Item 7 –
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
BUSINESS OVERVIEW
We are a biopharmaceutical company focused on
advancing innovative immune-oncology technologies addressing hard to treat cancers. Our Deoxyribonuclease (“DNase”) platform
is designed to improve outcomes of existing treatments, including immunotherapies, by targeting neutrophil extracellular traps (“NETs”),
which have been implicated in cancer progression and resistance to cancer treatments. We are currently focused on advancing our systemic
DNase program into the clinic as an adjunctive therapy for pancreatic carcinoma and locally advanced or metastatic solid tumors. Additionally,
we have partnered with biotechnology and pharmaceutical companies to develop our proprietary drug delivery platform, PolyXen, and receive
royalty payments under an exclusive license arrangement in the field of blood coagulation disorders.
We incorporate our patented and proprietary technologies
into drug candidates currently under development with biotechnology and pharmaceutical industry collaborators to create what we believe
will be the next-generation biologic drugs with improved pharmacological properties over existing therapeutics. Our drug candidates have
resulted from our research activities or that of our collaborators and are in the development stage. As a result, we continue to commit
a significant amount of our resources to our research and development activities and anticipate continuing to do so for the near future.
To date, none of our drug candidates have received regulatory marketing authorization or approval in the United States (“U.S.”)
by the Food and Drug Administration (“FDA”) nor in any other countries or territories by any applicable agencies. We are receiving
ongoing royalties pursuant to a license of our PolyXen technology to an industry partner. Although we hold a broad patent portfolio, the
focus of our internal efforts during the year ended December 31, 2023, was on the advancement of our DNase platform.
Critical Accounting Policies and Estimates
The preparation of our financial statements in
conformity with U.S. generally accepted accounting principles (“U.S. GAAP”) requires us to make estimates, judgments and assumptions
that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenue,
costs and expenses during the reporting period. On an ongoing basis, we evaluate our estimates that are based on historical experience
and on various other assumptions that we believe to be reasonable under the circumstances. The result of these evaluations forms the basis
for making judgments about the carrying values of assets and liabilities and the reported amount of expenses that are not readily apparent
from other sources. Because future events and their effects cannot be determined with certainty, actual results and outcomes may differ
materially from our estimates, judgments and assumptions.
Management believes that the following accounting
estimates are the most critical to aid in fully understanding and evaluating our reported financial results, and they require management’s
most difficult subjective or complex judgments, resulting from the need to make estimates about the effect of matters that are inherently
uncertain. The following narrative describes these critical accounting estimates, judgments and assumptions and the effect if actual results
differ from these assumptions.
Revenue Recognition
We enter into supply, license and collaboration
arrangements with pharmaceutical and biotechnology partners, some of which include royalty agreements based on potential net sales of
approved commercial pharmaceutical products.
We recognize revenue in accordance with Accounting
Standards Codification (“ASC”) Topic 606, Revenue from Contracts with Customers (“ASC 606”). This standard
applies to all contracts with customers, except for contracts that are within the scope of other standards, such as leases, insurance,
collaboration arrangements and financial instruments. Under ASC 606, an entity recognizes revenue when its customer obtains control of
promised goods or services, in an amount that reflects the consideration which the entity expects to receive in exchange for those goods
or services. To determine revenue recognition for arrangements that an entity determines are within the scope of ASC 606, the entity performs
the following five steps: (i) identify the contract(s) with a customer; (ii) identify the performance obligations in the contract; (iii)
determine the transaction price; (iv) allocate the transaction price to the performance obligations in the contract; and (v) recognize
revenue at a point in time, or over time, as it satisfies a performance obligation. We only apply the five-step model to contracts when
it is probable that it will collect the consideration it is entitled to in exchange for the goods or services it transfers to the customer.
At contract inception, once the contract is determined to be within the scope of ASC 606, we assess the goods or services promised within
each contract, determine those that are performance obligations, and assess whether each promised good or service is distinct. We then
recognize as revenue the amount of the transaction price that is allocated to the respective performance obligation when (or as) the performance
obligation is satisfied.
As part of the accounting for these arrangements,
we must use significant judgment to determine: a) the number of performance obligations based on the determination under step (ii) above;
b) the transaction price under step (iii) above; and c) the stand-alone selling price for each performance obligation identified in the
contract for the allocation of transaction price in step (iv) above. We use judgment to determine whether milestones or other variable
consideration should be included in the transaction price as described further below. The transaction price is allocated to each performance
obligation on a relative stand-alone selling price basis, for which we recognize revenue as or when the performance obligations under
the contract are satisfied. In developing the stand-alone price for a performance obligation, we consider applicable market conditions
and relevant entity-specific factors, including factors that were contemplated in negotiating the agreement with the customer and estimated
costs. We validate the stand-alone selling price for performance obligations by evaluating whether changes in the key assumptions used
to determine the stand-alone selling prices will have a significant effect on the allocation of transaction price between multiple performance
obligations. We recognize a contract asset or liability for the difference between our performance (i.e., the goods or services transferred
to the customer) and the customer’s performance (i.e., the consideration paid by, and unconditionally due from, the customer).
