Innovation Pharmaceuticals Inc. - Quarter Report: 2022 September (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

For the quarterly period ended: September 30, 2022

For the transition period from ____________to _____________

Commission File Number: 001-37357

301 Edgewater Place - Suite 100

Wakefield, MA 01880

 (Address of principal executive offices, Zip Code)

(978) 921-4125

(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act: None.

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒

The number of shares outstanding of each of the issuer’s classes of common equity, as of November 10, 2022 is as follows:

INNOVATION PHARMACEUTICALS INC.

FORM 10-Q

For the Three Months Ended September 30, 2022

TABLE OF CONTENTS

FORWARD-LOOKING STATEMENTS

This report contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, and Section 27A of the Securities Act of 1933, as amended. Any statements contained in this report that are not statements of historical fact may be forward-looking statements. When we use the words “intends,” “estimates,” “predicts,” “potential,” “continues,” “anticipates,” “plans,” “expects,” “believes,” “should,” “could,” “may,” “will” or the negative of these terms or other comparable terminology, we are identifying forward-looking statements. These forward-looking statements include, but are not limited to, any statements regarding our future financial performance, results of operations or sufficiency of capital resources to fund our operating requirements; statements relating to potential licensing, partnering or similar arrangements concerning our drug compounds; statements concerning our future drug development plans and projected timelines for the initiation and completion of preclinical and clinical trials; the potential for the results of ongoing preclinical or clinical trials; other statements regarding our future product development and regulatory strategies, including with respect to specific indications; and any other statements which are other than statements of historical fact. Forward-looking statements involve risks and uncertainties, which may cause our actual results, performance or achievements to be materially different from those expressed or implied by forward-looking statements. These factors include, but are not limited to, our ability to continue as a going concern and our capital needs; our ability to fund and successfully progress internal research and development efforts; our ability to create effective, commercially-viable drugs; our ability to effectively and timely conduct clinical trials; our ability to ultimately distribute our drug candidates; our ability to achieve certain future regulatory, development and commercialization milestones under our license agreement with Alfasigma S.p.A.; and compliance with regulatory requirements, as well as other factors described elsewhere in this report and our other reports filed with the Securities and Exchange Commission (the “SEC”). Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements.

Forward-looking statements speak only as of the date on which they are made. Except as may be required by applicable law, we do not undertake or intend to update or revise our forward-looking statements, and we assume no obligation to update any forward-looking statements contained in this report as a result of new information or future events or developments. Thus, you should not assume that our silence over time means that actual events are bearing out as expressed or implied in such forward-looking statements. You should carefully review and consider the various disclosures we make in this report and our other reports filed with the SEC that attempt to advise interested parties of the risks, uncertainties and other factors that may affect our business. Readers are cautioned not to put undue reliance on forward-looking statements.

For further information about these and other risks, uncertainties and factors, please review the disclosure included in our Annual Report on Form 10-K under “Part I, Item 1A, Risk Factors” and in this report under “Part II, Item 1A, Risk Factors.”

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

INNOVATION PHARMACEUTICALS INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

AS OF SEPTEMBER 30, 2022 AND JUNE 30, 2022

(Unaudited)

(Rounded to nearest thousand except for shares data)

The accompanying notes are an integral part of these condensed consolidated financial statements

INNOVATION PHARMACEUTICALS INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2022 AND 2021

(Unaudited)

(Rounded to nearest thousand except for shares and per share data)

The accompanying notes are an integral part of these condensed consolidated financial statements. 

INNOVATION PHARMACEUTICALS INC.

CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2022 AND 2021

(Unaudited)

(Rounded to nearest thousand, except for shares data)

For the Three Months Ended September 30, 2021

For the Three Months Ended September 30, 2022

The accompanying notes are an integral part of these condensed consolidated financial statements.

INNOVATION PHARMACEUTICALS INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2022 AND 2021

(Unaudited)

(Rounded to nearest thousand, except for shares data)

The accompanying notes are an integral part of these condensed consolidated financial statements. 

INNOVATION PHARMACEUTICALS INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

SEPTEMBER 30, 2022

(Unaudited)

1. Basis of Presentation and Nature of Operations

Unaudited Interim Financial Information

The accompanying unaudited condensed consolidated financial statements of Innovation Pharmaceuticals Inc. have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission, or the SEC, including the instructions to Form 10-Q and Regulation S-X. Certain information and note disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles in the United States of America (“U.S. GAAP”) have been condensed or omitted from these statements pursuant to such rules and regulations and, accordingly, they do not include all the information and notes necessary for comprehensive consolidated financial statements and should be read in conjunction with our audited financial statements for the year ended June 30, 2022, included in our Annual Report on Form 10-K for the year ended June 30, 2022.

In the opinion of the management of Innovation Pharmaceuticals Inc., all adjustments, which are of a normal recurring nature, necessary for a fair statement of the results for the three-month periods have been made. Results for the interim periods presented are not necessarily indicative of the results that might be expected for the entire fiscal year. When used in these notes, the terms “Company,” “Innovation,” “we,” “us” or “our” mean Innovation Pharmaceuticals Inc.

Basis of Presentation

Innovation Pharmaceuticals Inc. was incorporated on August 1, 2005 in the State of Nevada. Effective June 5, 2017, the Company amended its Articles of Incorporation and changed its name from Cellceutix Corporation to Innovation Pharmaceuticals Inc. On February 15, 2019, the Company formed IPIX Pharma Limited (“IPIX Pharma”), a wholly-owned subsidiary incorporated under the Companies Act 2014 of Ireland. IPIX Pharma is a Private Company Limited by Shares. The subsidiary is intended to serve as a key hub for strategic collaboration with European companies and medical communities in addition to providing cost-saving efficiencies and flexibility with respect to developing Brilacidin under European Medicines Agency standards.

The Company is a clinical stage biopharmaceutical company. The Company’s common stock is quoted on the OTCQB, symbol “IPIX.”

Basis of Consolidation

These condensed consolidated financial statements include the accounts of Innovation Pharmaceuticals Inc., a Nevada corporation, and our wholly-owned subsidiary, IPIX Pharma, an Ireland limited company. All significant intercompany transactions and balances have been eliminated in consolidation. There was no translation gain and loss for the three months ended September 30, 2022 and 2021.

Nature of Operations - Overview

We are in the business of developing innovative small molecule therapies to treat diseases with significant medical need, particularly in the areas of inflammatory diseases, cancer, dermatology and anti-infectives. Our strategy is to use our business and scientific expertise to maximize the value of our pipeline which presently includes Brilacidin by advancing indications along the regulatory pathway as well as seeking additional health care-related investment opportunities with the aim of diversifying the Company’s assets. Ongoing activities include Brilacidin drug manufacturing, scientific report writing, and supportive research activities. The Company also acquired an interest in BT BeaMedical Technologies Ltd. (“BTL”) which formerly known as Squalus Medical Ltd., a private company developing a novel image guided surgical laser platform. Management is focused on other avenues of business development, including, but not limited to, joint ventures, mergers and acquisitions, strategic investments, and licensing agreements, for the purpose of diversifying corporate assets. While no assurances are expressed or implied that any agreement will be consummated in the future, the Company is committed toward executing on opportunities at hand.

We currently own all development and marketing rights to our products, other than the license rights granted to Alfasigma S.p.A. in July 2019 for the development, manufacturing and commercialization of locally-administered Brilacidin for ulcerative proctitis/ulcerative proctosigmoiditis (“UP/UPS”). In order to successfully develop and market our products, we may have to partner with additional companies. Prospective partners may require that we grant them significant development and/or commercialization rights in return for agreeing to share the risk of development and/or commercialization.

2. Liquidity, Going Concern and Management’s Plan

Our financial statements were prepared assuming we will continue as a going concern which contemplates the realization of assets and satisfaction of liabilities in the normal course of business. For the three months ended September 30, 2022, the Company had a net loss of $1.4 million and negative cash flow from operations of $0.8 million. As of September 30, 2022, the Company has negative working capital of $2.0 million. As of September 30, 2022, the Company’s cash amounted to $3.0 million and current liabilities amounted to $5.1 million. The Company has expended substantial funds on its clinical trials and expects to continue our spending on research and development expenditures. We expect to incur further losses in the development of our business and have been dependent on funding operations from inception. These conditions raise substantial doubt about our ability to continue as a going concern. Management’s plans include continuing to finance operations through the private or public placement of debt and/or equity securities and the reduction of expenditures. However, no assurance can be given at this time as to whether we will be able to achieve these objectives. The financial statements do not include any adjustment relating to the recoverability and classification of recorded asset amounts or the amounts and classification of liabilities that might be necessary should we be unable to continue as a going concern.

