Rafael Holdings, Inc. - Quarter Report: 2019 October (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE QUARTERLY PERIOD ENDED OCTOBER 31, 2019

or

☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number: 000-55863

RAFAEL HOLDINGS, INC.

(Exact Name of Registrant as Specified in its Charter)

(212) 658-1450

(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:

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 and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted 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 and post such files). Yes ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, 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 the registrant’s common stock as of December 6, 2019 was:

RAFAEL HOLDINGS, INC.

TABLE OF CONTENTS

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

RAFAEL HOLDINGS, INC.

CONSOLIDATED BALANCE SHEETS

(unaudited, in thousands, except share data)

See accompanying notes to consolidated financial statements.

RAFAEL HOLDINGS, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS

(unaudited, in thousands, except share data)

See accompanying notes to consolidated financial statements.

RAFAEL HOLDINGS, INC.

CONSOLIDATED STATEMENTS OF EQUITY

(unaudited, in thousands, except share data)

See accompanying notes to consolidated financial statements.

RAFAEL HOLDINGS, INC.

 CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited, in thousands, except share data)

See accompanying notes to consolidated financial statements.

RAFAEL HOLDINGS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 1 — DESCRIPTION OF BUSINESS

Rafael Holdings, Inc. (“Rafael Holdings” or the “Company”), a Delaware corporation, owns interests in commercial real estate assets and clinical stage pharmaceutical companies. The assets are operated as two separate lines of business.

The commercial real estate holdings consist of a building at 520 Broad Street in Newark, New Jersey that serves as headquarters for the Company and certain affiliated entities and an associated 800-car public garage, an office/data center building in Piscataway, New Jersey and a portion of a building in Israel.

The pharmaceutical holdings include preferred equity interests and a warrant to purchase additional equity interests in Rafael Pharmaceuticals, Inc., or Rafael Pharmaceuticals, which is a clinical stage, oncology-focused, pharmaceutical company committed to the development and commercialization of therapies that exploit the metabolic differences between normal cells and cancer cells, and a majority equity interest in LipoMedix Pharmaceuticals Ltd., or LipoMedix, a clinical stage oncological pharmaceutical company based in Israel. In addition, we have recently established the Barer Institute (“Barer”), a wholly-owned early stage venture focused on developing a pipeline of therapeutic compounds, including compounds to regulate cancer metabolism. The venture is pursuing collaborative research agreements with leading scientists from top academic institutions.

On March 26, 2018, IDT Corporation, or IDT, the former parent corporation of the Company, completed a tax-free spinoff (the “Spin-Off”) of the Company’s capital stock, through a pro rata distribution of common stock to its stockholders of record as of the close of business on March 13, 2018.

The “Company” in these financial statements refers to Rafael Holdings on a consolidated basis from the date of the Spin-Off. All significant intercompany accounts and transactions have been eliminated in consolidation.

All majority-owned subsidiaries are consolidated with all intercompany transactions and balances being eliminated in consolidation. The entities included in these financial statements are as follows:

NOTE 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

The accompanying unaudited consolidated financial statements of the Company and its subsidiaries have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. In the opinion of management, all adjustments, which include only normal recurring adjustments, considered necessary for a fair presentation have been included.

The Company’s fiscal year ends on July 31 of each calendar year. Each reference below to a fiscal year refers to the fiscal year ending in the calendar year indicated (e.g., fiscal 2020 refers to the fiscal year ending July 31, 2020).

Operating results for the three months ended October 31, 2019 are not necessarily indicative of the results that may be expected for the fiscal year ending July 31, 2020. The balance sheet at July 31, 2019 has been derived from the Company’s audited consolidated financial statements at that date but does not include all of the information and footnotes required by U.S. GAAP for complete financial statements. Therefore, these financial statements should be read in conjunction with the Company’s audited financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended July 31, 2019, or the 2019 Form 10-K, as filed with the U.S. Securities and Exchange Commission (“SEC”).

Use of Estimates

The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results may differ from those estimates.

Revenue Recognition

In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update, (“ASU”) 2014-09, Revenue from Contracts with Customers (Topic 606) or ASU 2014-09. The objective of the ASU is to establish a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers, which supersedes most of the existing revenue recognition guidance, including industry-specific guidance. The core principle is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. In applying the ASU, companies will perform a five-step analysis of transactions to determine when and how revenue is recognized. The five-step analysis consists of the following: (i) identifying the contract with a customer, (ii) identifying the performance obligations in the contract, (iii) determining the transaction price, (iv) allocating the transaction price to the performance obligations in the contract and (v) recognizing revenue when (or as) the entity satisfies a performance obligation. ASU 2014-09 applies to all contracts with customers except those that are within the scope of other topics in the FASB’s Accounting Standards Codification (“ASC”). The Company adopted ASU 2014-09 effective August 1, 2018 using the modified retrospective approach. The Company reviewed all contracts that were not completed as of August 1, 2018 and the adoption did not have a material impact on the Company’s consolidated financial statements.