The terms of our license agreements may include
delivery of an IP license to a collaboration partner. We may be compensated under license arrangements through a combination of non-refundable
upfront receipts, development and regulatory objective receipts and royalty receipts on future product sales by partners. We anticipate
recognizing non-refundable upfront license payments and development and regulatory milestone payments received by us in license and collaboration
arrangements that include future obligations, such as supply obligations, ratably over our expected performance period under each respective
arrangement. We make our best estimate of the period over which we expect to fulfill our performance obligations, which may include technology
transfer assistance, research activities, clinical development activities, and manufacturing activities from development through the commercialization
of the product. Given the uncertainties of these collaboration arrangements, significant judgment is required to determine the duration
of the performance period.
When we enter into an arrangement to sublicense
some of our patents, we will consider the performance obligations to determine if there is a single element or multiple elements to the
arrangement as we determine the proper method and timing of revenue recognition. We consider the terms of the license or sublicense for
such elements as price adjustments or refund clauses in addition to any performance obligations for us to provide such as services, patent
defense costs, technology support, marketing or sales assistance or any other elements to the arrangement that could constitute an additional
deliverable to it that could change the timing of the revenue recognition. Non-refundable upfront license and sublicense fees received,
whereby continued performance or future obligations are considered inconsequential or perfunctory to the relevant licensed technology,
are recognized as revenue upon delivery of the technology.
We expect to recognize royalty revenue in the
period of sale, based on the underlying contract terms, provided that the reported sales are reliably measurable, we have no remaining
performance obligations, and all other revenue recognition criteria are met. We anticipate reimbursements for research and development
services completed by us related to the collaboration agreements to be recognized in operations as revenue on a gross basis. Our license
and collaboration agreements with certain collaboration partners could also provide for future milestone receipts to us based solely upon
the performance of the respective collaboration partner in consideration of deadline extensions or upon the achievement of specified sales
volumes of approved drugs. For such receipts, we expect to recognize the receipts as revenue when earned under the applicable contract
terms on a performance basis or ratably over the term of the agreement. These receipts may also be recognized as revenue when continued
performance or future obligations by us are considered inconsequential or perfunctory.
Research and Development Expenses
Research and development expenses consist of expenses
incurred in performing research and development activities, including compensation and benefits, facilities expenses, overhead expenses,
pre-clinical development, clinical trial and related clinical manufacturing expenses, fees paid to contract research organizations (“CROs”)
and contract manufacturing organizations (“CMOs") and other outside expenses. We expense research and development costs as
incurred. We expense upfront, non-refundable payments made for research and development services as obligations are incurred. The value
ascribed to intangible assets acquired but which have not met capitalization criteria is expensed as research and development at the time
of acquisition. Upfront payments under license agreements are expensed upon receipt of the license. Milestone payments under license agreements
are accrued, with a corresponding expense being recognized, in the period in which the milestone is determined to be probable of achievement
and the related amount is reasonably estimable.
We are required to estimate accrued research and
development expenses at each reporting period. This process involves reviewing open contracts and purchase orders, communicating with
our personnel to identify services that have been performed on our behalf and estimating 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. The majority of our service providers
invoice us in arrears for services performed, on a pre-determined schedule or when contractual milestones are met. However, some require
advanced payments. We make estimates of accrued expenses as of each balance sheet date in the financial statements based on facts and
circumstances known at that time. We periodically confirm the accuracy of the estimates with the service providers and make adjustments,
if necessary. Examples of estimated accrued research and development expenses include fees paid to:
· CMOs in connection with cGMP manufacturing;
· CROs in connection with clinical trials; and
· Investigative sites in connection with clinical trials.
We base our expenses related to research and development,
pre-clinical activities, manufacturing and clinical trials on our estimates of the services received and efforts expended pursuant to
quotes and contracts with multiple research institutions, CMOs and CROs that conduct and manage clinical trials on our behalf. 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 payments made to vendors will exceed the level of services provided and result in a prepayment of the expense. In
accruing service fees, we estimate the time period over which services will be performed and the level of effort to be expended in each
period. If the actual timing of the performance of services or the level of effort varies from the estimate, we adjust the accrual or
prepaid accordingly. Although we do not expect our estimates to be materially different from amounts actually incurred, our understanding
of the status and timing of services performed relative to the actual status and timing of services performed may vary and may result
in reporting amounts that are too high or too low in any particular period. To date, there have not been any material adjustments to our
prior estimates of accrued research and development expenses.
Share-based Expense
Share-based expense includes grants of options
and restricted stock units (“RSUs”) to employees and non-employees to purchase shares of our common stock, Joint Share Ownership
Plan awards to employees and agreements to issue common stock in exchange for services provided by non-employees.
Share-based expense is based on the estimated
fair value of the option or calculated using the Black-Scholes option pricing model. Determining the appropriate fair value model and
related assumptions requires judgment, including estimating share price volatility and expected terms of the awards. The expected volatility
rates are estimated based on the historical volatility of the Company. To the extent Company data is not available for the full expected
term of the awards, we use a weighted average of our historical volatility and of a peer group of comparable publicly traded companies
over the expected term of the option. The expected term represents the time that options are expected to be outstanding. We account for
forfeitures as they occur and not at the time of grant. We have not paid dividends and do not anticipate paying cash dividends in the
foreseeable future and, accordingly, we use an expected dividend yield of zero. The risk-free interest rate is based on the rate of U.S.