These factors raise a substantial doubt about the Company’s ability to continue as a going concern. The accompanying financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classifications of liabilities that may result from the possible inability of the Company to continue as a going concern.

3. Significant Accounting Policies and Recent Accounting Pronouncements

Use of Estimates

The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect certain reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting periods. Significant items subject to such estimates and assumptions include contract research accruals, recoverability of long-lived assets, valuation of equity grants and income tax valuation. The Company bases its estimates on historical experience and various other assumptions that management believes to be reasonable under the circumstances. Changes in estimates are recorded in the period in which they become known. Actual results could differ from those estimates.

Basic and Diluted Loss per Share

Basic and diluted loss per share are computed based on the weighted-average common shares and common share equivalents outstanding during the period. Except with respect to certain voting, conversion and transfer rights and as otherwise expressly provided in the Company’s Articles of Incorporation or required by applicable law, shares of the Company’s Class A common stock and Class B common stock have the same rights and privileges and rank equally, share ratably and are identical in all respects as to all matters. Accordingly, basic and diluted net income (loss) per share are the same for both classes. Common share equivalents consist of stock options, restricted stock, warrants, convertible related party notes payable, and convertible preferred stock. Common share equivalents were excluded from the computation of diluted earnings per share for the three months ended September 30, 2022 and 2021, because their effect was anti-dilutive.

Weighted average shares of common stock outstanding used in the calculation of basic and diluted earnings per share were as follows:

Treasury Stock

The Company accounts for treasury stock using the cost method. There were 8,516,056 shares of Class A common stock and 2,358,537 shares of Class B common stock held in treasury, purchased at a total cumulative cost of approximately $2.3 million as of September 30, 2022 and 2021 (see Note 15. Equity Transactions).

Treasury stock, representing shares of the Company’s common stock that have been acquired for payroll tax withholding on vested stock grants and to satisfy the exercise price on vested stock options, is recorded at its acquisition cost and these shares are not considered outstanding.

Revenue Recognition

The Company follows the guidance of accounting standard ASC 606, Revenue from Contracts with Customers, and all the related amendments.

The Company has acquired and further developed license rights to Functional Intellectual Property (“functional IP”) that it licenses to customers for defined license periods. A functional IP license is a license to intellectual property that has significant standalone functionality that does not include supporting or maintaining the intellectual property during the license period. The Company’s patented drug formulas have significant standalone functionality in their abilities to treat a disease or condition. Further, there is no expectation that the Company will undertake any activities to change the functionality of the drug formulas during the license periods (see Note 8. Exclusive License Agreement and Patent Assignment Agreement).

Revenue is recognized when a 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.

Pursuant to ASC 606, a customer is a party that has contracted with an entity to obtain goods or services that are an output of the entity’s ordinary activities in exchange for consideration.

To determine revenue recognition for arrangements that an entity determines are within the scope of ASC 606, the Company performs the following five steps:

The Company only applies the five-step model to contracts when it is probable that the entity 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, the Company assesses the goods or services promised within each contract and determines those that are performance obligations, and assesses whether each promised good or service is distinct. If a promised good or service is not distinct, it is combined with other performance obligations. The Company then recognizes as revenue the amount of the transaction price that is allocated to the respective performance obligation when (or as) the performance obligation is satisfied.

The terms of the Company’s licensing agreement include the following:

License of Intellectual Property: If the license to the Company’s intellectual property is determined to be distinct from the other performance obligations identified in the arrangement, the Company recognizes revenues from non-refundable, up-front fees allocated to the license when the license is transferred to the customer and the customer is able to use and benefit from the license. If not distinct, the license is combined with other performance obligations in the contract. For licenses that are combined with other performance obligations, the Company assesses the nature of the combined performance obligation to determine whether the combined performance obligation is satisfied over time or at a point in time and, if over time, the appropriate method of measuring progress for purposes of recognizing revenue. The Company evaluates the measure of progress each reporting period and, if necessary, adjusts the measure of performance and related revenue recognition.

Milestone Payments: At the inception of each arrangement that includes developmental and regulatory milestone payments, the Company evaluates whether the achievement of each milestone specifically relates to the Company’s efforts to satisfy a performance obligation or transfer a distinct good or service within a performance obligation. If the achievement of a milestone is considered a direct result of the Company’s efforts to satisfy a performance obligation or transfer a distinct good or service and the receipt of the payment is based upon the achievement of the milestone, the associated milestone value is allocated to that distinct good or service. If the milestone payment is not specifically related to the Company’s effort to satisfy a performance obligation or transfer a distinct good or service, the amount is allocated to all performance obligations using the relative standalone selling price method. The Company also evaluates the milestone to determine whether they are considered probable of being reached and estimates the amount to be included in the transaction price using the most likely amount method. If it is probable that a significant revenue reversal would not occur, the associated milestone value is included in the transaction price to be allocated, otherwise, such amounts are constrained and excluded from the transaction price. At the end of each subsequent reporting period, the Company re-evaluates the probability of achievement of such development milestones and any related constraint, and if necessary, adjusts its estimate of the transaction price. Any such adjustments to the transaction price are allocated to the performance obligations on the same basis as at contract inception. Amounts allocated to a satisfied performance obligation shall be recognized as revenue, or as a reduction of revenue, in the period in which the transaction price changes.

Royalties: For arrangements that include sales-based royalties, including milestone payments based on the level of sales, and the license is deemed to be the predominant item to which the royalties relate, the Company will recognize revenue at the later of (i) when the related sales occur, or (ii) when the performance obligation to which some or all of the royalty has been allocated has been satisfied (or partially satisfied) in accordance with the royalty recognition constraint.

Accounting for Stock Based Compensation

The stock-based compensation expense incurred by the Company for employees, non-employees and directors in connection with its equity incentive plan is based on ASC 718, and the fair market value of the equity awards is measured at the grant date. Under ASC 718 employee is defined as “An individual over whom the grantor of a share-based compensation award exercises or has the right to exercise sufficient control to establish an employer-employee relationship based on common law as illustrated in case law and currently under U.S. tax regulations.”

Awards with service-based vesting conditions only: Expense is recognized on a straight-line basis over the requisite service period of the award.

Awards with performance-based vesting conditions: Expense is not recognized until it is determined that it is probable the performance-based conditions will be met. When achievement of a performance-based condition is probable, a catch-up of expense will be recorded as if the award had been vesting on a straight-line basis from the award date. The award will continue to be expensed on a straight-line basis over the requisite service period basis until a higher performance-based condition is met, if applicable.

Awards with market-based vesting conditions: Expense recognized on a straight-line basis over the requisite service period, which is the lesser of the derived service period or the explicit service period if one is present. However, if the market condition is satisfied prior to the end of the requisite service period, the Company will accelerate all remaining expense to be recognized.

Awards with both performance-based and market-based vesting conditions: If an award vesting or exercisability is conditional upon the achievement of either a market condition or performance or service conditions, the requisite service period is generally the shortest of the explicit, implicit, and derived service period.

We have elected to use the Black-Scholes-Merton pricing model to determine the fair value of stock options on the dates of grant. Restricted stock units are measured based on the fair market values of the underlying stock on the dates of grant. The grant date is also the valuation date for the non-employee awards. We recognize stock-based compensation using the straight-line method.

Investments

For those investments in common stock or in-substance common stock in which the Company has the ability to exercise significant influence over the operating and financial policies of the investee, the investment is accounted for under the equity method. For those investments in which the Company does not have such significant influence, the Company applies the accounting guidance for certain investments in debt and equity securities.

4. Equity Investment

BT BeaMedical Technologies Ltd. (formerly known as Squalus Medical Ltd.)

On June 9, 2022, the Company entered into a Series A Preferred Share Purchase Agreement (the “Purchase Agreement”) with BT BeaMedical Technologies Ltd. (formerly known as Squalus Medical Ltd.), a company established under the laws of the State of Israel (“BTL”), pursuant to which the Company purchased 55,556 shares of BTL’s Series A Redeemable Preferred Shares (the “Series A Shares”) and a warrant to purchase 27,778 Series A Shares for aggregate consideration of $4,000,000, or approximately $72.00 per Series A Share. Following the closing under the Purchase Agreement, the Company owns approximately 35.7% of BTL’s issued and outstanding equity securities and approximately 41.6% of BTL’s equity securities on a fully diluted basis. The Company also entered into customary investor rights and indemnification agreements with BTL. The Company therefore recorded an equity investment on our September 30, 2022 condensed consolidated balance sheet.