The Company disaggregates its revenue by source within its consolidated statements of operations. As an owner and operator of real estate, the Company derives the majority of its revenue from leasing office and parking space to tenants at its properties. In addition, the Company earns revenue from recoveries from tenants, consisting of amounts due from tenants for common area maintenance, real estate taxes and other recoverable costs. Revenue from recoveries from tenants is recorded together with rental income on the consolidated statements of operations which is also consistent with the guidance under ASC 842, Leases.

Contractual rental revenue is reported on a straight-line basis over the terms of the respective leases. Accrued rental income, included within Other Assets on the consolidated balance sheets, represents cumulative rental income earned in excess of rent payments received pursuant to the terms of the individual lease agreements. The Company maintains an allowance for doubtful accounts for estimated losses resulting from the inability of tenants to make required rent payments or parking customers to pay amounts due.

The Company also earns revenue from parking which is derived primarily from monthly and transient daily parking. The monthly and transient daily parking revenue falls within the scope of ASC 606 and is accounted for at the point in time when control of the goods or services transfers to the customer and the Company’s performance obligation is satisfied, consistent with the Company’s previous accounting.

Recently Issued Accounting Pronouncements Not Yet Adopted

In June 2016, the FASB issued ASU 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, that changes the impairment model for most financial assets and certain other instruments. For receivables, loans and other instruments, entities will be required to use a new forward-looking “expected loss” model that generally will result in the earlier recognition of allowance for losses. For available-for-sale debt securities with unrealized losses, entities will measure credit losses in a manner similar to current practice, except the losses will be recognized as allowances instead of reductions in the amortized cost of the securities. In addition, an entity will have to disclose significantly more information about allowances, credit quality indicators and past due securities. The new standard is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years and will be applied as a cumulative-effect adjustment to retained earnings. The Company is currently evaluating the impact of the pending adoption of the new standard on its consolidated financial statements and intends to adopt the standard on August 1, 2023.

Recently Adopted Accounting Pronouncements

The FASB issued Accounting Standards Update, (“ASU”) 2016-02, Leases (Topic 842) in February 2016. The new standard, as amended by subsequent accounting updates thereto, replaces historical lease accounting guidance and requires lessees to account for a lease by recognizing right-of-use (ROU) asset and corresponding lease liability on the balance sheet. Lessor accounting under Topic 842 is largely unchanged from historical U.S. GAAP and generally aligns with accounting for revenue from contracts with customers (Topic 606).

The Company initially adopted the new lease accounting standard as of August 1, 2019 and elected the optional transition method to apply the new standard prospectively. The Company elected the package of transition practical expedients, and therefore did not reassess: (1) whether any expired or existing contracts are or contain leases; (2) lease classification for any expired or existing leases; and (3) initial direct costs for any existing leases. Further, as of October 31, 2019 the Company was not a lessee under any leasing arrangements. which had, and will have, the following impacts on the Company:

Topic 842 changed certain requirements regarding the classification of leases that could result in the Company recognizing certain long-term leases entered into or modified after August 1, 2019 as sales-type leases, as opposed to operating leases.

The Company did not have a cumulative-effect adjustment as of the adoption date.

The Company elected the practical expedient to not separate certain non-lease components from the lease component to which they relate because the timing and pattern of transfer for the lease components and non-lease components are the same and the related lease component is classified as an operating lease. As a result, the Company continues to present all rentals and reimbursements from tenants as a single line item Rental Income within the Consolidated Statement of Income. No reclassifications to prior periods for comparability were required.

NOTE 3 – INVESTMENT IN RAFAEL PHARMACEUTICALS

Rafael Pharmaceuticals is a clinical stage, oncology-focused pharmaceutical company committed to the development and commercialization of therapies that exploit the metabolic differences between normal cells and cancer cells.

The Company owns interests/rights in Rafael Pharmaceutical through a 90%-owned non-operating subsidiary, Pharma Holdings, LLC, or Pharma Holdings.

Pharma Holdings also owns 50% of CS Pharma Holdings, LLC (“CS Pharma”), a non-operating entity. Accordingly, the Company holds an effective 45% indirect interest in the assets held by CS Pharma.

Howard Jonas, Chairman of the Board and Chief Executive Officer of the Company, and Chairman of the Board of Rafael Pharmaceuticals owns 10% of Pharma Holdings.

