,358,972 shares of Series A-1 redeemable convertible preferred shares for gross proceeds of $34.0 million. Upon exercise of the tranche rights, the Company reclassified the $12.3 million in preferred stock tranche liability to Series A-1 redeemable convertible preferred stock on the consolidated balance sheet.
In May 2021, the Company issued 3,846,150 shares of Series B redeemable convertible preferred stock for gross proceeds of $60.0 million.
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Prior to conversion, the holders of the Series A, Series A-1, and Series B redeemable convertible preferred stock had various rights, preferences, privileges, and restrictions, with respect to voting, dividends, liquidation, and conversion.
Liquidation
In the event of any liquidation event, either voluntarily or involuntary, the holders of the Series B redeemable convertible preferred stock were entitled to receive, out of the assets of the Company before any payment shall be made or any assets distributed to the holders of Series A and A-1 redeemable convertible preferred stock, the Series B redeemable convertible preferred stock liquidation preference of $15.60, adjusted for any stock splits, combinations, and reorganizations, plus all unpaid cumulative dividends on each such share. If upon the liquidation event, the assets distributed among the holders of the Series B redeemable convertible preferred stock were insufficient to permit the payment to such holders of the full liquidation preference for their shares, then the holders of shares of the Series B redeemable convertible preferred stock shared ratably in any distribution of the assets available for distribution in proportion to their respective amounts, which otherwise would have been payable in respect of the shares held by them upon such distribution if all amounts payable on or with respect to such shares were paid the full preferential amount.
After the payment to the holders of the Series B redeemable convertible preferred stock of the full preferential amount, the holders of the Series A and Series A-1 redeemable convertible preferred stock were entitled to receive, out of the assets of the Company, the applicable liquidation preference specified for each series of redeemable convertible preferred stock before any payment was made or any assets distributed to the holders of common stock. Liquidation preference was $6.00 for Series A and $7.80 for Series A-1, each adjusted for any stock splits, combinations, and reorganizations, plus all unpaid cumulative dividends on each such share. If upon the liquidation event, the assets distributed among the holders of the Series A and A-1 redeemable convertible preferred stock were insufficient to permit the payment to such holders of the full liquidation preference for their shares, then the holders of shares of the redeemable convertible preferred stock shared ratably in any distribution of the assets available for distribution in proportion to their respective amounts, which otherwise would have been payable in respect of the shares held by them upon such distribution if all amounts payable on or with respect to such shares were paid the full preferential amount.
After the payment to the holders of the redeemable convertible preferred stock of the full preferential amount specified above, any remaining assets of the Company would have been distributed pro rata among all holders of the preferred and common stock.
A liquidation event required approval by the holders of at least a majority of the outstanding shares of redeemable convertible preferred stock and at least 70% of the then outstanding shares of Series B redeemable convertible preferred stock.
Optional Conversion
Each share of redeemable convertible preferred stock was convertible into common stock at the stockholder’s option. The converted shares would have been determined by dividing the original issue price for each series by the applicable conversion price for such series in effect at the date of conversion. The conversion price for each share of redeemable convertible preferred stock was initially equal to the original issuance price applicable to such share, with the exception of the Series A redeemable convertible preferred stock issued related to the Athenen Acquisition, which were convertible at any time after the date of issuance into common stock at the original issue price of the original Series A of $6.00. The conversion ratio was subject to appropriate adjustments for anti-dilution provisions, including stock splits, stock dividends, subdivisions, combinations, recapitalization events or similar events.
Specific to the Series B redeemable convertible preferred stock, the conversion ratio was subject to specific anti-dilution provisions adjustments if there was common stock issued for consideration below the Series B issue price.
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Automatic Conversion
Each share of redeemable convertible preferred stock was convertible into common stock at initial conversion rates described under the Optional Conversion heading above, subject to adjustments based on certain antidilution provisions, including stock splits, stock dividends, subdivision, combinations, recapitalization or similar events, as provided by the Company’s certificate of incorporation. Further, all shares of redeemable convertible preferred stock automatically would have converted into common stock upon the vote or written consent of the holders of a majority of the shares of redeemable convertible preferred stock or upon the closing of a firm-commitment underwritten public offering of the Company’s common stock at a stock price of at least $17.16 per share and with gross aggregate proceeds to the Company of at least $80.0 million.