The Company’s equity in losses in excess of its investment are accounted for under the equity method and consisted of the following as of September 30, 2022 and June 30, 2022 (rounded in nearest thousand):

The Company invested approximately $4,000,000 in BTL in June, 2022. The cash balance in BTL at September 30, 2022 was approximately $3.7 million. During the three months ended September 30, 2022, BTL incurred a loss of approximately $86,000, and accordingly, the Company recorded its share of the loss in investment in BTL, in accordance with the provisions in the purchase agreement, of approximately $31,000 in the accompanying condensed consolidated statement of operations.

Summarized balance sheet information for the Company’s equity method investee BTL as of September 30, 2022 and June 30, 2022 is presented in the following table (rounded to nearest thousand):

Summarized income statement information for the Company’s equity method investee BTL is presented in the following table for the period from June 9, 2022 (date of acquisition) to September 30, 2022 (rounded to nearest thousand):

5. Patents, net

Patents, net consisted of the following (rounded to nearest thousand):

The patents are amortized on a straight-line basis over the useful lives of the assets, determined to be 12-17 years from the date of acquisition.

Amortization expense for the three months ended September 30, 2022 and 2021 was approximately $93,000 and $95,000, respectively. The Company wrote off the patent costs relating to Kevetrin of approximately $141,000 during the fourth quarter of 2022 due to discontinuation of its Kevetrin program.

At September 30, 2022, the future amortization period for all patents was approximately 3 years to 16.75 years. Future estimated amortization expenses are approximately $279,000 for the year ending June 30, 2023, $372,000 for each year from 2024 to 2025, $362,000 for the year ending June 30, 2026, $360,000 for the year ending June 30, 2027 and a total of $478,000 for the year ending June 30, 2028 and thereafter.

6. Accrued Expenses - Related Parties and Other

Accrued expenses consisted of the following (rounded to nearest thousand):

7. Accrued Salaries and Payroll Taxes - Related Parties and Other

Accrued salaries and payroll taxes consisted of the following (rounded to nearest thousand):

8. Exclusive License Agreement and Patent Assignment Agreement

On July 18, 2019, the Company entered into an Exclusive License Agreement (the “License Agreement”) with Alfasigma S.p.A., a global pharmaceutical company (“Alfasigma”), granting Alfasigma the worldwide right to develop, manufacture and commercialize locally-administered Brilacidin for the treatment of UP/UPS.

Under the terms of the License Agreement, Alfasigma made an initial upfront non-refundable payment of $0.4 million to the Company in July, 2019 and will make additional payments of up to $24.0 million to the Company based upon the achievement of certain milestones, including a $1.0 million payment due following commencement of the first Phase 3 clinical trial of Brilacidin for UP/UPS and an additional $1.0 million payment upon the filing of a marketing approval application with the U.S. Food and Drug Administration or the European Medicines Agency. At this time, Alfasigma has completed a Phase 1 clinical trial with Brilacidin. In addition to the milestones, Alfasigma will pay a royalty to the Company equal to six percent of net sales of Brilacidin for UP/UPS, subject to adjustment as provided in the License Agreement. The Company received an initial upfront non-refundable payment of $0.4 million and reported as revenue in July, 2019 and the Company did not receive any further payment during the three months ended September 30, 2022 and 2021.

On April 13, 2022, the Company entered a Patent Assignment Agreement with Fox Chase Chemical Diversity Center, Inc. (“FCCDC”), pursuant to which the Company assigned the title, rights and interest in and to the applications of certain patents in accordance with an earlier collaborative research agreement related to antifungal drug discovery work to which the Company had rights.

On May 3, 2022, the Company received payment of $18,000 from FCCDC based on FCCDC’s third-party license of broad-spectrum anti-fungals and a separate agreement between the Company and FCCDC. Some of the preliminary data used in the FCCDC research program had been obtained as part of an earlier collaboration with the Company supported by funding from the National Institutes of Health. Additional payments from FCCDC to the Company may also be made in the future.

9. Operating Leases

Operating lease right-of-use (“ROU”) assets and liabilities are recognized at commencement date based on the present value of lease payments over the lease term. ROU assets represent our right to use an underlying asset for the lease term and lease liabilities represent our obligation to make lease payments arising from the lease. Generally, the implicit rate of interest in arrangements is not readily determinable and the Company utilizes its incremental borrowing rate in determining the present value of lease payments. The Company’s incremental borrowing rate is a hypothetical rate based on its understanding of what its credit rating would be. The operating lease ROU asset includes any lease payments made and excludes lease incentives. Our variable lease payments primarily consist of maintenance and other operating expenses from our real estate leases. Variable lease payments are excluded from the ROU assets and lease liabilities and are recognized in the period in which the obligation for those payments is incurred. Our lease terms may include options to extend or terminate the lease when it is reasonably certain that we will exercise that option. Lease expense for minimum lease payments is recognized on a straight-line basis over the lease term.

We have lease agreements with lease and non-lease components. We have elected to account for these lease and non-lease components as a single lease component. We are also electing not to apply the recognition requirements to short-term leases of twelve months or less and instead will recognize lease payments as expense on a straight-line basis over the lease term.

The Company determined that the operating lease right-of-use asset was fully impaired on December 31, 2019. As such, the Company recognized an impairment loss of approximately $643,000, after recording amortization of the right-of-use asset for July, August, and September 2019 totaling approximately $27,000, resulting in a carrying value of $0 since December 31, 2019. The Company vacated the leased office space in December 2019, and in January 2020 the Company initiated a lawsuit against the lessor relating to an automatic extension of the lease for the office space and related matters (See Note 10. Commitments and Contingencies).

The components of lease expense and supplemental cash flow information related to leases for the period are as follows:

The supplemental balance sheet information related to leases for the period is as follows:

The following table provides maturities of the Company’s lease liabilities at September 30, 2022 as follows:

Operating lease cost for the three months ended September 30, 2022 and September 30, 2021 was approximately $13,000 and $20,000, respectively.

10. Commitments and Contingencies

Litigation

On January 22, 2020, the Company filed a complaint against Cummings Properties, LLC in the Superior Court of the Commonwealth of Massachusetts (C.A. No. 20-77CV00101), seeking, among other things, declaratory relief that the lease terminated in September 2018, because the Company’s prior principal executive offices did not automatically extend for an additional five years from September 2018, return of the Company’s security deposit, and damages. The total lease amount is approximately $0.6 million. The Company is currently unable to determine the probability of the outcome or reasonably estimate the loss or gain, if any.

Contractual Commitments

The Company has total non-cancellable contractual minimum commitments of approximately $0.9 million to contract research organizations as of September 30, 2022. Expenses are recognized when services are performed by the contract research organizations.

Contingent Liability - Disputed Invoices

The Company accrued payroll to Dr. Krishna Menon, ex-President of Research of approximately $1,443,000 for his past services with the Company, and this amount was included in accrued salaries and payroll taxes (see Note 7. Accrued Salaries and Payroll Taxes). As described in Note 11. Related Party Transactions, the Company has a payable to Kard Scientific, Inc. (“KARD”) of approximately $1,486,000 for its research and development expenses and this amount was included in accounts payable. KARD is a company owned by Dr. Menon. Dr. Menon’s employment was terminated with the Company on September 18, 2018, and Dr. Menon resigned from the Company’s Board of Directors on December 11, 2018. Dr. Menon, on behalf of himself and KARD, demanded payment of these amounts in October 2019; however, the Company disputes the underlying basis for these amounts and notified Dr. Menon in November 2019 of the Company’s intent not to pay them.

As of September 30, 2022 and June 30, 2022, all of the above disputed invoices were reflected as current liabilities.

11. Related Party Transactions

Pre-clinical Studies

The Company previously engaged KARD to conduct specified pre-clinical studies. The Company did not have an exclusive arrangement with KARD. All work performed by KARD needed prior approval by the executive officers of the Company, and the Company retained all intellectual property resulting from the services by KARD. The Company no longer uses KARD to conduct research study. At September 30, 2022 and June 30, 2022, the accrued research and development expenses payable to KARD was approximately $1,486,000 and this amount was included in accounts payable. Dr. Menon, the Company’s ex-principal shareholder and Director, on behalf of himself and KARD, demanded payment of these amounts in October 2019; however, the Company disputes the underlying basis for these amounts and notified Dr. Menon in November 2019 of the Company’s intent not to pay them.

Since September 1, 2013, the Company no longer leases space from KARD. As of September 30, 2022 and June 30, 2022, rent payables to KARD of approximately $8,000, were included in accrued expenses.

12. Convertible Note Payable - Related Party

The Ehrlich Promissory Note C is an unsecured demand note with Mr. Ehrlich, the Company’s Chairman and CEO, that originated in 2010, bears 9% simple interest per annum and is convertible into the Company’s Class A common stock at $0.50 per share.