Pharma Holdings holds 36.7 million shares of Rafael Pharmaceuticals Series D Convertible Preferred Stock and a warrant to increase ownership to up to 56% of the fully diluted equity interests in Rafael Pharmaceuticals (the “Warrant”). The Warrant is exercisable at the lower of 70% of the price sold in an equity financing, or $1.25 per share, subject to certain adjustments, and will expire upon the earlier of December 31, 2020, a qualified initial public offering, or liquidation event of Rafael Pharmaceuticals.

Pharma Holdings also holds certain governance rights in Rafael Pharmaceuticals including appointment of directors.

CS Pharma holds 16.7 million shares of Rafael Pharmaceuticals Series D Convertible Preferred Stock. CS Pharma owned a $10 million Series D Convertible Note, with 3.5% interest, in Rafael Pharmaceuticals which was converted in January 2019.

The Company and its subsidiaries collectively own securities representing 51% of the outstanding capital stock of Rafael Pharmaceuticals and 38% of the capital stock on a fully diluted basis (excluding the remainder of the Warrant).

The Series D Convertible Preferred Stock has a stated value of $1.25 per share (subject to appropriate adjustment to reflect any stock split, combination, reclassification or reorganization of the Series D Preferred Stock or any dilutive issuances, as described below). Holders of Series D Stock are entitled to receive non-cumulative dividends when, as and if declared by the board of Rafael Pharmaceuticals, prior to any dividends to any other class of capital stock of Rafael Pharmaceuticals. In the event of any liquidation, dissolution or winding up of the Company, or in the event of any deemed liquidation, proceeds from such liquidation, dissolution, winding up shall be distribute first to the holders of Series D Stock. Except with respect to certain major decisions, or as required by law, holders of Series D Stock vote together with the holders of the other preferred stock and common stock and not as a separate class.

The Company serves as the managing member of Pharma Holdings, and Pharma Holdings serves as the managing member of CS Pharma, with broad authority to make all key decisions regarding their respective holdings. Any distributions that are made to CS Pharma from Rafael Pharmaceuticals that are in turn distributed by CS Pharma, will need to be made pro rata to all members, which would entitle IDT-Rafael Holdings to 50% (based on current ownership) of such distributions. Similarly, if Pharma Holdings were to distribute proceeds it receives from CS Pharma, it would do so on a pro rata basis, entitling the Company to 90% (based on current ownership) of such distributions.

The Company evaluated its investments in Rafael Pharmaceuticals in accordance with ASC 323, Investments - Equity Method and Joint Ventures to establish the appropriate accounting treatment for its investment and has concluded that its investment did not meet the criteria for the equity method of accounting or consolidation and is carried at cost.

Rafael Pharmaceuticals is a variable interest entity; however, the Company has determined that it is not the primary beneficiary as it does not have the power to direct the activities of Rafael Pharmaceuticals that most significantly impact Rafael Pharmaceuticals’ economic performance. In addition, the interests held in Rafael Pharmaceuticals are Series D Convertible Preferred Stock and do not represent in-substance common stock.

Howard Jonas has additional contractual rights to receive additional Rafael Pharmaceutical shares (“Bonus Shares”) for an additional 10% of the fully diluted capital stock of Rafael Pharmaceuticals upon the achievement of certain milestones. The additional 10% shares is based on the fully diluted capital stock of Rafael Pharmaceuticals, excluding the remainder for the Warrant, at the time of issuance. If any of the milestones are met, the Bonus Shares are to be issued without any additional payment. Howard Jonas has the right to transfer the Bonus Shares, in his discretion, to others, including those who are instrumental to the future success of Rafael Pharmaceuticals.

NOTE 4 — INVESTMENT IN LIPOMEDIX

LipoMedix is a development-stage, privately held Israeli company focused on the development of an innovative, safe and effective cancer therapy based on liposome delivery.

The Company holds 52.1% of the issued and outstanding ordinary shares of LipoMedix and has consolidated this investment from the second quarter of fiscal 2018.