Upon completion of the IPO, the Company's redeemable convertible preferred stock was converted into 15,345,279 shares of common stock.
Dividends
The holders of shares of Series A, Series A-1, and Series B redeemable convertible preferred stock were entitled to receive cumulative dividends of 8% per annum of the original issuance price on each share of redeemable convertible preferred stock. The dividends were payable in cash, out of the assets at the time legally available thereof, when, as and if declared by the Board of Directors, on an equal basis according to the number of shares of redeemable convertible preferred stock held by such holders, prior and in preference to the common stock. As of December 31, 2020, the Company had total dividends in arrears for the Series A redeemable convertible preferred stock of $2.5 million, or $0.48 per share, and for Series A-1 redeemable convertible preferred stock of $1.1 million, or $0.56 per share. As of December 31, 2021, the Company had no dividends in arrears as all shares of redeemable convertible preferred stock converted to common stock upon the completion of the IPO.
Redemption
Under certain circumstances, subsequent to the occurrence of a deemed liquidation event, defined as (1) a majority of the holders of the then outstanding redeemable convertible preferred stock and (2) at least 70% of the then outstanding shares of the Series B redeemable convertible preferred stock could have required the Company to redeem their shares at a price per share equal to the liquidation amount, to the extent that sufficient funds were available. Additionally, holders of the Company’s Series A and Series A-1 redeemable convertible preferred stock initially had the option to redeem their shares beginning in October 2026. As a result, these shares were considered probable of becoming redeemable since redemption is solely dependent on the passage of time. As such, the Company adjusted the carrying value of the redeemable convertible preferred stock by accreting changes in the redemption value over the period from the date of issuance to the earliest redemption date of October 2026. In October 2020, the Company amended the terms of their Certificate of Incorporation to remove the redemption option of their Series A and Series A-1 redeemable convertible preferred stock, as a result the Company ceased recording adjustments to the carrying value of its outstanding redeemable convertible preferred stock for accretion to redemption value. There was no change in value as a result of this modification. There was no accretion to redemption value recorded for the year ended December 31, 2021.
Voting
The holders of the Company’s Series B redeemable convertible preferred stock, voting together as a class, were entitled to elect one (1) member of the Board of Directors (the Series B director). The holders of the Company’s Series A and Series A-1 redeemable convertible preferred stock, voting together as a class, were entitled to elect two (2) members of the Board of Directors (the Series A directors). The holders of the shares of common stock and of any other class or series of voting stock (including the preferred stock), voting together as a class, were entitled to elect the balance of the Company’s directors.
Stockholder Rights
The holders of the Company’s redeemable convertible preferred stock had protective provisions that required preferred stockholders representing a majority of the outstanding redeemable convertible preferred stock, voting as a single class (on an as-converted basis), to consent to specific actions including the following: changes in the corporation’s certificate of incorporation or bylaws that would affect, alter or change the preference or rights of the redeemable convertible preferred stock, changes in the authorized number of shares, declaration or payment of dividends, repurchase of shares, changes in the size of the Board of directors, creation of a new class or series of stock, or taking any action that would cause a liquidation event.
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Further, the holders of the Company's Series B redeemable convertible preferred stock had additional protective provisions that required Series B preferred stockholders representing 70% of the outstanding shares of the Series B redeemable convertible preferred stock to consent to specific actions including the following: changes in the corporation’s certificate of incorporation or bylaws that would affect, alter or change the preference or rights of the Series B redeemable convertible preferred stock, changes in the authorized number of shares of Series B redeemable convertible preferred stock, declaration or payment of dividends or distributions shares of capital stock other than the Series A, Series A-1, and Series B redeemable convertible preferred stock, sell shares of Common Stock to the public at price below $17.16 in a firm-commitment underwritten public offering, or taking any action that would cause a liquidation event that would results in proceeds of less than $17.16 per share of the Series B redeemable convertible preferred stock.