Treasury securities with maturities consistent with the estimated expected term of the awards. Upon exercise, stock options are redeemed
for newly issued shares of our common stock. RSUs are redeemed for newly issued shares of our common stock as the vesting and settlement
provisions of the grant are met.
For employee options that vest based solely on
service conditions, the fair value measurement date is generally on the date of grant and the related compensation expense is recognized
on a straight-line basis over the requisite vesting period of the awards. For non-employee options issued in exchange for goods or services
consumed in our operations, the fair value measurement date is the earlier of the date the performance of services is complete or the
date the performance commitment has been reached. We generally determine that the fair value of the stock options is more reliably measurable
than the fair value of the services received. Compensation expense related to stock options granted to non-employees is recognized on
a straight-line basis over requisite vesting periods of the awards.
Warrants
In connection with certain financing, consulting
and collaboration arrangements, we issued warrants to purchase shares of our common stock. The outstanding warrants are standalone instruments
that are not puttable or mandatorily redeemable by the holder and are classified as equity awards. We measure the fair value of the awards
using the Black-Scholes option pricing model as of the measurement date. Warrants issued to collaboration partners in conjunction with
the issuance of common stock are initially recorded at fair value as a reduction in additional paid-in capital of the common stock issued.
All other warrants are recorded at fair value
as expense on a straight-line basis over the requisite service period or at the date of issuance if there is not a service period or if
service has already been rendered. For warrants that contain vesting triggers based on the achievement of certain objectives, we apply
judgment to estimate the probability and timing of the achievement of those objectives. These estimates involve inherent uncertainties,
and as a result, if the probability or timing of the achievement of those objectives change, expense related warrants could be materially
different in the future. For warrants issued in connection with financing arrangements we allocate the proceeds based on the relative
fair value of the award and other instrument(s).
Indefinite-lived Intangible Assets
Assets acquired and liabilities assumed in business
combinations, licensing and other transactions are generally recognized at the date of acquisition at their respective fair values. At
acquisition, we generally determine the fair value of intangible assets, including in-process research and development (“IPR&D”),
using the “income method.” Acquired IPR&D intangible assets are considered indefinite-lived intangible assets until completion
or abandonment of the associated research and development efforts. Substantial additional research and development may be required before
the Company’s IPR&D reaches technological feasibility. Upon completion of the IPR&D project, the IPR&D assets will be
amortized over their estimated useful lives.
Indefinite lived intangibles are not amortized
but are reviewed for impairment at least annually or when events or changes in the business environment indicate it is more likely than
not that the carrying value may be impaired. Our annual assessment may consist of a qualitative or quantitative analysis to determine
if it is more likely than not that its fair value exceeds the carrying value. When performing the qualitative method, we determine whether
the existence of events or circumstances leads us to determine that it is more likely than not (that is, a likelihood of more than 50%)
that indefinite lived intangibles are impaired. If we choose to first assess qualitative factors and it is determined that it is not more
likely than not that intangible assets are impaired, then we are not required to take further action to test for impairment. We also have
the option to bypass the qualitative assessment and perform only the quantitative impairment test, which we may choose to perform in some
periods but not in others. As the option to perform the qualitative assessment is not a permanent election, we reassess this option during
each annual impairment review. An impairment loss, if any, is measured as the excess of the carrying value of the intangible asset over
its fair value.
Intangible assets are highly vulnerable to impairment
charges, particularly newly acquired assets for IPR&D. Considering the high risk nature of research and development and the industry’s
success rate of bringing developmental compounds to market, IPR&D impairment charges are likely to occur in future periods. Estimating
the fair value of IPR&D for potential impairment is highly sensitive to changes in projections and assumptions and changes in assumptions
could potentially lead to impairment.
We believe our estimates and assumptions are reasonable
and otherwise consistent with assumptions that market participants would use in their estimates of fair value. However, if future results
are not consistent with our estimates and assumptions, then we may be exposed to an impairment charge, which could be material. Use of
different estimates and judgments could yield materially different results in our analysis and could result in materially different asset
values or expense.
Impact of the Global Conflicts on Our Operations
The short and long-term implications of Russia’s
invasion of Ukraine and conflict in the Middle East are difficult to predict at this time. The imposition of current and future sanctions
and counter sanctions may have an adverse effect on the economic markets generally and could impact our business, financial condition,
and results of operations.
Results of Operations
The table below sets forth the comparison of our
historical results of operations for the year ended December 31, 2023 to the year ended December 31, 2022.
Description 2023 2022 Increase (Decrease) Percentage Change
Revenue:
Operating costs and expenses:
Other income (expense):
Revenue
Revenue for the year ended December 31, 2023 increased
by $0.8 million, or 48.8%, to $2.5 million from approximately $1.7 million for the year ended December 31, 2022. The increase represents
an increase in royalty revenue related to our sublicense agreement with Takeda as compared to the same period in 2022.