On December 29, 2010, the Company issued 18,000,000 Equity Incentive Options to purchase Class B common stock to Mr. Ehrlich, which are exercisable at $0.11 per share. On May 8, 2012, the Company did not have the ability to repay the Ehrlich Promissory Note C loan of approximately $2,022,000 and agreed to change the interest rate from 9% simple interest to 10% simple interest, and the Company issued 2,000,000 Equity Incentive Options exercisable at $0.51 per share equal to 110% of the closing bid price of $0.46 per share on May 7, 2012. All these options were valid for ten years from the date of issuance and expired in May, 2022.

During the quarter ended September 30, 2022 and for year ended June 30, 2022, the Company repaid the principal of $6,000 and $1,033,000, respectively to Mr. Ehrlich. As of September 30, 2022 and June 30, 2022, the principal balance of this convertible note payable to Mr. Ehrlich was approximately $244,000 and $250,000, respectively.

As of September 30, 2022 and June 30, 2022, the balance of accrued interest payable was $2,000 and $4,000, respectively (see Note 6. Accrued Expenses - Related Parties and Other).

As of September 30, 2022 and June 30, 2022, the total outstanding balances of principal and interest were approximately $246,000 and $254,000, respectively.

13. Loan payable

On May 10, 2020 and April 19, 2021, the Company received loan proceeds in the amount of approximately $93,000 and $79,000, respectively, under the Paycheck Protection Program (“PPP”) and it was recorded under loan payable. The PPP, established as part of the Coronavirus Aid, Relief and Economic Security Act (“CARES Act”), provides for loans to qualifying businesses for amounts up to 2.5 times of the average monthly payroll expenses of the qualifying business. The loans and accrued interest are forgivable after eight weeks as long as the borrower uses the loan proceeds for eligible purposes, including payroll, benefits, rent and utilities, and maintains its payroll levels. The amount of loan forgiveness will be reduced if the borrower terminates employees or reduces salaries during the eight-week period.

As of June 30, 2022, the Company obtained the approval of the forgiveness of the above mentioned two loans, and the Company recorded the total loan forgiveness of $172,000 under other income.

14. Equity Incentive Plans, Stock-Based Compensation, Exercise of Options and Warrants Outstanding

Stock-based Compensation - Stock Options

2016 Equity Incentive Plan (the “2016 Plan”)

On June 30, 2016, the Board of Directors adopted the Company’s 2016 Plan. The 2016 Plan became effective upon adoption by the Board of Directors on June 30, 2016.

On February 23, 2020, the Board of Directors approved an amendment to Section 4.1 of the 2016 Plan to increase the annual limit on the number of awards under such Plan to outside directors from 250,000 to 1,500,000.

On October 10, 2021, the Board of Directors approved amendments to the 2016 Plan to increase the number of shares of common stock available for issuance thereunder to 225,000,000 shares and to increase the annual limit on the number of awards under such Plan to outside directors from 1,500,000 to 5,000,000, among other changes.

Up to 225,000,000 shares of the Company’s Class A common stock may be issued under the 2016 Plan (subject to adjustment as described in the 2016 Plan).

Stock Options

The fair value of options granted for the three months ended September 30, 2022 and 2021 was estimated on the date of grant using the Black-Scholes-Merton Model that uses assumptions noted in the following table.

The components of stock-based compensation expense included in the Company’s Statements of Operations for the three months ended September 30, 2022 and 2021 are as follows (rounded to nearest thousand):

During the three months ended September 30, 2022 and 2021

Directors and Employee

On October 10, 2021, the Compensation Committee approved the issuance of 1 million stock options to purchase shares of the Company’s common stock each to 2 independent directors of the Company, and 1 million stock options to purchase shares of Company’s common stock to Mr. Ehrlich, the CEO, which are exercisable for 10 years at $0.24 per share of common stock. These 3 million stock options with 1 year vesting period were valued at approximately $585,000. During the three months ended September 30, 2022, the Company recorded approximately $147,000 of stock-based compensation costs. The assumptions used in the Black-Scholes-Merton option-pricing model are disclosed above.

On October 10, 2021, the Company also issued to Ms. Jane Harness, the Senior Vice President, Clinical Sciences and Portfolio Management of the Company, 500,000 options to purchase common stock, which are exercisable for 10 years at $0.24 per share of common stock. These stock options with 1 year vesting period were valued at approximately $98,000. During the three months ended September 30, 2022, the Company recorded approximately $24,000 of related stock-based compensation. The assumptions used in the Black-Scholes-Merton option-pricing model are disclosed above.

On September 11, 2020, the Company issued to Ms. Harness 58,394 shares of the Company’s common stock. The Company also issued 172,987 options to purchase common stock. These stock options with 3 years vesting period were valued at approximately $33,000 and these 58,394 shares of the Company’s common stock were valued at approximately $13,000, based on the closing bid price as quoted on the OTC on September 11, 2020 at $0.22 per share. During the three months ended September 30, 2022, the Company recorded approximately $4,000 of stock-based compensation expense in connection with the foregoing equity awards, including approximately $3,000 of stock option expense and $1,000 of stock awards. During the three months ended September 30, 2021, the Company recorded approximately $4,000 of stock-based compensation expense in connection with the foregoing equity awards, including approximately $3,000 of stock option expense and $1,000 of stock awards.

On September 1, 2019, the Company issued to Ms. Harness 58,394 shares of the Company’s common stock. The Company also issued 172,987 options to purchase common stock. These stock options with a 3 year vesting period were valued at approximately $20,000, based on the closing bid price as quoted on the OTC on August 30, 2019 at $0.132 per share. During the three months ended September 30, 2022, the Company recorded approximately $1,000 of stock-based compensation expense in connection with the foregoing equity awards, including approximately $1,000 of stock option expense. During the three months ended September 30, 2021, the Company recorded approximately $3,000 of stock-based compensation expense in connection with the foregoing equity awards, including approximately $2,000 of stock option expense and $1,000 of stock awards.

On September 1, 2018, the Company issued to Ms. Harness 58,394 shares of the Company’s common stock. The Company also issued 172,987 options to purchase common stock. These stock options are valued at approximately $63,000, based on the closing bid price as quoted on the OTCQB on August 31, 2018 at $0.40 per share. During the three months ended September 30, 2022, the Company recorded no stock-based compensation expense in connection with the foregoing equity awards. During the three months ended September 30, 2021, the Company recorded approximately $5,000 of stock-based compensation expense in connection with the foregoing equity awards, including approximately $4,000 of stock option expense and $1,000 of stock awards.

Consultants

On January 1, 2022, the Company agreed to issue stock options to purchase 75,000 shares of the Company’s common stock to one consultant for his one-year contract. These options were issued with an exercise price of $0.044 per share and vest 33 1/3% on January 1, 2022, 33 1/3% on July 1, 2022 and 33 1/3% on January 1, 2023. The value of these options was approximately $3,000. During the three months ended September 30, 2022, the Company recorded approximately $1,000 of related stock-based compensation. The assumptions used in the Black-Scholes-Merton option-pricing model are disclosed above.

On July 30, 2021, the Company agreed to issue stock options to purchase 100,000 shares of the Company’s common stock to one consultant for his one-year contract. These options were issued with an exercise price of $0.27 per share and vest 33 1/3% on July 30, 2021, 33 1/3% on January 30, 2022, and 33 1/3% on July 30, 2022. The value of these options was approximately $19,000. During the three months ended September 30, 2022 and 2021, the Company recorded approximately $1,000 and $8,000 of related stock-based compensation, respectively. The assumptions used in the Black-Scholes-Merton option-pricing model are disclosed above.

On July 1, 2021, the Company agreed to issue stock options to purchase 225,000 shares of the Company’s common stock to one consultant for his one-year contract. These options were issued with an exercise price of $0.21 per share and vest 33 1/3% on July 1, 2021, 33 1/3% on January 1, 2022, and 33 1/3% on July 1, 2022. The value of these options was approximately $33,000. During the three months ended September 30, 2022 and 2021, the Company recorded $0 and approximately $16,000 of related stock-based compensation, respectively. The assumptions used in the Black-Scholes-Merton option-pricing model are disclosed above.

On February 10, 2021, the Company agreed to issue stock options to purchase 75,000 shares of the Company’s common stock to one consultant for his one-year contract. These options were issued with an exercise price of $0.38 per share and vest 33 1/3% on February 10, 2021, 33 1/3% on July 1, 2021, and 33 1/3% on January 1, 2022. The value of these options was approximately $20,000. During the three months ended September 30, 2022 and 2021, the Company recorded $0 and approximately $4,000 of related stock-based compensation, respectively. The assumptions used in the Black-Scholes-Merton option-pricing model are disclosed above.