In July 2018, the Company provided no-interest bridge financing of $875,000 to LipoMedix (the “2018 Bridge Note”). The 2018 Bridge Note is convertible into shares of LipoMedix as follows: (i) upon an issuance of an aggregate $2.0 million of additional equity securities (excluding the conversion of the 2018 Bridge Note) (the “Financing”), the 2018 Bridge Note amount shall be converted into shares of LipoMedix of the same class and series with the same rights, preferences and privileges as shall be issued in the Financing at a conversion price per share equal to 75% or the lowest price per share paid by the investor(s) in the Financing; (ii) upon a Distribution Event (as defined in the Founder’s Agreement among LipoMedix and certain of its founders), the 2018 Bridge Note shall be converted into shares of the most senior class of shares of LipoMedix then issued, at a conversion price per share that is equal to 75% of the per share distribution received by LipoMedix equity holders in connection with the Distribution Event, or the Company shall be entitled to receive a redemption payment equal to the 2018 Bridge Note ($875,000); (iii) if neither a Financing nor Distribution Event occurs prior to January 6, 2020 (18 months following the effective date of the 2018 Bridge Note), the 2018 Bridge Note will be converted into the most senior class of shares LipoMedix has then issued at a conversion price per share equal to $0.53 (calculated on the basis of LipoMedix’s pre-money valuation of $5.0 million, divided by its fully diluted share capital as of July 6, 2018).

In April 2019, the Company provided no-interest bridge financing of $250,000 to LipoMedix (the “2019 Bridge Note”). The 2019 Bridge Note converted into 471,698 shares of LipoMedix on September 28, 2019 increasing the Company’s ownership from 50.6% to 52.1%.

In November 2019, the Company provided bridge financing in the principal amount of $100,000 to LipoMedix with a maturity date of May 3, 2020. Under the terms of the note, as long as it remains outstanding, LipoMedix may not incur any additional debt, make any shareholder distributions, or assume any liens on property or assets.

NOTE 5 — FAIR VALUE MEASURMENTS

The Fair Value Measurements and Disclosures topic of the FASB ASC requires disclosures about how fair value is determined for assets and liabilities and a hierarchy for which these assets and liabilities must be grouped is established, based on significant levels of inputs as follows:

Level 1 – quoted prices in active markets for identical assets or liabilities;

Level 2 – quoted prices in active markets for similar assets and liabilities and inputs that are observable for the asset or liability;

Level 3 – unobservable inputs for the asset or liability, such as discounted cash flow models or valuations.

The determination of where assets and liabilities fall within this hierarchy is based upon the lowest level of input that is significant to the fair value measurement.

The following is a listing of the Company’s assets required to be measured at fair value on a recurring basis and where they are classified within the fair value hierarchy as of October 31, 2019 and July 31, 2019:

At October 31, 2019 and July 31, 2019, the Company did not have any liabilities measured at fair value on a recurring basis.

The following table summarizes the change in the balance of the Company’s assets measured at fair value on a recurring basis using significant unobservable inputs (Level 3).

Prior to the Spin-Off, IDT contributed a $2.0 million investment in securities of another entity that are not liquid, which were included in Investments – Other Pharmaceuticals in the accompanying consolidated balance sheets. The investment is accounted for using the cost method; therefore, this investment is not measured at fair value.

Fair Value of Other Financial Instruments

The estimated fair value of the Company’s other financial instruments was determined using available market information or other appropriate valuation methodologies. However, considerable judgment is required in interpreting these data to develop estimates of fair value. Consequently, the estimates are not necessarily indicative of the amounts that could be realized or would be paid in a current market exchange.

Cash and cash equivalents, prepaid expenses and other current assets, and other current liabilities. At October 31, 2019 and July 31, 2019, the carrying amount of these assets and liabilities approximated fair value because of the immediate or short period of time to maturity. The fair value estimates for cash and cash equivalents were classified as Level 1 and other current assets, and other current liabilities were classified as Level 2 of the fair value hierarchy.

Other assets and other liabilities. At October 31, 2019 and July 31, 2019, the carrying amount of these assets and liabilities approximated fair value. The fair values were estimated based on the Company’s assumptions, which were classified as Level 3 of the fair value hierarchy.

The Company’s financial instruments include trade accounts receivable, trade accounts payable, and due from related parties. The recorded carrying amount of trade accounts receivable, trade accounts payable and due from related parties approximate their fair value due to their short-term nature. Other than noted above, the Company did not have any other assets or liabilities that were measured at fair value on a recurring basis as of October 31, 2019 or July 31, 2019.

NOTE 6 — TRADE ACCOUNTS RECEIVABLE

Trade Accounts Receivable consisted of the following:

The current portion of deferred rental income included in Prepaid Expenses and Other Current Assets was approximately $20,000 and $34,000 as of October 31, 2019 and July 31, 2019, respectively.

The noncurrent portion of deferred rental income included in Other Assets was approximately $1.4 million as of October 31, 2019 and July 31, 2019.

NOTE 7 — PROPERTY AND EQUIPMENT

Property and equipment consisted of the following:

Other property and equipment consists of furniture and fixtures, office and other equipment and miscellaneous computer hardware.