Research and Development Expense
Overall, R&D expenses for the year ended December
31, 2023 decreased by $1.3 million, or 26.7% to $3.5 million from $4.8 million in the comparable period in 2022 primarily due to IPR&D
expense of $1.8 million. During the year ended December 31, 2022, the Company expensed $1.8 million of IPR&D associated with our licensing
of the DNase platform. There was no similar expense in 2023. Excluding the $1.8 million of IPR&D expense from total R&D expense
of $4.8 million for the year ended December 31, 2022, R&D expenses for the year ended December 31, 2023 increased approximately $0.5
million, or 17.4% to $3.5 million, from $3.0 million for the year ended December 31, 2022. The table below sets forth the R&D costs
incurred by us, by category of expense, for the years ended December 31, 2023 and 2022:
Year ended December 31,
Outside services and contract research organizations 2,886,985 2,314,513
The increase in outside
services and contract research organizations expense was primarily due to increased spending in connection with our pre-clinical development
efforts associated with our DNase platform. We licensed the DNase platform in April 2022 and directed our R&D efforts and resources
on the development of this newly acquired technology. As a result, we suspended development of our XCART technology platform.
General and Administrative Expense
General and administrative expenses for the year
ended December 31, 2023 was $3.6 million, decreasing by approximately $0.1 million, or 2.5%, compared to the same period in the prior
year. The decrease was primarily due to a decrease in employee related costs substantially offset by increases in consulting and legal
costs during the year ended December 31, 2023 compared to the prior year.
Other Income (Expense)
Other income was approximately $25,000 for the
year ended December 31, 2023 compared to other expense of approximately $1,600 for the same period in 2022. This increase in other income
was primarily related to fees associated with the Pharmsynthez Loan recognized during the year ended December 31, 2023 for which there
were no similar fees received in 2022.
Interest Income, net
Interest income, net increased to approximately
$0.4 million during the year ended December 31, 2023 as compared to approximately $0.2 million in the prior year. This increase is due
to higher interest rates on invested funds during the year ended December 31, 2023 compared to the prior year, as well as an increase
in interest income on the Pharmsynthez Loan.
Non-GAAP Measures
In our narrative discussion of operations above,
we exclude the impact of non-cash expenses from certain operating measures, which narrative discussion includes reconciliation of such
adjusted financial measures to the directly comparable GAAP financial measure. We believe these adjusted operating measures may provide
investors with useful information regarding our underlying performance from period to period and allow investors to better understand
our results of operations. Management uses these adjusted measures when assessing the performance of the business.
Liquidity and Capital Resources
We incurred a net loss
of approximately $4.1 million for the year ended December 31, 2023. We had an accumulated deficit of approximately $193.2 million at December
31, 2023, as compared to an accumulated deficit of approximately $189.1 million at December 31, 2022. Working capital was approximately
$8.8 million at December 31, 2023, and $12.6 million at December 31, 2022, respectively. During the year ended December 31, 2023, our
working capital decreased by $3.8 million primarily due to our net loss for the year ended December 31, 2023 and, to a lesser extent,
decreases in current liabilities.
Our principal source
of liquidity consists of cash. At December 31, 2023, we had approximately $9.0 million in cash and $0.8 million in current liabilities.
At December 31, 2022, we had approximately $13.1 million in cash and $1.1 million in current liabilities.
We evaluate whether there
are conditions or events, considered in the aggregate that raise substantial doubt about our ability to continue as a going concern within
one year after the date that the financial statements are issued. We have incurred substantial losses since our inception, and we expect
to continue to incur operating losses in the near-term. These factors raise substantial doubt about our ability to continue as a going
concern. We believe that we have access to capital resources through possible public or private equity offerings, debt financings, corporate
collaborations, related party funding, or other means to continue as a going concern. We believe that our existing resources will be adequate
to fund our operations for a period of at least twelve months from the date of the issuance of these financial statements. However, we
anticipate we may need additional capital in the long-term to pursue our business initiatives. The terms, timing and extent of any future
financing will depend upon several factors, including the achievement of progress in our clinical development programs, our ability to
identify and enter into licensing or other strategic arrangements, our continued listing on the Nasdaq Stock Market (“Nasdaq”),
and factors related to financial, economic, geo-political, industry and market conditions, many of which are beyond our control. The capital
markets for the biotech industry can be highly volatile, which make the terms, timing and extent of any future financing uncertain. On
June 3, 2022, we received a written notification from the Listing Qualifications Department of Nasdaq notifying us that the closing bid
price for our common stock had been below $1.00 for 30 consecutive business days and that we therefore were not in compliance with the
minimum bid price requirement for continued inclusion on Nasdaq under Nasdaq Listing Rule 5550(a)(2) (the “Bid Price Requirement”).
On May 15, 2023, we effected a reduction, on a 1-for-10 basis, in our authorized common stock, par value $0.001, along with a corresponding
and proportional decrease in the number of shares issued and outstanding. On May 30, 2023, we received a letter from Nasdaq notifying
us that we had regained compliance with the Bid Price Requirement as a result of the closing bid price of the Company’s common stock
being at $1.00 per share or greater for the 10 consecutive business days from May 15, 2023 through May 26, 2023 and that this matter is
closed.
Cash Flows from Operating Activities
Cash flows used in operating activities for the
year ended December 31, 2023 totaled approximately $4.1 million, which was primarily due to our net loss for the period, partially offset
by non-cash charges associated with share-based expense and, to a lesser extent, a decrease in current liabilities. Cash flows used in
operating activities for the year ended December 31, 2022 totaled approximately $4.6 million, which was primarily due to our net loss
for the period, partially offset by non-cash charges associated with acquired IPR&D and share-based expense. In addition, current
liabilities decreased during the year ended December 31, 2022.
