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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 March 31, 2021

 

OR

 

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

 

For the transition period from _________ to ________

 

Commission file number 001-12830

 

Lineage Cell Therapeutics, Inc.

(Exact name of registrant as specified in its charter)

 

California   94-3127919

(State or other jurisdiction of

incorporation or organization)

 

(IRS Employer

Identification No.)

 

2173 Salk Avenue, Suite 200

Carlsbad, California 92008

(Address of principal executive offices) (Zip code)

 

(Registrant’s telephone number, including area code) (442) 287-8990

 

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

 

Title of each class   Trading Symbol   Name of exchange on which registered
Common shares no par value   LCTX   NYSE American

 

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.

 

Large accelerated filer ☐ Accelerated filer ☐
Non-accelerated filer ☒ Smaller reporting company
Emerging growth company  

 

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 common shares outstanding as of May 7, 2021 was 162,141,197.

 

 

 

 
 

 

PART I - FINANCIAL INFORMATION

 

This Quarterly Report on Form 10-Q (this “Report”) contains forward-looking statements that involve risks and uncertainties. We make such forward-looking statements pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 and other federal securities laws. All statements other than statements of historical facts contained in this Report are forward-looking statements. In some cases, you can identify forward-looking statements by words such as “anticipate,” “believe,” “contemplate,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “plan,” “potential,” “predict,” “project,” “seek,” “should,” “target,” “will,” “would,” or the negative of these words or other comparable terminology. These forward-looking statements include, but are not limited to, statements about:

 

our plans to research, develop and commercialize our product candidates;
   
the initiation, progress, success, cost and timing of our clinical trials and product development activities;
   
the therapeutic potential of our product candidates, and the disease indications for which we intend to develop our product candidates;
   
our ability and timing to advance our product candidates into, and to successfully initiate, conduct, enroll and complete, clinical trials;
   
our ability to manufacture our product candidates for clinical development and, if approved, for commercialization, and the timing and costs of such manufacture;
   
the performance of third parties in connection with the development and manufacture of our product candidates, including third parties conducting our clinical trials as well as third-party suppliers and manufacturers;
   
the potential of our cell therapy platform, and our plans to apply our platform to research, develop and commercialize our product candidates;
   
our ability to obtain funding for our operations, including funding necessary to initiate and complete clinical trials of our product candidates;
   
the size and growth of the potential markets for our product candidates and our ability to serve those markets;
   
the potential scope and value of our intellectual property rights;
   
our ability, and the ability of our licensors, to obtain, maintain, defend and enforce intellectual property rights protecting our product candidates, and our ability to develop and commercialize our product candidates without infringing the proprietary rights of third parties;
   
our ability to recruit and retain key personnel;
   
the effects of the COVID-19 pandemic on our operations; and
   
other risks and uncertainties, including those described under Part II, Item 1A, “Risk Factors” of this Report.

 

Any forward-looking statements in this Report reflect our current views with respect to future events or to our future financial performance and involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by these forward-looking statements. Factors that may cause actual results to differ materially from current expectations include, among other things, those listed under Part II, Item 1A, “Risk Factors” of this Report. Given these uncertainties, you should not place undue reliance on these forward-looking statements. Except as required by law, we assume no obligation to update or revise these forward-looking statements for any reason, even if new information becomes available in the future.

 

1

 

 

RISK FACTOR SUMMARY

 

Below is a summary of the material factors that make an investment in our common shares speculative or risky. This summary does not address all of the risks that we face. Additional discussion of the risks summarized in this risk factor summary, and other risks that we face, can be found below under the heading “Risk Factors” in Item 1A of Part I of this Report and should be carefully considered, together with other information in this Report and our other filings with the Securities and Exchange Commission (“Commission”) before making investment decisions regarding our common shares.

 

  We have incurred operating losses since inception, and we do not know if or when we will attain profitability.
     
  We will continue to spend a substantial amount of our capital on research and development, but we might not succeed in developing products and technologies that are useful in medicine.
     
  The amount and pace of research and development work that we can do or sponsor, and our ability to commence and complete clinical trials required to obtain regulatory approval to market our therapeutic and medical device products, depends upon the amount of funds we have.
     
  We will need to issue additional equity or debt securities in order to raise additional capital needed to pay our operating expenses.
     
  We may be subject, directly or indirectly, to federal and state healthcare fraud and abuse laws, including anti-kickback and false claims laws, transparency laws, and health information privacy and security laws. If we are unable to comply, or have not fully complied, with such laws, we could face substantial penalties.
     
 

If we do not receive regulatory approvals, we will not be permitted to sell our therapeutic and medical device products.

     
  Government-imposed bans or restrictions and religious, moral, and ethical concerns about the use of hES cells could prevent us from developing and successfully marketing stem cell products.
     