Depreciation and amortization expense pertaining to property and equipment was approximately $466,000 and $429,000 for the three months ended October 31, 2019 and 2018, respectively.

The Company’s headquarters are located at 520 Broad Street in Newark where it occupies a small office space in the building.

NOTE 8 — LOSS PER SHARE

Basic net loss per share is computed by dividing net loss attributable to all classes of common stockholders of the Company by the weighted average number of shares of all classes of common stock outstanding during the applicable period. Diluted loss per share includes potentially dilutive securities such as stock options and other convertible instruments.

The following table summarizes the Company’s potentially dilutive securities which have been excluded from the calculation of dilutive loss per share as their effect would be anti-dilutive:

In the three months ended October 31, 2019 and 2018, the diluted loss per share computation equals basic loss per share because the Company had a net loss and the impact of the assumed exercise of stock options and conversion of the convertible note (for 2019) would have been anti-dilutive.

NOTE 9 — RELATED PARTY TRANSACTIONS

The Company has historically maintained an intercompany balance due to/from related parties that relates to cash advances for investments, loan repayments, charges for services provided to the Company by IDT and payroll costs for the Company’s personnel that were paid by IDT. This is partially offset by rental income paid to the Company by various companies under common control to IDT. The Company recorded expense of approximately $85,000 in related party services to IDT, of which approximately $28,000 is included in due to related parties at October 31, 2019.

The Company provides Rafael Pharmaceuticals with administrative, finance, accounting, tax and legal services. Howard S. Jonas serves as a Chairman of the Board of Rafael Pharmaceuticals and owns an equity interest in Rafael Pharmaceuticals. The Company billed Rafael Pharmaceuticals $120,000 during the first quarter of fiscal 2020. As of October 31, 2019, Rafael Pharmaceuticals owed the Company $120,000 included in due from Rafael Pharmaceuticals.

On November 15, 2018, Howard Jonas entered into an agreement to purchase a convertible note from the Company for $15.0 million convertible into shares of Class B common stock at $8.47 per share. The term of the note was three years with interest on the principal amount at a rate of 6% per annum, compounded quarterly. At issuance, the Company recorded a debt discount of approximately $70,000 related to the beneficial conversion feature of the note and amortized approximately $16,000 of the discount in fiscal 2019 which was recorded as interest expense. In addition, the Company recorded approximately $650,000 of interest expense for the year ended July 31, 2019. In August 2019, the note including accrued interest of approximately $667,000, was converted into 1,849,749 shares of common stock.

The Company leases space to related parties which represented approximately 43% and 46% of the Company’s total revenue for the quarters ended October 31, 2019 and 2018, respectively. See Note 14 for future minimum rent payments from related parties and other tenants.

NOTE 10 — INCOME TAXES

On December 22, 2017, the U.S. government enacted “An Act to Provide for Reconciliation Pursuant to Titles II and V of the Concurrent Resolution on the Budget for Fiscal Year 2018”, which is commonly referred to as “The Tax Cuts and Jobs Act” (the “Tax Act”). The Tax Act provides for comprehensive tax legislation that, among other things, reduces the U.S. federal statutory corporate tax rate from 35.0% to 21.0% effective January 1, 2018, broadens the U.S. federal income tax base, requires companies to pay a one-time repatriation tax on earnings of certain foreign subsidiaries that were previously tax deferred (“transition tax”), and creates new taxes on certain foreign sourced earnings.

The Company has completed its accounting for the income tax effects of the enactment of the Tax Act. At July 31, 2019, the Company did not have any undistributed earnings of its foreign subsidiaries. As a result, no additional income or withholding taxes were provided for, for the undistributed earnings or any additional outside basis differences inherent in the foreign entities. The Company reviewed the global intangible low taxed income (“GILTI”) and base erosion anti-abuse tax (“BEAT) that became effective August 1, 2018 and has not recorded any impact associated with either.

At July 31, 2019, the Company had federal net operating loss (“NOL”) carryforwards from domestic operations of approximately $22.3 million, to offset future taxable income. The Company has state NOLs of $3.2 million. The Company has NOL carryforwards from foreign operations of $1.2 million. As part of the Tax Act, federal NOLs generated in 2018 and later are not subject to an expiration period and are available to offset 80% of taxable income in the year in which they are utilized. The federal NOL carryforwards generated prior to 2018 will begin to expire in 2026. The state NOLs will begin to expire in 2038 and foreign NOLs do not expire.

The Company anticipates that its assumptions and estimates may change as a result of future guidance and interpretation from the Internal Revenue Service, the FASB, and various other taxing jurisdictions. In particular, the Company anticipates that the U.S. state jurisdictions will continue to determine and announce their conformity with or decoupling from the Tax Act, either in its entirety or with respect to specific provisions. Legislative and interpretive actions could result in adjustments to the Company’s provisional estimates when the accounting for the income tax effects of the Tax Act is completed.