Cash Flows from Investing Activities
There were no cash flows from investing activities
for the year ended December 31, 2023. Cash flows used in investing activities for the year ended December 31, 2022 totaled $500,000, which
represented cash paid to license the DNase oncology platform.
Cash Flows from Financing Activities
There were no cash flows from financing activities
for each of the years ended December 31, 2023 and 2022.
Contractual Obligations
Contractual obligations represent future cash
commitments and liabilities under agreements with third-parties and exclude contingent liabilities for which we cannot reasonably predict
future payment. Our contractual obligations result from property leases for office space. Although we do have obligations for CMO and
CRO services, the table below excludes potential payments we may be required to make under our agreements with CMOs and CROs because timing
of payments and actual amounts paid under those agreements may be different depending on the timing of receipt of goods or services or
changes to agreed-upon terms or amounts for some obligations, and those agreements are cancelable upon written notice by the Company and
therefore, not long-term liabilities. The contracts may also contain variable costs that are hard to predict as they are based on such
things as patients enrolled and clinical trial sites, which can vary and, therefore, are also not included in the table below. Additionally,
the expected timing of payment of the obligations presented below is estimated based on current information.
The following tables represent our contractual
obligations as of December 31, 2023, aggregated by type:
Payments Due by Period As of December 31, 2023
Total Less than 1 year 1-3 years 3-5 years More than 5 years
Recent Accounting Standards
Refer to Note 3, Summary of Significant Accounting Policies,
of the accompanying financial statements set forth in Item 8.
ITEM 7A – QUANTITATIVE
AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are not required to provide the information required by this Item
because we are a “smaller reporting company” (as
defined in Rule 12b-2 of the Exchange Act).
ITEM 8 – FINANCIAL STATEMENTS
AND SUPPLEMENTARY DATA
Report of Independent Registered Public Accounting Firm (PCAOB ID 688) F-1
Consolidated Balance Sheets as of December 31, 2023 and 2022 F-3
Notes to Consolidated Financial Statements F-7
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING
FIRM
To the Shareholders and Board of Directors
of
Xenetic Biosciences, Inc.
Opinion on the Financial Statements
We have audited the accompanying consolidated
balance sheets of Xenetic Biosciences, Inc. (the “Company”) as of December 31, 2023 and 2022, the related consolidated statements
of comprehensive loss, stockholders’ equity and cash flows for each of the two years in the period ended December 31, 2023, and
the related notes (collectively referred to as the “financial statements”). In our opinion, the financial statements present
fairly, in all material respects, the financial position of the Company as of December 31, 2023 and 2022, and the results of its operations
and its cash flows for each of the two years in the period ended December 31, 2023, in conformity with accounting principles generally
accepted in the United States of America.
Basis for Opinion
These financial statements are the responsibility
of the Company's management. Our responsibility is to express an opinion on the Company's 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 in accordance with the
standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial
statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged
to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding
of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company's internal
control over financial reporting. Accordingly, we express no such opinion.
Our audits included performing procedures to assess
the risks of material misstatement of the 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 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 financial statements. We believe that our audits provide a reasonable basis for our opinion.
Critical Audit Matters
The critical audit matters communicated below
are matters arising from the current period audit of the financial statements that were communicated or required to be communicated to
the audit committee and that: (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our
especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion
on the financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing separate opinions
on the critical audit matters or on the accounts or disclosures to which they relate.
Going Concern Assessment
Description of the Matter
We identified the Company’s assessment of
its ability to continue as a going concern and related disclosures as a critical audit matter. The Company prepared future cash flow forecasts
which involves judgement and estimation of key variables such as future expected revenue royalty proceeds and costs associated with progressing
DNase technology. Auditing the Company’s going concern assessment described above involves a high degree of auditor judgment to
assess the reasonableness of the cash flow forecasts and other assumptions used in the Company’s going concern analysis.
As described in Note 1 to the consolidated financial
statements, management believes that the Company has sufficient funding available to it at the date of approval of these financial statements
and that it will be able to continue as a going concern for a period of at least twelve months from the date of these financial statements.
In making this assessment, management has considered the Company’s existing resources.
How We Addressed the Matter in Our Audit
We evaluated the assumptions used in the model
to estimate the future cash flows for the next twelve months from the date of our opinion by comparing assumptions used by management
against historical performance, budgets, and the Company’s strategic plans. We also assessed the key assumptions including those
pertaining to revenue royalty proceeds and the timing of significant payments in the cash flow forecast by comparing them to historical
data and the underlying agreements. We performed sensitivity analyses on key assumptions such as future expected costs to determine their
impact on the projections of future cash flows. Further, we assessed the Company’s disclosures with respect to its going concern
assessment.
Revenue Recognition over Royalty Revenue
Description of the Matter
As described in Note 3 to the consolidated financial
statements, the Company’s sources of revenue include royalty proceeds from a royalty agreement with a third-party based on potential
net sales of approved commercial pharmaceutical products which is based on estimated variable consideration. The Company must use significant
judgment to determine when the reported sales are reliably measurable, the Company has no remaining performance obligations, and all other
revenue recognition criteria are met. The Company’s policy is to recognize expected royalties as revenue when they are reliably
measurable, which is upon receipt of reports from the third-party. The Company typically receives these reports in the quarter subsequent
to the actual sublicensee sales.