On July 23, 2020, the Company agreed to issue stock options to purchase 100,000 shares of the Company’s common stock to one consultant for his one-year contract. These options were issued with an exercise price of $0.32 per share and vest 33 1/3% on July 23, 2020, 33 1/3% on January 23, 2021, and 33 1/3% on July 23, 2021. The value of these options was approximately $28,000. During the three months ended September 30, 2022 and 2021, the Company recorded $0 and approximately $1,000 of related stock-based compensation, respectively. The assumptions used in the Black-Scholes-Merton option-pricing model are disclosed above.

Exercise of options

There was no exercise of options to purchase Class B common stock during the three months ended September 30, 2022 and September 30, 2021.

Forfeiture of options

There was forfeiture of 30,000 options and 2,245,000 options to purchase Class A common stock during the three months ended September 30, 2022 and the year ended June 30, 2022, respectively, relating to the expiry of options of an officer and consultants.

Stock Options Issued and Outstanding

The following table summarizes all stock option activity under the Company’s equity incentive plans:

Restricted Stock Awards Outstanding

The following summarizes our restricted stock activity:

Scheduled vesting for outstanding restricted stock awards at September 30, 2022 is as follows:

As of September 30, 2022, there was approximately $4,000 of net unrecognized compensation cost related to unvested restricted stock-based compensation arrangements. This compensation is recognized on a straight-line basis resulting in approximately $4,000 of compensation expected to be expensed over the next twelve months, and the total unrecognized stock-based compensation expense having a weighted average recognition period of 0.95 years.

15. Equity Transactions

$30 million Class A Common Stock Purchase Agreement with Aspire Capital

On July 31, 2020, the Company entered into the 2020 Stock Purchase Agreement (the “2020 Purchase Agreement”) with Aspire Capital Fund, LLC (“Aspire Capital”) which provides that, upon the terms and subject to the conditions and limitations set forth therein, Aspire Capital is committed to purchase up to an aggregate of $30.0 million of the Company’s common stock over the 24-month term of the Agreement. In consideration for entering into the 2020 Purchase Agreement, the Company issued to Aspire Capital 6,250,000 shares of its Class A Common Stock as a commitment fee. The commitment fee of approximately $1.4 million was recorded as deferred financing costs and additional paid-in capital and this asset will be amortized over the life of the 2020 Purchase Agreement. The amortized amount of approximately $0.6 million and $0.2 million was recorded to additional paid-in capital for the three months ended September, 2022 and 2021. All deferred offering costs were fully amortized on July 31, 2022 (date of expiration of the agreement).

During the period from July 1, 2022 to July 31, 2022 (date of expiration of the agreement), the Company did not sell any shares to Aspire Capital. During the period from July 31, 2020 to June 30, 2022, the Company generated proceeds of approximately $4.6 million under the 2020 Purchase Agreement with Aspire Capital from the sale of approximately 22.5 million shares of its common stock.

Series B-2 5% convertible preferred stock (“2020 Series B-2 5% convertible preferred stock”)

On December 4, 2020, the Company entered into a securities purchase agreement (the “Series B-2 Securities Purchase Agreement”) with KIPS Bay Select LP for the sale of an aggregate of 5,089 shares of the Company’s Series B-2 5% convertible preferred stock (the “Series B-2 preferred stock”), for aggregate gross proceeds of approximately $5.0 million. An initial closing for the sale of 3,053 shares of the Series B-2 preferred stock closed on December 9, 2020 for aggregate gross proceeds of approximately $3.0 million, and a second closing for the sale of 2,036 shares of the Series B-2 preferred stock closed on February 8, 2021 for aggregate gross proceeds of approximately $2.0 million. Under the Series B-2 Securities Purchase Agreement, the Company also issued to the investors warrants to purchase up to an additional 10,178 shares of preferred stock.

The Series B-2 preferred stock is mandatorily redeemable under certain circumstances and, as such, is presented as a liability on the condensed consolidated balance sheets. The Company has elected to measure the value of its preferred stock using the fair value method with offsetting discounts associated with the fair value allocated to the warrants and for the intrinsic value attributed to the beneficial conversion feature (“BCF”). The fair value of the Series B-2 preferred stock (without the warrants) will be assessed at each subsequent reporting date with changes in fair value recorded in the profit and loss as a separate line item below the “loss from operations” section (See ASC 480-10-35-5).

The warrants issued in connection with the Series B-2 preferred stock are deemed to be free standing equity instruments and are recorded in permanent equity under additional paid in capital, based on a relative fair value allocation of proceeds, that is the warrants’ relative fair value to the Series B-2 preferred stock fair value (without the warrants), with an offsetting discount to the Series B-2 preferred stock. Given that the Series B-2 preferred stock is convertible at any time under these features, the underlying warrant discounts were accreted upon issuance and recorded as interest, resulting in no remaining discount to the Series B-2 preferred stock liability after the issuance.

The Company recorded the December 9, 2020 issuance of 3,053 shares Series B-2 Preferred Stock at approximately $2.1 million and the underlying Series 1 and Series 2 warrants at approximately $0.9 million in total by allocating the gross proceeds to Series B-2 preferred stock (without the warrants) and warrants based on their relative fair values or direct valuation as appropriate. The Company recorded BCF of approximately $1.8 million associated with the issuance of the 3,053 shares of Series B-2 preferred stock to additional paid-in capital. The Company then recorded interest of approximately $2.7 million for the BCF and warrant discounts as a first day interest given that the Series B-2 preferred shares can be converted at any time to common stock and given no set term.

The issuance costs associated with the Series B-2 preferred stock transaction were attributed to the Series B-2 preferred stock (without the warrants) and to the Series 1 and Series 2 warrants based on their relative fair values. The issuance costs attributed to the warrants of approximately $10,000 were reflected as a reduction to additional paid-in capital. The issuances costs associated with the Series B-2 preferred stock liability of $25,000 was recorded immediately as an element of interest cost, which are reflected in interest expense - preferred stock on December 11, 2020.

The Company recorded the February 8, 2021 issuance of 2,036 shares Series B-2 Preferred Stock at approximately $1.5 million and the underlying Series 1 and Series 2 warrants at approximately $0.5 million in total by allocating the gross proceeds to Series B-2 preferred stock (without the warrants) and warrants based on their relative fair values or direct valuation as appropriate. The Company recorded BCF of approximately $1.5 million associated with the issuance of the 2,036 shares of Series B-2 preferred stock to additional paid-in capital. The Company then recorded interest of approximately $2.0 million for the BCF and warrant discounts as a first day interest given that the Series B-2 preferred shares can be converted at any time to common stock and given no set term.

Underlying Series B-2 preferred stock dividends, paid quarterly, was accrued as interest (given the liability classification of the Series B-2 preferred stock) on a daily basis given fixed dividend terms under the Series B-2 preferred stock. The Company recorded 5% dividend accretion on total outstanding Series B-2 preferred stock and the total dividends accrued of approximately $8,000 and $0 were treated as interest during the quarter ended September 30, 2022 and 2021, respectively, in the Condensed Consolidated Statements of Operations. The change in fair value of the total Series B-2 preferred stock were $0 during the quarter ended September 30, 2022 and 2021 in the Condensed consolidated Statements of Operations.

Terms of the 2020 Series B-2 5% convertible preferred stock

The rights and preferences of the preferred stock are set forth in a Certificate of Designation of Preferences, Rights and Limitations of Series B-2 5% Convertible Preferred Stock filed with the Nevada Secretary of State on December 4, 2020 (the “Certificate of Designation”). Each share of preferred stock has an initial stated value of $1,080 and may be converted at any time at the holder’s option into shares of the Company’s common stock at a conversion price equal of the lower of (i) $0.35 until August 15, 2021 and $0.50 thereafter, and (ii) 85% of the lowest volume weighted average price of the Company’s common stock on a trading day during the ten trading days prior to and ending on, and including, the conversion date. The conversion price may be adjusted following certain triggering events and subsequent equity sales and is subject to appropriate adjustment in the event of stock splits, stock dividends, recapitalization or similar events affecting the Company’s common stock.

The holders of the preferred stock are limited in the amount of stated value of the preferred stock they can convert on any trading day. The conversion cap limits conversions by the holders to the greater of $75,000 and an amount equal to 30% of the aggregate dollar trading volume of the Company’s common stock for the five trading days immediately preceding, and including, the conversion date. However, the conversion cap will be increased if the trading volume in the first 30 minutes of any trading session exceeds certain trailing average daily volume amounts. In addition, the holders of the preferred stock may not convert shares of preferred stock if, after giving effect to the conversion, a holder together with its affiliates would beneficially own in excess of 9.99% of the outstanding shares of the Company’s common stock.