NOTE 11 — BUSINESS SEGMENT INFORMATION

The Company conducts business as two operating segments, Real Estate and Pharmaceuticals. The Company’s reportable segments are distinguished by types of service, customers and methods used to provide their services. The operating results of these business segments are regularly reviewed by the Company’s chief operating decision maker.

The Real Estate segment consists of the Company’s real estate holdings, including a building at 520 Broad Street in Newark, New Jersey that houses the Company and certain affiliates and its associated public garage, an office/data center building in Piscataway, New Jersey and a portion of an office building in Israel.

The Pharmaceuticals segment is comprised of debt interests and the Warrant to purchase equity interests in Rafael Pharmaceuticals, a majority equity interest in LipoMedix and Barer. To date, the Pharmaceuticals segment has not generated any revenues.

The accounting policies of the segments are the same as the accounting policies of the Company as a whole. The Company evaluates the performance of its Pharmaceuticals segment based primarily on research and development efforts and results of clinical trials and the Real Estate segment based primarily on loss from operations. All investments in Rafael Pharmaceuticals and assets and expenses associated with LipoMedix and Barer are tracked separately in the Pharmaceuticals segment. All corporate costs are allocated to the Real Estate segment.

Operating results for the business segments of the Company are as follows:

Geographic Information

Revenues from tenants located outside of the United States were generated entirely from related parties located in Israel. Revenues from these non-United States customers as a percentage of total revenues were as follows (revenues by country are determined based on the location of the related facility):

Net long-lived assets and total assets held outside of the United States, which are located in Israel, were as follows:

NOTE 12 — COMMITMENTS AND CONTINGENCIES

Legal Proceedings

Under a Founders Agreement among LipoMedix and other parties, two of LipoMedix founders would become entitled to consulting payments in the approximate amounts of $385,000 and $358,000, respectively, upon the satisfaction of certain conditions thereto. LipoMedix believes that those conditions have not been satisfied and does not believe that they are likely to be satisfied until LipoMedix is successful in raising significant capital in the future.

On September 17, 2018, LipoMedix was notified of a claim initiated by one of its founders seeking payment of consulting fees in the amount of approximately $377,000 and seeking to place restrictions on LipoMedix’s bank accounts and other assets to protect his claim. LipoMedix did not believe that the individual had the right to receive any payment at the current time. LipoMedix responded to the demand for the placement of restrictions on its assets. On November 26, 2018, the court denied the request by the founder to place restrictions on the assets. In May 2019, LipoMedix received a letter from the other founder requesting payment of his consulting fees. On July 15, 2019, the parties settled the matters and the two founders will be paid a percentage of future investments and certain other proceeds.

On July 12, 2019, the Company received a Citation and Notification of Penalty from the Occupational Safety and Health Administration of the U.S. Department of Labor or OSHA, related to an OSHA inspection of 520 Broad Street, Newark, New Jersey. The citation seeks to impose penalties related to alleged violations of the Occupation Safety and Health Act of 1970 at 520 Broad Street. On July 31, 2019, the Company filed a Notice of Contest with OSHA contesting the citation in its entirety.

For the matters disclosed above a legal accrual for approximately $225,000 has been made for legal fees and losses believed to be both probable and reasonably estimable, but an exposure to loss may exist in excess of the amount accrued.

The Company may from time to time be subject to legal proceedings that may arise in the ordinary course of business. Although there can be no assurance in this regard, the Company does not expect any of those legal proceedings to have a material adverse effect on the Company’s results of operations, cash flows or financial condition.

NOTE 13 — EQUITY

On November 15, 2018, Howard Jonas entered into an agreement to purchase a convertible note from the Company for $15.0 million that was convertible into shares of Class B common stock at $8.47 per share. The term of the note was three years with interest on the principal amount at a rate of 6% per annum, compounded quarterly.

In August 2019, the note including interest of approximately $667,000 was converted into 1,849,749 shares of common stock.

Stock Options 

A summary of stock option activity for the Company is as follows:

During the three months ended October 31, 2019, 259 options were canceled due to employee terminations. At October 31, 2019, there was no unrecognized compensation cost related to non-vested stock options.

Restricted Stock

The fair value of restricted shares of the Company’s Class B common stock is determined based on the closing price of the Company’s Class B common stock on the grant date. Share awards generally vest on a graded basis over three years of service.