The principal consideration for our determination
that performing procedures relating to revenue recognition, specifically related to management’s estimate of the potential net sales
as expected variable consideration, is a critical audit matter that requires significant judgment by management in determining the best
estimate of the amount of expected variable consideration. This in turn led to a high degree of auditor judgment, subjectivity and effort
in performing procedures and evaluating audit evidence related to management’s identification of expected variable consideration
within the royalty contract with the third-party and the judgments made by management used to estimate the best estimate of variable consideration.
How We Addressed the Matter in Our Audit
Addressing the matter involved performing procedures
and evaluating audit evidence in connection with forming our overall opinion on the consolidated financial statements. These procedures
included evaluating management’s best estimate of the potential net sales by the third-party to determine variable consideration.
These procedures also included, among others, (i) evaluating and testing the reasonableness of the significant assumptions used by management,
(ii) consideration of both historical or current trends, noting a relative lack of historical experience available in relation to expected
amounts and (iii) obtaining and vouching evidence including reports received from the third-party.
Marcum LLP
We have served as the Company’s auditor since 2015.
Boston, Massachusetts
March 21, 2024
XENETIC BIOSCIENCES, INC.
CONSOLIDATED BALANCE SHEETS
ASSETS
Current assets:
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accrued expenses and other current liabilities 568,753 785,796
Commitments and contingencies (Note 13) – –
Stockholders' equity:
Preferred stock, 10,000,000 shares authorized
The accompanying notes are an integral part of
these consolidated financial statements.
XENETIC BIOSCIENCES, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
FOR THE YEARS ENDED DECEMBER 31,
Revenue
Operating costs and expenses:
Other income (expense):
Basic and diluted net loss per share $ (2.71 ) $ (4.61 )
The accompanying notes are an integral part of
these consolidated financial statements.
XENETIC BIOSCIENCES, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Preferred Stock Common Stock Accumulated
Exercise of purchase warrants – – 199 – – – – – –
The accompanying notes are an integral part of
these consolidated financial statements.
XENETIC BIOSCIENCES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31,
CASH FLOWS FROM OPERATING ACTIVITIES:
Adjustments to reconcile net loss to net cash used in operating activities:
Acquired in-process research and development – 1,793,750
Amortization of right of use asset – 27,043
Changes in operating assets and liabilities:
Accounts payable, accrued expenses and other liabilities (263,571 ) (347,947 )
CASH FLOWS FROM INVESTING ACTIVITIES:
Net cash paid to acquire in-process research and development – (500,000 )
Net cash used in investing activities – (500,000 )
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid for interest $ – $ –
SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
Issuance of common stock to adjust for Reverse Stock Split $ 16 $ –
Conversion of Series A preferred stock to common stock $ 970 $ –
The accompanying notes are an integral part of
these consolidated financial statements.
XENETIC BIOSCIENCES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. The Company
Background
Xenetic Biosciences, Inc. (“Xenetic”
or the “Company”), incorporated in the state of Nevada and based in Framingham, Massachusetts, is a biopharmaceutical company
focused on advancing innovative immune-oncology technologies addressing hard to treat cancers. The Company’s proprietary Deoxyribonuclease
(“DNase”) platform is designed to improve outcomes of existing treatments, including immunotherapies, by targeting neutrophil
extracellular traps (“NETs”), which have been implicated in cancer progression and resistance to cancer treatments. Xenetic
is currently focused on advancing its systemic DNase program into the clinic as an adjunctive therapy for pancreatic carcinoma and locally
advanced or metastatic solid tumors. Additionally, Xenetic has partnered with biotechnology and pharmaceutical companies to develop its
proprietary drug delivery platform, PolyXen®, and receives royalty payments under an exclusive license arrangement in the
field of blood coagulation disorders.
The Company, directly or indirectly, through its
wholly-owned subsidiaries, Hesperix S.A. (“Hesperix”) and Xenetic Biosciences (U.K.) Limited (“Xenetic UK”), and
the wholly-owned subsidiaries of Xenetic UK, Lipoxen Technologies Limited (“Lipoxen”), Xenetic Bioscience, Incorporated and
SymbioTec, GmbH (“SymbioTec”), own various United States (“U.S.”) federal trademark registrations and applications
along with unregistered trademarks and service marks, including but not limited to XCART, OncoHistTM, PolyXen, ErepoXenTM, and
ImuXenTM, which are used throughout this Annual Report. All other company and product names may be trademarks of the respective companies
with which they are associated.