Redemption Rights

Following 90 days after the scheduled date for the second closing date, the Company may elect to redeem the preferred stock for 120% of the aggregate stated value then outstanding, plus all accrued but unpaid dividends and all liquidated damages and other amounts due in respect of the preferred stock. The Company’s right to redeem the preferred stock is contingent upon it having complied with a number of conditions, including compliance with its obligations under the Certificate of Designation. Shares of preferred stock generally have no voting rights, except as required by law and except that the Company shall not take certain actions without the consent of the holders of the preferred stock.

2020 Series B-2 5% convertible preferred stock warrants

Each share of preferred stock was sold together with two warrants: (i) a Series 1 warrant, which entitles the holder thereof to purchase one share of preferred stock at $982.50 per share, or 5,089 shares of preferred stock in the aggregate for approximately $5.0 million in aggregate exercise price, for a period of up to 18 months following issuance, and (ii) a Series 2 warrant, which entitles the holder thereof to purchase one share of preferred stock at $982.50 per share, or 5,089 shares of preferred stock in the aggregate for approximately $5.0 million in aggregate exercise price, for a period of up to 24 months following issuance.

Subject to the satisfaction of certain circumstances, the Company may call for cancellation any or all of the warrants following 90 days after their issuance, for a payment in cash equal to 8% of the aggregate exercise price of the warrants being called. The warrants subject to any such call notice will be cancelled 10 days following the Company’s payment of the call fee, provided that the warrant holders have not exercised the warrants prior to cancellation.

Exercise of 2020 Series B-2 5% convertible preferred stock warrants

During the quarter ended September 30, 2022, there was no exercise of warrants because all warrants were exercised since November 4, 2021.

During the quarter ended September 30, 2021, the Company issued 3,036 shares of its Series B-2 5% convertible preferred stock, for aggregate gross proceeds of approximately $3.0 million, upon exercise of 3,036 Series 1 warrants issued by the Company. With regard to the exercise of these 3,036 warrants, the Company recorded gross proceeds of approximately $3.0 million to the preferred stock liability. As of September 30, 2022 and June 30, 2022, there was no warrant outstanding.

Conversion of 2020 Series B-2 5% convertible preferred stock to common stock

During the quarter ended September 30, 2022, there was no conversion of 2020 Series B-2 5% convertible preferred stock to common stock. 

During the quarter ended September 30, 2021, the 2020 Series B-2 5% convertible preferred stockholder converted a total of 3,036 shares of Series B-2 preferred stock into a total of approximately 18,939,080 shares of common stock. With regard to conversions, the Company reversed Series B-2 5% convertible preferred stock liability relating to the conversion and recorded $3.0 million as Additional paid-in capital at par value. The Company reversed the amount of approximately $3.0 million based on the proportion of Series B-2 5% convertible preferred stock converted relative to the original total issued.

As of September 30, 2022 and June 30, 2022, Series B-2 5% convertible preferred stock liability was approximately $0.8 million.

The fair value of the Series B convertible preferred stock is measured in accordance with ASC 820 “Fair Value Measurement,” using option pricing methodologies, incorporating the following inputs: 

Treasury Stock

Regarding the exercise of options to purchase 2.2 million shares of Class B common stock on September 8, 2020 by Mr. Ehrlich, the Company issued 1,787,762 shares of Class B common stock (net share issuance amount), to Mr. Ehrlich. The remaining 412,238 shares of Class B common stock were withheld from Mr. Ehrlich for the payment of payroll taxes and were reported by the Company as treasury stock, at cost, on the Company’s accompanying balance sheets.

Regarding the exercise of options to purchase 909,090 shares of Class B common stock on October 2, 2020, the Company issued 727,994 shares of Class B common stock (net share issuance amount), to Mr. Ehrlich. The remaining 181,096 shares of Class B common stock were withheld from Mr. Ehrlich for the payment of payroll taxes and were reported by the Company as treasury stock, at cost, on the Company’s accompanying balance sheets.

Regarding the exercise of options to purchase 13,072,730 shares of Class B common stock on December 28, 2020, the Company cancelled 6,980,583 shares of Class A common stock held by Mr. Ehrlich with a fair value of $1,438,000 to satisfy the exercise price. The Company withheld 1,765,203 shares of Class B common stock and cancelled an additional 854,419 shares of Class A common stock held by Mr. Ehrlich to satisfy tax withholding obligations. As a result, the Company issued 11,307,527 shares of Class B common shares (net of 1,765,203 shares of Class B common shares withheld to satisfy tax withholding obligations), and cancelled 7,835,002 shares of Class A common stock held by Mr. Ehrlich. Both the 1,765,203 shares of Class B common stock and the 7,835,002 shares of Class A common stock were reported by the Company as treasury stock, at cost, on the Company’s accompanying balance sheets.

There were 8,516,056 shares of Class A common stock and 2,358,537 shares of Class B common stock held in treasury, purchased at a total cumulative cost of approximately $2.3 million as of September 30, 2022 and June 30, 2022.

16. Fair Value Measurements

We disclose and recognize the fair value of our assets and liabilities using a hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. The guidance establishes three levels of the fair value hierarchy as follows:

Level 1: Inputs are unadjusted, quoted prices in active markets for identical assets or liabilities at the measurement date;

Level 2: Inputs are observable, unadjusted quoted prices in active markets for similar assets or liabilities, unadjusted quoted prices for identical or similar assets or liabilities in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the related assets or liabilities; and

Level 3: Unobservable inputs that are significant to the measurement of the fair value of the assets or liabilities that are supported by little or no market data.

Our financial instruments consist of cash and cash equivalents, short-term and long-term investments, accounts payable, accrued liabilities and preferred liability. At September 30, 2022 and 2021, the carrying values of cash and cash equivalents, accounts payable, and accrued liabilities approximated fair value due to their short-term maturities.

The Company has elected to measure its preferred stock using the fair value method. The fair value of the preferred stock is the estimated amount that would be paid to redeem the liability in an orderly transaction between market participants at the measurement date. The Company calculates the fair value of the Series B-2 Preferred stock using a lattice model that takes into consideration the future redemption value on the instrument, which is tied to the Company’s stock price.

These valuations are considered to be Level 3 fair value measurements as the significant inputs are unobservable and require significant management judgment or estimation. Considerable judgment is required in interpreting market data to develop the estimates of fair value. Accordingly, the Company’s estimates are not necessarily indicative of the amounts that the Company, or holders of the instruments, could realize in a current market exchange. Significant assumptions used in the fair value models include: the estimates of the redemption dates; credit spreads; dividend payments; and the market price of the Company’s common stock. The use of different assumptions and/or estimation methodologies could have a material effect on the estimated fair values.

The table below sets forth a reconciliation of the Company’s beginning and ending Level 3 Series B-2 preferred stock liability balance for the quarter ended September 30, 2022 and for the year ended June 30, 2022:

17. Subsequent Events

The Company has evaluated events subsequent to September 30, 2021 through the issuance of these financial statements and determined that there were no additional events requiring disclosure.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and plan of operations should be read in conjunction with the condensed consolidated financial statements and the notes to those statements included elsewhere in this Form 10-Q and with our Annual Report on Form 10-K for the year ended June 30, 2022. This discussion includes forward-looking statements that involve risk and uncertainties. You should review our important note about forward-looking statements preceding the condensed consolidated financial statements in Item 1 of this Part I. As a result of many factors, such as those set forth under “Risk Factors” in our Annual Report on Form 10-K, actual results may differ materially from those anticipated in these forward-looking statements.

Management’s Plan of Operation

OVERVIEW OF OUR BUSINESS

Overview

Innovation Pharmaceuticals Inc. is a clinical stage pharmaceutical company developing innovative therapies with anti-infective, oncology, anti-inflammatory and dermatology applications. The Company’s lead drug candidate Brilacidin is in a class of compounds called defensin-mimetics, small compounds that mimic the structure and function of defensins, also known as host defense peptides. The Company’s efforts are primarily focused on advancement of Brilacidin in Oral Mucositis and in infectious diseases. Ongoing activities include Brilacidin drug manufacturing, scientific report writing, and supportive research activities. The Company also acquired an interest in BT BeaMedical Technologies Ltd. (“BTL”), which is formerly known as Squalus Medical Ltd., a private company developing a novel image guided surgical laser platform. Management is focused on other avenues of business development, including, but not limited to, joint ventures, mergers and acquisitions, strategic investments, and licensing agreements, for the purpose of diversifying corporate assets, although there can be no assurances that any agreement will be consummated in the future.