  We expect that the commercial opportunity for some of our products may depend on our ability to obtain reimbursement and continued coverage from various payors, including government entities and insurance companies.
     
  Clinical studies are costly, time consuming and are subject to risks that could delay or prevent commercialization of our current or future product candidates.
     
  The ongoing COVID-19 pandemic has affected and may adversely affect our operations, including the conduct of our clinical trials.
     
  Clinical and preclinical drug development involves a lengthy and expensive process with an uncertain outcome. The results of early preclinical trials and clinical trials of our product candidates are not necessarily predictive of future results. Our product candidates may not have favorable results in later clinical trials, if any, or receive regulatory approval on a timely basis, if at all.
     
  Interim, topline and preliminary data from our clinical trials that we announce or publish from time to time may change as more patient data become available and are subject to audit and verification procedures that could result in material changes in the final data.
     
  Our intellectual property may be insufficient to protect our products.
     
  If we are unable to obtain and enforce patents and to protect our trade secrets, others could use our technology to compete with us, which could limit opportunities for us to generate revenues by licensing our technology and selling products.
     
  We may become dependent on possible future collaborations to develop and commercialize many of our product candidates and to provide the regulatory compliance, sales, marketing and distribution capabilities required for the success of our business.
     
  Because we are engaged in the development of pharmaceutical and stem cell therapy products, the price of our common shares may rise and fall rapidly.
     
  Current economic and stock market conditions may adversely affect the price of our common shares.

 

2

 

 

Item 1. Financial Statements

 

LINEAGE CELL THERAPEUTICS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(IN THOUSANDS)

 

         
   March 31, 2021
(Unaudited)
   December 31, 2020 
ASSETS          
CURRENT ASSETS          
Cash and cash equivalents  $56,210   $32,585 
Marketable equity securities   6,154    8,977 
Trade accounts and grants receivable, net   109    4 
Prepaid expenses and other current assets   2,149    2,433 
Total current assets   64,622    43,999 
           
NONCURRENT ASSETS          
Property and equipment, net (Notes 6 and 15)   5,114    5,630 
Deposits and other long-term assets   601    616 
Goodwill   10,672    10,672 
Intangible assets, net   46,919    47,032 
TOTAL ASSETS  $127,928   $107,949 
           
LIABILITIES AND SHAREHOLDERS’ EQUITY          
CURRENT LIABILITIES          
Accounts payable and accrued liabilities  $5,733   $6,813 
Financing lease and right of use lease liabilities, current portion (Note 15)   786    762 
Deferred revenues   101    193 
Liability classified warrants, current portion   1    1 
Total current liabilities   6,621    7,769 
           
LONG-TERM LIABILITIES          
Deferred tax liability   2,076    2,076 
Right-of-use lease liability, net of current portion (Note 15)   2,217    2,514 
Financing lease, net of current portion   26    26 
Liability classified warrants, net of current portion   418    437 
TOTAL LIABILITIES   11,358    12,822 
           
Commitments and contingencies (Note 15)   -    - 
           
SHAREHOLDERS’ EQUITY          
Preferred shares, no par value, authorized 2,000 shares; none issued and outstanding as of March 31, 2021 and December 31, 2020   -    - 
Common shares, no par value, 250,000 shares authorized; 162,067 and 153,096 shares issued and outstanding as of March 31, 2021 and December 31, 2020, respectively   415,259    393,944 
Accumulated other comprehensive loss   (2,091)   (3,667)
Accumulated deficit   (295,494)   (294,078)
Lineage Cell Therapeutics, Inc. shareholders’ equity   117,674    96,199 
Noncontrolling interest (deficit)   (1,104)   (1,072)
Total shareholders’ equity   116,570    95,127 
TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY  $127,928   $107,949 

 

See accompanying notes to the condensed consolidated interim financial statements.

 

3

 

 

LINEAGE CELL THERAPEUTICS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(IN THOUSANDS, EXCEPT PER SHARE DATA)

(UNAUDITED)

 

        
   Three Months Ended
March 31,
 
   2021   2020 
REVENUES:          
Grant revenue  $98   $348 
Royalties from product sales and license fees   293    166 
Total revenues   391    514 
           
Cost of sales   (112)   (94)
           
Gross profit   279    420 
           
OPERATING EXPENSES:          
Research and development   3,394    3,339 
General and administrative   3,935    4,519 
Total operating expenses   7,329    7,858 
Loss from operations   (7,050)   (7,438)
OTHER INCOME/(EXPENSES):          
Interest income, net   2    405 
Gain on sale of marketable securities   6,024    1,258 
Unrealized gain (loss) on marketable equity securities   1,239    (1,338)
Unrealized gain on warrant liability   18    35 
Other expenses, net   (1,681)   (1,350)
Total other income (expenses), net   5,602    (990)
LOSS BEFORE INCOME TAXES   (1,448)   (8,428)
           