A summary of the status of the Company’s grants of restricted shares of Class B common stock is presented below:

At October 31, 2019, there was $1.27 million of total unrecognized compensation cost related to non-vested stock-based compensation arrangements, which is expected to be recognized over the next 3.25 years.

NOTE 14 — FUTURE MINIMUM RENTS 

Certain of the Company’s properties are leased to tenants under net operating leases with initial term expiration dates ranging from 2021 to 2028. The future contractual minimum lease payments to be received (excluding operating expense reimbursements) by the Company as of October 31, 2019, under non-cancelable operating leases which expire on various dates through 2028, are as follows:

The Company has related party leases that expire in April 2025 for (i) an aggregate of 88,631 square feet, which includes two parking spots per thousand square feet of space leased at 520 Broad Street, and (ii) 3,595 square feet in Israel. The annual rent is approximately $2.0 million in the aggregate. The related parties have the right to terminate the domestic leases upon four months’ notice, and upon early termination will pay a termination penalty equal to 25% of the portion of the rent due over the course of the remaining term. A related party has the right to terminate the Israeli lease upon four months’ notice. IDT has the right to lease an additional 50,000 square feet, in 25,000-foot increments, in the building located at 520 Broad Street on the same terms as their base lease, and other rights should 25,000 square feet or less remain available to lessees in the building. Upon expiration of the lease, related parties have the right to renew the leases for another five years.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Overview

Rafael Holdings, Inc. (“Rafael Holdings” or the “Company”), a Delaware corporation, owns interests in commercial real estate assets and clinical stage pharmaceutical companies. The assets are operated as two separate lines of business.

The commercial real estate holdings consist of a building at 520 Broad Street in Newark, New Jersey that serves as headquarters for the Company and certain affiliated entities, and an associated 800-car public garage, an office/data center building in Piscataway, New Jersey and a portion of a building in Israel.

The pharmaceutical holdings include preferred equity interests and the Warrant to purchase additional equity interests in Rafael Pharmaceuticals, Inc., or Rafael Pharmaceuticals, which is a clinical stage, oncology-focused, pharmaceutical company committed to the development and commercialization of therapies that exploit the metabolic differences between normal cells and cancer cells, and a majority equity interest in LipoMedix Pharmaceuticals Ltd., or LipoMedix, a clinical stage oncological pharmaceutical company based in Israel In addition, we have recently established the Barer Institute or Barer, a wholly-owned early stage venture focused on developing a pipeline of therapeutic compounds, including compounds to regulate cancer metabolism.  The venture is pursuing collaborative research agreements with leading scientists from top academic institutions.

Results of Operations

Our business consists of two reportable segments - Real Estate and Pharmaceuticals. We evaluate the performance of our Real Estate segment based primarily on income (loss) from operations and our Pharmaceuticals segment based primarily on research and development efforts and results of clinical trials. Accordingly, the income and expense line items below loss from operations are only included in the discussion of consolidated results of operations.

Three Months Ended October 31, 2019 Compared to Three Months Ended October 31, 2018

Real Estate Segment

Revenues. Revenues increased by approximately $75,000 in the three months ended October 31, 2019 compared to the three months ended October 31, 2018 due to additional third-party tenants in 520 Broad Street whostarted rental payments after the start of fiscal 2019 and management fees billed to Rafael Pharmaceuticals.

Selling, general and administrative expenses. Selling, general and administrative expenses consists mainly of payroll, benefits, facilities and consulting and professional fees. Selling, general and administrative expense increased by approximately $580,000 in the three months ended October 31, 2019 compared to the three months ended October 31, 2018 due primarily to increased payroll in the first quarter of 2020 and increased costs of building maintenance and repairs.

Depreciation and amortization expenses. Depreciation and amortization expenses in the three months ended October 31, 2019 increased due to increased fixed assets in place from building improvements compared to the same period in the prior year.

Pharmaceuticals Segment

To date, the Pharmaceuticals segment has not generated any revenues. The expenses in the Pharmaceuticals segment relate to the activities of LipoMedix and Barer.

Consolidated operations

Our consolidated income and expense line items below loss from operations were as follows:

Interest (expense) income, net. Interest (expense) income, net decreased in the three months ended October 31, 2019 due to a reduction in cash and marketable securities and interest recorded on the convertible note.

Net loss resulting from foreign exchange transactions.  Net loss resulting from foreign exchange transactions is comprised entirely from changes in movements in New Israeli Shekels relative to the U.S. Dollar.

Loss on sales of marketable securities and unrealized loss on investments. The Company liquidated all marketable securities in January 2019 in connection with the partial exercise of the Warrant.

Net Income attributable to Noncontrolling Interests. The change in the net loss attributable to noncontrolling interests was due to the net loss attributable to the noncontrolling interests in LipoMedix.