Going Concern and Management’s Plan
Management evaluates whether there are conditions
or events, considered in the aggregate, that raise substantial doubt about the Company’s ability to continue as a going concern
within one year after the date that the financial statements are issued. The Company has incurred substantial losses since its inception
and expects to continue to incur operating losses in the near-term. These factors raise substantial doubt about its ability to continue
as a going concern. The Company believes that it has access to capital resources through possible public or private equity offerings,
debt financings, corporate collaborations, related party funding, or other means to continue as a going concern. The Company believes
that its existing resources will be adequate to fund the Company’s operations for a period of at least twelve months from the date
of the issuance of these financial statements. However, the Company anticipates it may need additional capital in the long-term to pursue
its business initiatives. The terms, timing and extent of any future financing will depend upon several factors, including the achievement
of progress in its product development programs, its ability to identify and enter into licensing or other strategic arrangements, its
continued listing on the Nasdaq Stock Market (“Nasdaq”), and factors related to financial, economic, geo-political, industry
and market conditions, many of which are beyond its control. The capital markets for the biotech industry can be highly volatile, which
make the terms, timing and extent of any future financing uncertain.
On June 3, 2022, the Company received a written
notification (the “Notice”) from the Listing Qualifications Department of Nasdaq notifying the Company that the closing bid
price for its common stock had been below $1.00 for 30 consecutive business days and that the Company therefore was not in compliance
with the minimum bid price requirement for continued inclusion on Nasdaq under Nasdaq Listing Rule 5550(a)(2) (the “Bid Price Requirement”).
The Notice had no immediate effect on the listing of the Company’s common stock on the Nasdaq Capital Market. On May 15, 2023, the
Company effected a reduction, on a 1-for-10 basis, in its authorized common stock, par value $0.001, along with a corresponding and proportional
decrease in the number of shares issued and outstanding (the “Reverse Stock Split”). On May 30, 2023, the Company received
a letter from Nasdaq notifying the Company that it has regained compliance with the Bid Price Requirement as a result of the closing bid
price of the Company’s common stock being at $1.00 per share or greater for the 10 consecutive business days from May 15, 2023 through
May 26, 2023 and that this matter is closed.
2. Risks and Uncertainties
Impact of
Global Conflicts on Operations
The short and long-term
implications of Russia’s invasion of Ukraine and conflict in the Middle East are difficult to predict at this time. The imposition
of current and future sanctions and counter sanctions may have an adverse effect on the economic markets generally and could impact our
business, financial condition, and results of operations.
3. Summary of Significant Accounting Policies
Preparation of Financial Statements
On May 15, 2023, the Company effected the Reverse
Stock Split. On the effective date of the Reverse Stock Split, (i) every 10 shares of common stock were reduced to one share of common
stock, with any fractional amounts rounded up to one share; (ii) the number of shares of common stock into which each outstanding warrant,
restricted stock unit, or option to purchase common stock was convertible into was proportionately reduced on the same basis as the common
stock; (iii) the exercise price of each outstanding warrant or option to purchase common stock was proportionately increased on a 1-to-10
basis; and (iv) the number of shares of common stock into which each share of preferred stock was convertible into was proportionately
reduced on the same basis as the common stock. Unless otherwise indicated, all of the share numbers, share prices, and exercise prices
have been adjusted in this Annual Report, on a retroactive basis, to reflect this 1-for-10 Reverse Stock Split.
Principles of Consolidation
The consolidated financial statements of the Company
include the accounts of Hesperix, Xenetic UK and Xenetic UK’s wholly-owned subsidiaries: Lipoxen, Xenetic Bioscience, Incorporated,
and SymbioTec. All material intercompany balances and transactions have been eliminated in consolidation.
Certain prior period amounts have been reclassified
in this Annual Report to conform to the presentation for the current period.
Use of Estimates
The consolidated financial statements and accompanying
notes are prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”). The preparation of the
financial statements in accordance with U.S. GAAP requires management to make estimates, judgments and assumptions that affect the reported
amounts of assets and liabilities, the reported amounts of revenue, costs and expenses in the financial statements and disclosures in
the accompanying notes. Actual results and outcomes may differ materially from management’s estimates, judgments and assumptions.
Functional Currency Change
The functional currency for the Company’s
foreign subsidiaries is the U.S. dollar. The functional currency of the Company’s UK-based subsidiaries changed from the British
Pound Sterling to the U.S. dollar when the Company relocated to the U.S. in 2014. The change in functional currency was applied on a prospective
basis. Therefore, any gains and losses that were previously recorded in accumulated other comprehensive income remain unchanged.
Foreign Currency Transactions
Realized and unrealized gains and losses resulting
from foreign currency transactions arising from exchange rate fluctuations on balances denominated in currencies other than the functional
currencies are recognized in “Other income (expense)” in the consolidated statements of comprehensive loss. Monetary assets
and liabilities that are denominated in a currency other than the functional currency are re-measured to the functional currency using
the exchange rate at the balance sheet date and gains or losses are recorded in the consolidated statements of comprehensive loss.
Fair Value of Financial Instruments
Accounting Standards Codification (“ASC”)
Topic 820, Fair Value Measurement, defines fair value as the price that would be received to sell an asset or be paid to transfer
a liability in an orderly transaction between market participants at the measurement date. The Company applies the following fair value
hierarchy, which prioritizes the inputs used to measure fair value into three levels and bases the categorization within the hierarchy
upon the lowest level of input that is available and significant to the fair value measurement. Level 1 inputs are quoted prices in active
markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date. Level 2 utilizes
quoted market prices in markets that are not active, broker or dealer quotations or alternative pricing sources with reasonable levels
of price transparency. Level 3 inputs are unobservable inputs for the asset or liability in which there is little, if any, market activity
for the asset or liability at the measurement date. As of December 31, 2023 and 2022, the carrying amount of certain of the Company’s
financial instruments approximates fair value due to their short maturities. See Note 8, Fair Value Measurements, for discussion
of the Company’s fair value measurements.