Additionally, the holders of the Company’s Series A and Series A-1 redeemable convertible preferred stock had additional protective provisions that required preferred stockholders representing a majority of the outstanding redeemable convertible preferred stock, voting as a single class (on an as-converted basis), to consent to specific actions including the following: changes in the corporation’s certificate of incorporation or bylaws that would affect, alter or change the preference or rights of the Series A and Series A-1 redeemable convertible preferred stock and changes or reclassifications of any existing security of the Company that is pari passu with the Series A and/or Series A-1 redeemable convertible preferred stock.
6. Redeemable Convertible Preferred Stock Tranche Liability
The purchasers of Series A-1 redeemable convertible preferred stock also received tranche rights (Series A-1 Tranche Rights), which provided them the right to purchase additional shares of Series A-1 redeemable convertible preferred stock in a future tranche. This tranche was for the purchase of Series A-1 redeemable convertible preferred stock and was valued based upon the Company achieving certain future milestones and utilized a valuation model that reflected both potential outcomes of success or failure to meet the milestone.
Upon issuance in October 2020, the Series A-1 redeemable convertible preferred tranche liability was valued at $0.86 per share. There was no change in value from the date of issuance and December 31, 2020.
The Company estimated the fair value of the Series A-1 Tranche Rights using a probability-weighted present value model that considered the probability of triggering the Series A-1 Tranche Rights through achievement of the clinical development milestones specified in the Series A-1 purchase agreement. These estimates were based, in part, on subjective assumptions. Changes to these assumptions could have had a significant impact on the reported fair value of the Series A-1 Tranche Rights.
The following reflects the significant quantitative inputs used in the valuation of the redeemable convertible preferred stock tranche liability:
Series A-1
Tranche
Call Option
Estimated fair value of redeemable convertible preferred stock $6.94 - $11.10
Discount rate 0.10 %
Dividend yield 0 %
Expected term (years) 0.25 - 0.45
Expected volatility N/A
Probability of milestone achievement 80% - 100%
Strike price $ 7.80
Fair value of each tranche feature $0.86 - $3.32
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The Series A-1 redeemable convertible preferred tranche liability was settled on March 9, 2021 with the achievement of milestones set forth in the Series A-1 stock purchase agreement. The fair value of the liability was remeasured prior to settlement, resulting in the Company recognizing a loss in the consolidated statement of operations and comprehensive loss of $11.7 million during the year ended December 31, 2021. Immediately thereafter, the balance of the redeemable convertible preferred stock tranche liability of $12.3 million was reclassified to Series A-1 redeemable convertible preferred stock.
A rollforward of the redeemable convertible preferred stock tranche liability is as follows (in thousands):
Change in fair value 11,718
Balance at December 31, 2021 $ —
Note 7. Commitments and Contingencies
Operating Leases
Total rent expense for the years ended December 31, 2021 and 2020 was $248,000 and $51,000, respectively.
In November 2021, the Company entered into an agreement to lease approximately 5,000 square feet of office space in Bellevue, Washington. The term of this lease is for a period of 39 months, which commenced on November 1, 2021. The lease contains rent escalation clauses and an option to extend the term of the lease for an additional 3-year period at a market rate determined according to the lease.
Future minimum lease commitments for non-cancelable operating leases at December 31, 2021, the terms of which expire on various dates through January 31, 2025, are as follows (in thousands)
Year ending December 31, Amount
Total minimum lease commitments $ 979
Legal Proceedings
From time to time, the Company may have certain contingent liabilities that arise in the ordinary course of its business activities. The Company accrues a liability for such matters when it is probable that future expenditures will be made and that such expenditures can be reasonably estimated. Significant judgment is required to determine both probability and the estimated amount. As of the date of these consolidated financial statements, we are not party to any material legal matters or claims.