Recent Developments

As of the date of this filing, Brilacidin is being studied by independent researchers funded by US Government grants, as a potential broad-spectrum antiviral therapeutic for the treatment of viruses. Additionally, the antifungal properties of Brilacidin are being studied by several academic groups. We anticipate these studies to continue as long as researchers remain positive about the antiviral and antifungal properties and therapeutic potential of Brilacidin and government funding is available.

On June 15, 2022, the Company announced acquiring a stake in BT BeaMedical Technologies Ltd. (“BTL”), which is formerly known as Squalus Medical Ltd., a private company developing a novel image guided surgical laser platform for treating previously inoperable cases of epilepsy and for enabling new treatment options for cancer cases in multiple key specialties.

On October 4, 2022, the Company announced publication of a scientific article on the antifungal activity of Brilacidin. In pre-clinical studies, Brilacidin was shown to synergize with marketed antifungals against pathogenic species of aspergillosis, candidiasis, cryptococcosis and mucormycosis, and further exhibited potent stand-alone efficacy against Cryptococcus neoformans.

On October 26, 2022, information was provided to shareholders on new MRI-guided laser technology being introduced in the United Kingdom to treat epilepsy that is relevant to the Company’s investment in BTL. In contrast to conventional neurosurgery, novel fiber optic laser therapies for treatment of epilepsy have the potential to enable more accurate targeting of the brain, reducing care complications and recovery times.

Business Development and Licensing

The Company is actively engaged in business development and licensing initiatives with specialty and global pharmaceutical companies. The Company may also seek to enter into agreements with other third-party entities for research, development, and commercialization of other types of technologies or products. The goal of these efforts is to diversify and add value to the Company’s assets. From time to time, the Company may be party to various indications of interest and term sheets and participate in preliminary discussions and negotiations regarding potential licensing or partnership arrangements. It remains the Company’s primary objective to complete licensing deals, territorial and/or global, to provide access to non-dilutive capital to advance clinical assets forward in the most expeditious and cost-effective manner. The Company can make no assurance that partnerships will occur, but is committed toward executing on these potential alliance and partnership opportunities.

In July 2019, the Company entered into a license agreement with Alfasigma S.p.A. (“Alfasigma”), granting Alfasigma the worldwide right to develop, manufacture and commercialize rectally administered Brilacidin for ulcerative proctitis/ulcerative proctosigmoiditis (“UP/UPS”). The license agreement provides Alfasigma with a right of first refusal for Brilacidin for the treatment of more extensive forms of inflammatory bowel disease (IBD), such as ulcerative colitis and Crohn’s disease, as well as a right of first negotiation for Brilacidin in other gastrointestinal indications. Phase 1 studies in healthy volunteers using Brilacidin in a proprietary Alfasigma formulation have successfully completed. In late September 2022, Alfasigma notified the Company that a revised clinical development plan for UP/UPS, incorporating regulatory authority feedback, is being enacted. Alteration to treatment duration requires further preclinical research, and the Company has been advised by Alfasigma that a Phase 2 multinational clinical trial conduct is estimated to start in 2H2023. Brilacidin drug substance is manufactured under direction of the Company as part of the licensing agreement with Alfasigma. The Company is eligible to receive $24 million in upfront and milestone payments, and a 6 percent royalty (net sales) upon the successful marketing of Brilacidin for UP/UPS. There can be no assurance that Alfasigma will meet their estimated timeline.

The Company and Fox Chase Chemical Diversity Center, Inc. (“FCCDC”) have a collaborative research agreement related to an antifungal drug discovery program.  In exchange for a six percent fee tied to all potential future proceeds, the Company granted FCCDC all discovery, intellectual property and commercialization rights related to its share of this joint antifungal drug program which is for a compound other than Brilacidin.

Development Programs

We have no product sales to date and we will not receive any product revenue until we receive approval from the FDA or equivalent foreign regulatory agencies to begin marketing a pharmaceutical product. Milestone payments from our licensee are also dependent on clinical/regulatory milestones. We are actively engaged in business development for partnering Brilacidin. Developing pharmaceutical products, however, is a lengthy and very expensive process and there can be no assurance that we will complete such development or commercialize such pharmaceutical products for several years, if ever. Advancement of our Brilacidin clinical programs is dependent on securing sufficient working capital.

The Company devotes most of its efforts and resources on Brilacidin. We expect to concentrate on product development and engage in a limited way in product discovery, avoiding the significant investment of time and financial resources that is generally required for a promising compound to be identified and brought into clinical trials.

Set forth below is an overview of our most recent research and development efforts on Brilacidin through the date of this Quarterly Report on Form 10-Q:

Brilacidin

COVID-19 (SARS-CoV-2), Additional Viruses

In December 2020, the U.S. Food and Drug Administrations (FDA) approved the Company’s Investigational New Drug (IND) application to proceed with initiation of a randomized, placebo-controlled Phase 2 clinical trial (NCT04784897) of Brilacidin in moderate-to-severe hospitalized patients with COVID-19. Similar regulatory approval was obtained from the Russian Ministry of Health. This Phase 2 clinical trial of intravenously-administered Brilacidin (3- and 5-day dosing) for COVID-19 conducted at sites in the United States and Russia has since completed (n=120). While the trial’s primary endpoint of time to sustained recovery through Day 29 was not met, patients who started study treatment within fewer than 7 days of onset of COVID-19 symptoms achieved sustained recovery more quickly (Brilacidin 5-dose group versus pooled placebo, p=0.03). Other beneficial treatment effects based on the trial’s primary endpoint of sustained recovery were also observed in subgroups of patients with the highest (upper quartile) baseline values for key COVID-19 biomarkers. On two secondary endpoints, more patients treated with Brilacidin (5-dose group) achieved clinical improvement by 10 days as measured by National Emergency Warning Score 2 (NEWS2) criteria, and the mean change from baseline in NEWS2 was greater for Brilacidin treatment groups at all assessment timepoints. Additionally, under compassionate use of Brilacidin in critical cases of COVID-19, where Brilacidin was administered more frequently and over a longer duration than in the Phase 2 trial, investigators reported positive changes to subject status. Pursing a biomarker-driven approach, increasing Brilacidin dosing, targeting different patient populations, testing Brilacidin in combination with other drugs (e.g., remdesivir, given synergistic in vitro data) -- all are areas under consideration for potential future Brilacidin COVID-19 clinical trials pending obtaining government, partnership-based or other financial support. Antiviral data on Brilacidin in non-SARS-CoV-2 viruses has been generated and presented at scientific conferences. Results from the Brilacidin COVID-19 clinical trial, as well as findings from in vitro testing of Brilacidin in multiple viruses, are being prepared for publication.

IBD, Ulcerative Proctitis/Proctosigmoiditis (UP/UPS) study - A Phase 2a trial has previously been completed by the Company, comprised of three sequential cohorts, with progressive dose escalation by cohort: cohort A (6 patients) - 50 mg, cohort B (6 patients) - 100 mg, and cohort C (5 patients) - 200 mg, respectively. Treatment with Brilacidin by daily enema administration was performed for 42 days. The primary efficacy endpoint of clinical remission (accounting for stool frequency, rectal bleeding and endoscopy findings subscores) was met by the majority of patients across the cohorts. Brilacidin was generally well-tolerated. Patient quality of life (as assessed by the short inflammatory bowel disease questionnaire, or SIBDQ) showed notable improvements. Limited systemic exposure to Brilacidin was demonstrated as measured by plasma Brilacidin concentrations. In July 2019, the Company entered into a license agreement with Alfasigma, granting Alfasigma the worldwide right to develop, manufacture and commercialize rectally administered Brilacidin for UP/UPS. Phase 1 studies in healthy volunteers using Brilacidin in a proprietary Alfasigma formulation have successfully completed, and Alfasigma notified the Company in late September 2022 that a Phase 2 multinational clinical trial is estimated to start in 2H2023. There can be no assurance that Alfasigma will meet their estimated timeline.

IBD, Ulcerative Colitis (UC) - Brilacidin has also been developed as a treatment in more extensive forms of IBD. Development of a delayed release oral formulation has been in progress, with development work expanding into immediate release formulations due to unexpected findings encountered. Such findings appear due to the inherent physiochemical properties of the compound, and those of polymers used to achieve delayed release. An immediate release, multi-particulate, capsule formulation has been developed, although further work has since been halted due to instability of that formulation being identified. Hence, further advancement in the indication of ulcerative colitis requires conduct of additional formulation development work prior to Phase 1 testing of that oral formulation. Completion of formulation/analytical development work, clinical trial supply manufacturing, and subsequent progression into clinical trials, are pending securing sufficient drug supply and working capital.