Liquidity and Capital Resources

General

Prior to the Spin-Off, we satisfied our cash requirements primarily through intercompany debt funding from IDT. In connection with the Spin-Off, IDT transferred assets to Rafael such that, at the time of the Spin-Off, we had approximately $42.7 million in cash and cash equivalents and liquid marketable securities and approximately $3.9 million in interests in hedge funds.

As of October 31, 2019, we had cash and cash equivalents of $10.8 million. We expect our cash from operations in the next twelve months and the balance of cash and cash equivalents and liquid marketable securities that we held as of October 31, 2019 to be sufficient to meet our currently anticipated working capital, research and development, and capital expenditure requirements during the twelve months from the issuance of these consolidated financial statements.

Operating Activities

Our cash flow from operations varies from year to year and quarter to quarter, depending on our operating results and the timing of operating cash receipts and payments, specifically payments of trade accounts payable.

The increase in cash used in operating activities in the three months ended October 31, 2019 as compared to the three months ended October 31, 2018 related to increased operations at the Barer Institute.

Investing Activities

Cash used in investing activities for the three months ended October 31, 2019 related to building improvements made to our real estate holdings.

Financing Activities

There was no cash provided by or used in financing activities for the three months ended October 31, 2019.

We do not anticipate paying dividends on our common stock until we achieve sustainable profitability and retain certain minimum cash reserves. The payment of dividends in any specific period will be at the sole discretion of our Board of Directors.

Critical Accounting Policies and Estimates

We have chosen accounting policies that we believe are appropriate to accurately and fairly report our operating results and financial condition in conformity with accounting principles generally accepted in the United States of America, or U.S. GAAP. We apply these accounting policies in a consistent manner. Our significant accounting policies are discussed in Note 1, “Description of Business and Summary of Significant Accounting Policies,” to our financial statements included in our 2019 Form 10-K.

The application of critical accounting policies requires that we make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosures. These estimates and assumptions are based on historical and other factors believed to be reasonable under the circumstances. We evaluate these estimates and assumptions on an ongoing basis and may retain outside consultants to assist in our evaluation. If actual results ultimately differ from previous estimates, the revisions are included in results of operations in the period in which the actual amounts become known. The critical accounting policies that involve the most significant management judgments and estimates used in preparation of our financial statements, or are the most sensitive to change from outside factors, are discussed in “Part II, Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” of Company’s Annual Report on Form 10-K for fiscal 2019 (“2019 Form 10-K”). There have been no material changes in our critical accounting policies and procedures during the three months ended October 31, 2019.

Off-Balance Sheet Arrangements

We do not have any “off-balance sheet arrangements,” as defined in relevant SEC regulations that are reasonably likely to have a current or future effect on our financial condition, results of operations, liquidity, capital expenditures or capital resources.

In connection with the Spin-Off, we and IDT entered into a tax separation agreement, which sets forth the responsibilities of IDT and us with respect to, among other things, liabilities for federal, state, local and foreign taxes for periods before and including the Spin-Off, the preparation and filing of tax returns for such periods and disputes with taxing authorities regarding taxes for such periods. IDT is generally responsible for our federal, state, local and foreign income taxes for periods before and including the Spin-Off. We are generally responsible for all other taxes relating to our business. We and IDT will each generally be responsible for managing those disputes that relate to the taxes for which each of us is responsible and, under certain circumstances, may jointly control any dispute relating to taxes for which both of us are responsible. 

Item 3. Quantitative and Qualitative Disclosures About Market Risks

There have been no significant changes in our market risk exposures from those described in Item 7A of our 2019 Form 10-K.

Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures. Our Chief Executive Officer and Chief Financial Officer have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended), as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures were effective as of October 31, 2019.

Changes in Internal Control over Financial Reporting. There were no changes in our internal control over financial reporting during the quarter ended October 31, 2019 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II. OTHER INFORMATION

Item 1. Legal Proceedings

Legal proceedings in which we are involved are more fully described in Note 12 to the Consolidated Financial Statements included in Item 1 to Part I of this Quarterly Report on Form 10-Q.

Item 1A. Risk Factors

Item 1A Risk Factors contained in our 2019 Form 10-K includes a discussion of risk factors related to investment in our common stock which is incorporated herein. There were no material changes from the risk factors associated with our business previously disclosed in Part I, Item 1A “Risk Factors” of our 2019 Form 10-K.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

None.

Item 3. Defaults Upon Senior Securities

None.

Item 4. Mine Safety Disclosures

Not applicable.

Item 5. Other Information

None.

Item 6. Exhibits

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

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