Indemnification
In the ordinary course of business, the Company enters into agreements that may include indemnification provisions. Pursuant to such agreements, the Company may indemnify, hold harmless, and defend an indemnified party for losses suffered or incurred by the indemnified party. Some of the provisions will limit losses to those arising from third-party actions. In some cases, the indemnification will continue after the termination of the agreement. The maximum potential amount of future payments the Company could be required to make under these provisions is not determinable. The Company has never incurred material costs to defend lawsuits or settle claims related to these indemnification provisions. The Company intends to enter into indemnification agreements with its directors and officers that may require the Company to indemnify its directors and officers against liabilities that may arise by reason of their status or service as directors or officers to the fullest extent permitted by Delaware corporate law. The Company currently has directors’ and officers’ insurance coverage that reduces its exposure and enables the Company to recover a portion of any future amounts paid. The Company believes the estimated fair value of these indemnification agreements in excess of applicable insurance coverage is immaterial.
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8. Stock-Based Compensation
2019 Plan
In 2019, the Company adopted the 2019 Equity Incentive Plan (the 2019 Plan). The 2019 Plan provides for the Company to grant qualified stock options, non-qualified stock options, and restricted stock awards to employees, non-employee directors and consultants of the Company under terms and provisions established by the board of directors. Under the terms of the 2019 Plan, options are granted at an exercise price no less than fair value of the Company’s common stock on the grant date, except in certain cases related to employees outside of the U.S. However, for any employee who is a 10% or greater stockholder, options are granted at an exercise price no less than 110% of the fair value of the Company’s common stock on the grant date. Option awards granted typically have 10-year terms measured from the option grant date. However, if any employee is a 10% or greater stockholder, the awards have 5-year terms measured from the option grant date. While no shares are available for future issuance under the 2019 Plan, it continues to govern outstanding equity awards granted thereunder.
2021 Plan and ESPP
The compensation committee of the Company's board of directors adopted and the Company's stockholders approved the 2021 Equity Incentive Plan (2021 Plan) and the 2021 Employee Stock Purchase Plan (the ESPP), which became effective immediately prior to the effectiveness of the Company's IPO. The 2021 Plan provides for the grant of incentive stock options, non-statutory stock options, restricted stock awards, restricted stock units, stock appreciation rights and other stock-based awards. The Company's employees, officers, directors and consultants are eligible to receive awards under the 2021 Plan. Under the terms of the 2021 Plan, options are granted at an exercise price no less than fair value of the Company’s common stock on the grant date, except in certain cases related to significant corporate transactions. Option awards granted typically have 10-year terms measured from the option grant date. As of December 31, 2021, the total number of shares authorized for issuance under the 2021 Plan was 2,558,790. In addition, the number of shares of common stock reserved for issuance under our 2021 Plan will automatically increase on January 1 of each year, beginning on January 1, 2022, and continuing through and including January 1, 2031, by 5% of the total number of shares of common stock outstanding on December 31 of the immediately preceding calendar year, or a lesser number of shares determined by our board prior to the applicable January 1st.
The ESPP allows employees, including executive officers, to contribute up to 15% of their earnings, subject to certain limitations, for the purchase of the Company's common stock at a price per share equal to the lower of (a) 85% of the fair market value of a share of common stock on the first day of the offering period, or (b) 85% of the fair market value of a share of common stock on the last day of the offering period. As of December 31, 2021, there were 255,879 shares of common stock reserved for future issuance under our ESPP plan. The number of shares of common stock reserved for issuance under our ESPP will automatically increase on January 1 of each calendar year, beginning on January 1, 2022 and continuing through and including January 1, 2031, by the lesser of (1) 1% of the total number of shares of our common stock outstanding on December 31 of the preceding calendar year or (2) a number of shares determined by our board. Shares subject to purchase rights granted under our ESPP that terminate without having been exercised in full will not reduce the number of shares available for issuance under the ESPP.
As of December 31, 2021, no shares have been granted or purchased under the ESPP.
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Stock Options
Awards with vesting conditions under both plans typically include vesting 25% on the first anniversary of the grant date with the remainder vesting monthly over the following three years.