Deferred income tax benefit   -    - 
           
NET LOSS   (1,448)   (8,428)
           
Net loss attributable to noncontrolling interest   32    29 
           
NET LOSS ATTRIBUTABLE TO LINEAGE CELL THERAPEUTICS, INC.  $(1,416)  $(8,399)
           
NET LOSS PER COMMON SHARE:          
BASIC  $(0.01)  $(0.06)
DILUTED  $(0.01)  $(0.06)
           
WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING:          
BASIC   158,725    149,807 
DILUTED   158,725    149,807 

 

See accompanying notes to the condensed consolidated interim financial statements.

 

4

 

 

LINEAGE CELL THERAPEUTICS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE (LOSS)/INCOME

(IN THOUSANDS)

(UNAUDITED)

 

         
   Three Months Ended
March 31,
 
   2021   2020 
NET LOSS  $(1,448)  $(8,428)
Other comprehensive income, net of tax:          
Foreign currency translation adjustment, net of tax   1,576    1,315 
COMPREHENSIVE (LOSS)/INCOME   128    (7,113)
Less: Comprehensive loss attributable to noncontrolling interest   32    29 
COMPREHENSIVE (LOSS)/INCOME ATTRIBUTABLE TO LINEAGE CELL THERAPEUTICS, INC. COMMON SHAREHOLDERS  $160   $(7,084)

 

See accompanying notes to the condensed consolidated interim financial statements.

 

5

 

 

LINEAGE CELL THERAPEUTICS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(IN THOUSANDS)

(UNAUDITED)

 

         
   Three Months Ended
March 31,
 
   2021   2020 
CASH FLOWS FROM OPERATING ACTIVITIES:          
Net loss attributable to Lineage Cell Therapeutics, Inc.  $(1,416)  $(8,399)
Net loss allocable to noncontrolling interest   (32)   (29)
Adjustments to reconcile net loss attributable to Lineage Cell Therapeutics, Inc. to net cash used in operating activities:          
Gain on sale of marketable securities   (6,024)   (1,258)
Unrealized (gain)/loss on marketable equity securities   (1,239)   1,338 
Depreciation expense, including amortization of leasehold improvements   174    212 
Amortization of right-of-use asset   10    9 
Amortization of intangible assets   112    498 
Stock-based compensation   539    626 
Common stock issued for services   102    - 
Change in unrealized gain on warrant liability   (18)   (35)
Foreign currency remeasurement and other gain   1,712    1,424 
Changes in operating assets and liabilities:          
Accounts and grants receivable, net   (135)   66 
Accrued interest receivable   -    (378)
Receivables from OncoCyte and AgeX, net of payables   -    (40)
Prepaid expenses and other current assets   (92)   911 
Accounts payable and accrued liabilities   (1,031)   (138)
Deferred revenue and other liabilities   (86)   167 
Net cash used in operating activities   (7,424)   (5,026)
           
CASH FLOWS FROM INVESTING ACTIVITIES:          
Proceeds from the sale of OncoCyte common shares   10,064    4,963 
Proceeds from the sale of AgeX common shares   -    258 
Proceeds from the sale of Hadasit common shares   21    - 
Purchase of equipment and other assets   (11)   (10)
Other deposits   -    45 
Net cash provided by investing activities   10,074    5,256 
           
CASH FLOWS FROM FINANCING ACTIVITIES:          
Proceeds from employee options exercised   1,717    - 
Common shares received and retired for employee taxes paid   (13)   (2)
Repayment of financing lease liabilities   -    (8)
Proceeds from sale of common shares   19,873    - 
Payments for offering costs   (614)   - 
Net cash provided by (used in) financing activities   20,963    (10)
Effect of exchange rate changes on cash, cash equivalents and restricted cash   (80)   73 
NET INCREASE IN CASH, CASH EQUIVALENTS AND RESTRICTED CASH   23,533    293 
CASH, CASH EQUIVALENTS AND RESTRICTED CASH:          
At beginning of the period   33,183    10,096 
At end of the period  $56,716   $10,389 

 

See accompanying notes to the condensed consolidated interim financial statements.