Cash and Concentrations of Credit Risk
The Company considers all highly liquid investments
with an original maturity of 90 days or less from the date of purchase to be cash equivalents. Investments with original maturities of
greater than 90 days from the date of purchase but less than one year from the balance sheet date are classified as short-term investments,
while investments with maturities of one year or beyond from the balance sheet date are classified as long-term investments. Management
determines the appropriate classification of its cash equivalents and investment securities at the time of purchase and re-evaluates such
determination as of each balance sheet date. The carrying amount of cash equivalents approximate their fair value due to the short-term
nature of these instruments.
Financial instruments that potentially subject
the Company to credit risk consist primarily of cash on deposit with financial institutions, the balances of which may exceed federally
insured limits. The Company has not experienced any losses on such accounts, and does not believe it is exposed to any unusual credit
risk beyond the normal credit risk currently associated with commercial banking relationships. The Company maintains its primary banking
relationship with one large financial institution and all cash on deposit is covered under federally insured limits.
Property and Equipment
The Company records property and equipment at
cost less accumulated depreciation. Expenditures for major renewals and improvements which extend the life or usefulness of the asset
are capitalized. Items of an ordinary repair or maintenance nature are charged directly to operating expense as incurred. The Company
calculates depreciation using the straight-line method over the estimated useful lives of the assets:
Schedule of estimated useful life of assets
Asset Classification Estimated Useful Life
Office and computer equipment 3 years
Leasehold improvements 5 years or the remaining term of the lease, if shorter
Furniture and fixtures 5 years
The Company eliminates the cost of assets retired
or otherwise disposed of, along with the corresponding accumulated depreciation, from the related accounts, and the resulting gain or
loss is reflected in the results of operations.
Indefinite-Lived Intangible Assets
Assets acquired and liabilities assumed in business
combinations, licensing and other transactions are generally recognized at the date of acquisition at their respective fair values. At
acquisition, the Company generally determines the fair value of intangible assets, including in-process research and development (“IPR&D”),
using the “income method.” Acquired IPR&D intangible assets are considered indefinite-lived intangible assets and are
not amortized until completion or abandonment of the associated research and development efforts. Substantial additional research and
development may be required before the Company’s IPR&D reaches technological feasibility. Upon completion of the IPR&D project,
the IPR&D assets will be amortized over their estimated useful lives.
IPR&D is not amortized but is reviewed for
impairment at least annually or when events or changes in the business environment indicate that it is more likely than not that the carrying
value may be impaired. The Company also has the option to first assess qualitative factors to determine whether the existence of events
or circumstances leads the Company to determine that it is more likely than not (that is, a likelihood of more than 50%) that the acquired
IPR&D is impaired. If the Company chooses to first assess the qualitative factors and it is determined that it is not more likely
than not acquired IPR&D is impaired, the Company is not required to take further action to test for impairment. The Company also has
the option to bypass the qualitative assessment and perform only the quantitative impairment test, which the Company may choose to perform
in some periods but not in others. The impairment loss, if any, is measured as the excess of the carrying value of the intangible asset
over its fair value.
Intangible assets are highly vulnerable to impairment
charges, particularly newly acquired assets for IPR&D. Considering the high risk nature of research and development and the industry’s
success rate of bringing developmental compounds to market, IPR&D impairment charges are likely to occur in future periods. Estimating
the fair value of IPR&D for potential impairment is highly sensitive to changes in projections and assumptions and changes to assumptions
could potentially lead to impairment. The Company believes its estimates and assumptions are reasonable and otherwise consistent with
assumptions market participants would use in their estimates of fair value. However, if future results are not consistent with the Company’s
estimates and assumptions, then the Company may be exposed to an impairment charge, which could be material. Use of different estimates
and judgments could yield materially different results in the Company’s analysis and could result in materially different asset
values or expense.
Impairment of Long-Lived Assets
The Company reviews long-lived assets to be held
and used, including property and equipment, for impairment whenever events or changes in circumstances indicate that the carrying amount
of the assets or asset group may not be fully recoverable.
Evaluation of recoverability
is based on an estimate of undiscounted future cash flows resulting from the use of the asset or asset group and its eventual disposition.
Impairment, if any, is calculated as the amount by which an asset’s carrying value exceeds its fair value, typically using discounted
cash flows to determine fair value. No such impairments were recorded during the years ended December 31, 2023 and 2022.
Revenue Recognition
The Company enters into supply, license and collaboration
arrangements with pharmaceutical and biotechnology partners, some of which include royalty agreements based on potential net sales of
approved commercial pharmaceutical products.
The Company recognizes revenue in accordance with
ASC Topic 606, Revenue from Contracts with Customers (“ASC 606”). This standard applies to all contracts with customers,
except for contracts that are within the scope of other standards, such as leases, insurance, collaboration arrangements and financial
instruments. Under ASC 606, an entity recognizes revenue when its customer obtains control of promised goods or services, in an amount
that reflects the consideration which the entity expects to receive in exchange for those goods or services. To determine revenue recognition