Weighted
Average
Weighted Remaining Aggregate
Average Contract Intrinsic
Options Exercise Terms Values
Outstanding Price (in years) (in thousands)
Options cancelled and forfeited (25,551 ) 1.84
The aggregate intrinsic value disclosed in the above table is based on the difference between the exercise price of the stock option and the estimated fair value of the Company’s common stock as of the respective period-end dates. The weighted-average grant-date fair value of stock options granted during the year ended December 31, 2021 was $7.39 per share.
The Black-Scholes option pricing model for employee and nonemployee stock options incorporates the following assumptions:
Fair Value of Common Stock — Prior to the completion of the Company's IPO, the fair value of the Company's common stock was determined byusing straight-line interpolation between the value of common stock derived from valuations performed by independent third party specialists, further described in Note 2 to the consolidated financial statements Summary of Significant Accounting Policies – Fair Value of Common Stock. After the completion of the Company's IPO, the fair value of each share of common stock is based on the closing price of the Company's common stock on the date of grant as reported on the Nasdaq Global Market.
Volatility — The expected stock price volatilities are estimated based on the historical and implied volatilities of comparable publicly tradedcompanies as the Company does not have sufficient history of trading its common stock.
Risk-free Interest Rate — The risk-free interest rates are based on US Treasury yields in effect at the grant date for notes with comparable termsas the awards.
Expected Term — The expected term represents the period that the Company’s stock options are expected to be outstanding and is determinedusing the simplified method (based on the mid-point between the vesting date and the end of the contractual term).
Dividend Yield — The expected dividend yield assumption is based on the Company’s current expectations about its anticipated dividend policy.
The fair value of the Company’s stock option awards was estimated at the date of grant using a Black-Scholes option pricing model with the following assumptions for the years ended December 31, 2021 and 2020:
Year Ended December 31,
Expected dividend yield 0.00% 0.00%
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Restricted Stock
The Company has restricted stock awards with service and performance conditions. Awards with a service condition vest 25% on the first anniversary of the grant date and monthly thereafter. Awards with a performance condition will vest upon the Company’s initiation of a registrational clinical trial to study the efficacy of ETX-810. The probability of achieving performance conditions is assessed each reporting period. As of December 31, 2021, this performance condition was assessed and deemed not probable, and the Company has recognized no stock-based compensation expense relating to these performance awards. The Company also granted restricted stock awards to employees and non-employees with service conditions that are subject to repurchase by the Company at the original purchase price in the event that the award recipient’s employment or relationship is terminated prior to the shares vesting.
The activity for restricted stock awards is as follows:
Weighted-AverageGrant-Date Fair
Number of Shares Value
Forfeited — —
(1)
Includes 66,750 restricted stock awards granted in 2018 and still outstanding for the period ended December 31, 2020, subject to only performance conditions.
(2)
Includes 21,750 restricted stock awards granted in 2018 and still outstanding for the period ended December 31, 2021, subject to only performance conditions.
The fair value of restricted stock awards vested during 2021 was approximately $0.1 million.
The following table sets forth stock-based compensation for stock options, restricted stock awards, and performance awards included in the Company’s consolidated statements of operations and comprehensive loss (in thousands):
Year Ended December 31,
Research and development expense $ 987 $ 334
General and administrative expense 2,750 373
Total stock-based compensation expense $ 3,737 $ 707
As of December 31, 2021, there was $14.3 million of total unrecognized compensation cost related to unvested stock options and unvested restricted stock awards granted, which is expected to be recognized over a weighted-average period of 3.04 years.
Note 9. Net Loss Per Share Attributable to Common Stockholders
The following table shows the computation of basic and diluted net loss per share (in thousands, except share and per share data):
Year Ended December 31,
Net loss attributable to common stockholders $ (52,028 ) $ (22,953 )
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The following outstanding shares of potentially dilutive securities were excluded from the computation of the diluted net loss per share attributable to common stockholders for the periods presented because their effect would have been anti-dilutive:
Year Ended December 31,
Redeemable convertible preferred stock — 7,140,157
Redeemable convertible preferred stock tranche liability — 3,717,947