Oral Mucositis (OM) study - In a randomized, double-blind Phase 2 study of Brilacidin for the prevention and control of OM in patients receiving chemoradiation for treatment of Head and Neck Cancer (HNC), Brilacidin (administered three times daily as an oral rinse) markedly reduced the rate of severe OM (WHO Grade ≥ 3), delayed onset of severe OM and decreased duration of severe OM. The Company and the FDA have completed an End-of-Phase 2 meeting concerning the continuing development of Brilacidin oral rinse to decrease the incidence of severe OM in HNC patients receiving chemoradiation. Both parties agreed to an acceptable Brilacidin Phase 3 development pathway, including studying Brilacidin oral rinse effects on severe OM when cisplatin, the preferred chemotherapy regimen in HNC care, is administered in higher concentrations (80-100 mg/m2) every 21 days, and at lower concentrations (30-40 mg/m2) administered weekly as part of the chemoradiation regimen.

An optimized oral rinse formulation has been developed, and ongoing stability testing is anticipated to be completed by January, 2023. Further advancement in the indication of oral mucositis requires additional drug formulation/analytical work, followed by clinical trial supply manufacturing prior to progressing to Phase 3 clinical trials. Given the low price per share of our common stock and the many multiple million dollar costs associated with a Phase 3 program, at this time clinical trial supply manufacturing and Phase 3 clinical trial conduct are delayed, with such activities pending securing sufficient working capital and/or partnership.

ABSSSI - In February 2016, the Company submitted a Special Protocol Assessment (SPA) request, along with a final protocol, to the FDA, for a Phase 3 clinical trial of Brilacidin for the treatment of Acute Bacterial Skin and Skin Structure Infection (ABSSSI) caused by gram-positive bacteria, including methicillin-resistant Staphylococcus aureus (MRSA). We received from the FDA comments and considerations for incorporation into our study design. Management decided to delay its response to the FDA due to the low price per share of our common stock and the many multiple million dollar costs associated with a Phase 3 program. Our strategy, for now, is to achieve success with other trials and attract partnering opportunities that may provide significant upfront payments and milestone payments, which can then be used to fund the ABSSSI program. We see ABSSSI as the appropriate gateway indication in infectious diseases, enabling potential further studies of Brilacidin’s use for implant coating and biofilm infections.

Antifungal - Recent data generated from independent researchers suggest Brilacidin has potential to be developed as a novel antifungal agent. Brilacidin converted caspofungin from a fungistatic into a fungicidal drug, enabling it to overcome both drug resistance and biofilm formation. Brilacidin exerted, to a lesser degree, synergistic effects with voriconazole in A. fumigatus. Further in vitro testing showed Brilacidin synergized with caspofungin in C. albicans, C. auris and C. neoformans. In an A. fumigatus immunosuppressed mouse model in invasive pulmonary aspergillosis, Brilacidin plus caspofungin cleared infection in the lungs by almost 95 percent, compared to ~50 percent when each compound was administered individually. Brilacidin also showed in vitro an additive inhibitory effect when combined with posaconazole in several species of Mucorales, the main etiological agents of mucormycosis, commonly referred to as black fungus. Brilacidin further showed potent in vitro stand-alone efficacy in C. neoformans, a major driver of illness in people living with HIV/AIDS.

Expenditures on Brilacidin were $0.6 million and $1.3 million during the quarters ended September 30, 2022 and 2021, respectively. 

We have no product sales to date and we will not receive any product revenue until we receive approval from the FDA or equivalent foreign regulatory agencies to begin marketing a pharmaceutical product. Developing pharmaceutical products, however, is a lengthy and very expensive process and there can be no assurance that we will complete such development or commercialize such for several years, if ever.

Management’s Plan of Operation

The Company historically devoted most of its efforts and resources on drug development, regulatory matters, and clinical trials. Presently, the Company does not have sufficient financial resources to advance our drug candidates meaningfully. Contingent upon sufficient funding, we anticipate that our efforts would primarily focus on advancement of our drug candidate Brilacidin for decreasing the incidence of severe oral mucositis as a complication of chemoradiation in Oral Mucositis. The antiviral and antifungal properties of Brilacidin also present potential clinical development opportunities going forward should sufficient funding be obtained via grants and/or pharmaceutical company partnerships. In general, we expect to concentrate on product development and engage in a limited way in product discovery, avoiding the significant investment of time and financial resources that is generally required for a promising compound to be identified and brought into clinical trials.

In the ordinary course of business, we engage in a continual review of opportunities to license our drug compound(s)/ indications and enter into partnering, joint development or similar arrangements with other companies. We may generally at any time have such opportunities in various stages of active review, including, for example, entry into indications of interest and term sheets and participation in preliminary discussions and negotiations. Any such transaction could be material to us.

The Company is monitoring BTL’s progress in advancing its novel laser-based thermal ablation technology platform targeting epilepsy and oncology procedures. BTL will use the FDA 510(k) pathway to achieve its goal of marketing approval in the United States. BTL recently received certification of ISO13485 for their new facility. ISO 13485 is the medical industry's medical device standard, which is designed to ensure that all medical devices meet the proper regulatory compliance laws and customer needs.

Critical Accounting Policies and Estimates

Management’s discussion and analysis of financial condition and results of operations are based upon our accompanying financial statements, which have been prepared in conformity with U.S. generally accepted accounting principles, or U.S. GAAP, and which requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses, and related disclosure of contingent assets and liabilities. Note 3. Significant Accounting Policies and Recent Accounting Pronouncements, to the financial statements, describes the significant accounting policies and methods used in the preparation of the Company’s financial statements. We base our estimates on historical experience and on various other assumptions that we believe are reasonable under the circumstances. These estimates are the basis for our judgments about the carrying values of assets and liabilities, which in turn may impact our reported revenue and expenses. Our actual results could differ significantly from these estimates under different assumptions or conditions.

Recently Issued Accounting Pronouncements

See Note 3. Significant Accounting Policies and Recent Accounting Pronouncements to the condensed consolidated financial statements, for a discussion of recent accounting pronouncements and their effect, if any, on our financial statements.

Results of Operations

We expect to incur losses from operations for the next few years. Contingent upon sufficient funding, we expect to incur increasing research and development expenses, including expenses related to additional clinical trials for our proprietary programs. We currently anticipate that future budget expenditures will be approximately $2.1 million for the next 12 months, including approximately $0.9 million for development activities, supportive research, and drug manufacturing. However, continuing operations for the next 12 months from the date of this filing is very much dependent upon our ability to raise capital from existing or new financing sources. There can be no assurance as to the availability or terms upon which such financing and capital might be available.

For the three months ended September 30, 2022 and 2021

Revenue

We generated no revenue and incurred operating expenses of approximately $1.4 million and $2.0 million for the three months ended September 30, 2022 and 2021, respectively.

Research and Development Expenses for Proprietary Programs

Below is a summary of our research and development expenses for our proprietary programs by categories of costs (rounded to nearest thousand):

Research and development expenses for proprietary programs decreased during the three months ended September 30, 2022 compared with the three months ended September 30, 2021, primarily due to less spending on our Brilacidin program for the three months ended September 30, 2022.

Employees payroll and payroll tax expenses decreased during the three months ended September 30, 2022 compared with the three months ended September 30, 2021, due to more payroll made to an employee during the three months ended September 30, 2021.

Stock-based compensation for employees increased during the three months ended September 30, 2022 due to one new issuance of 500,000 stock options to purchase shares of Company’s common stock to the Company’s Senior Vice President, Clinical Sciences and Portfolio Management in October, 2021, therefore, more stock-based compensation - employee was incurred during the three months ended September 30, 2022 compared with the three months ended September 30, 2021.

Stock-based compensation - consultants decreased during the three months ended September 30, 2022 due to less options being issued to consultants during the three months ended September 30, 2022 compared with the three months ended September 30, 2021.

Our research and development expenses include costs related to preclinical and clinical trials, outsourced services and consulting, officers’ payroll and related payroll tax expenses, other wages and related payroll tax expenses, stock-based compensation, depreciation and amortization expenses. Clinical studies and development expenses may decrease in future reporting periods depending on the Company’s current and future financial liquidity. We manage our proprietary programs based on scientific data and achievement of research plan goals. Accordingly, the accurate assignment of time and costs to a specific project is difficult and may not give a true indication of the actual costs of a particular project. As a result, we do not report costs on an individual program basis.

General and Administrative Expenses

General and administrative expenses consist mainly of compensation and associated fringe benefits not included in the cost of research and development expenses for proprietary programs and include other management, business development, accounting, information technology and administration costs, including patent filing and prosecution, recruiting, consulting and professional services, travel and meals, sales commissions, facilities, depreciation and other office expenses.

Below is a summary of our general and administrative expenses (rounded to nearest thousand):