 

6

 

 

 

LINEAGE CELL THERAPEUTICS, INC. AND SUBSIDIARIES

NOTES TO THE CONDENSED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(UNAUDITED)

 

1. Organization and Business Overview

 

Lineage Cell Therapeutics, Inc. (“Lineage,” “we,” “us,” or “our”) is a clinical-stage biotechnology company developing novel cell therapies for unmet medical needs. Our focus is to develop therapies for degenerative retinal diseases, neurological conditions associated with demyelination, and that aid the body in detecting and combating cancer. Specifically, Lineage is testing therapies to treat dry age-related macular degeneration, spinal cord injuries, and non-small cell lung cancer. Our programs are based on our proprietary cell-based technology platform and associated development and manufacturing capabilities. From this platform, we develop and manufacture specialized, terminally or functionally differentiated human cells from established and well-characterized pluripotent cell lines. These differentiated cells are transplanted into a patient either to replace or support cells that are dysfunctional or absent due to degenerative disease or traumatic injury, or are administered as a means of helping the body mount a more robust and effective immune response to cancer.

 

We have three allogeneic, or “off-the-shelf,” cell therapy programs in clinical development:

 

  OpRegen®, a retinal pigment epithelium (“RPE”) cell replacement therapy currently in a Phase 1/2a multicenter clinical trial for the treatment of advanced dry age-related macular degeneration (“AMD”) with geographic atrophy (“GA”). There currently are no therapies approved by the U.S. Food and Drug Administration (“FDA”) for dry AMD, which accounts for approximately 85-90% of all AMD cases and is one of the leading causes of blindness in people over the age of 60.
     
  OPC1, an oligodendrocyte progenitor cell therapy currently in a Phase 1/2a multicenter clinical trial for acute spinal cord injuries (“SCI”). This clinical trial has been partially funded by the California Institute for Regenerative Medicine (“CIRM”).
     
  VAC2, an allogeneic cancer immunotherapy of antigen-presenting dendritic cells currently in a Phase 1 clinical trial in non-small cell lung cancer. This clinical trial is being funded and conducted by Cancer Research UK, one of the world’s largest independent cancer research charities.

 

In addition to seeking to create value for shareholders by developing product candidates and other technologies through our clinical development programs, we also seek to create value from our technologies through partnering and strategic transactions. We founded two companies that later became publicly traded companies: OncoCyte Corporation (“OncoCyte”) and AgeX Therapeutics, Inc. (“AgeX”). We continue to hold common stock in OncoCyte as of March 31, 2021.

 

Though our principal focus is on advancing our three cell therapy programs currently in clinical development, we may seek to create additional value through corporate transactions, as we have in the past, or by initiating new programs using existing protocols or new protocols and cell lines.

 

Asterias Merger

 

On November 7, 2018, Lineage, Asterias Biotherapeutics, Inc. (“Asterias”) and Patrick Merger Sub, Inc., a wholly owned subsidiary of Lineage, entered into an Agreement and Plan of Merger (the “Merger Agreement”) whereby Lineage agreed to acquire all of the outstanding common stock of Asterias in a stock-for-stock transaction (the “Asterias Merger”).

 

On March 7, 2019, the shareholders of each of Lineage and Asterias approved the Merger Agreement. Prior to the Asterias Merger, Lineage owned approximately 38% of Asterias’ issued and outstanding common stock and accounted for Asterias as an equity method investment.

 

On March 8, 2019, the Asterias Merger closed with Asterias surviving as a wholly owned subsidiary of Lineage. The former stockholders of Asterias (other than Lineage) received 0.71 common shares of Lineage for every share of Asterias common stock they owned. Lineage issued 24,695,898 common shares, including 58,085 shares issued in respect of restricted stock units issued by Asterias that immediately vested in connection with the closing of the Asterias Merger. The aggregate dollar value of such shares, based on the closing price of Lineage common shares on March 8, 2019, was $32.4 million. The total purchase price was $52.6 million. Lineage also assumed warrants to purchase shares of Asterias common stock.

 

The Asterias Merger was accounted for using the acquisition method of accounting in accordance with Accounting Standards Codification (“ASC”) Topic 805, Business Combinations, which requires, among other things, that the assets and liabilities assumed be recognized at their fair values as of the acquisition date.

 

See Note 3 for a discussion of the Asterias Merger.

 

Investment in OncoCyte

 

Lineage has an equity position in OncoCyte, a publicly traded molecular diagnostic company (NYSE American: OCX), which Lineage founded and, in the past, was a majority-owned consolidated subsidiary until February 17, 2017, when Lineage deconsolidated OncoCyte’s financial statements. OncoCyte is focused on developing and commercializing laboratory-developed tests to serve unmet medical needs across the cancer care continuum. As of March 31, 2021, Lineage owned approximately 1.1 million shares of OncoCyte common stock, or 1.3% of its outstanding shares (see Note 4).

 

7

 

 

2. Basis of Presentation, Liquidity and Summary of Significant Accounting Policies

 

The unaudited condensed consolidated interim financial statements presented herein, and discussed below, have been prepared in accordance with generally accepted accounting principles in the United States (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 8 of Regulation S-X. In accordance with those rules and regulations certain information and footnote disclosures normally included in comprehensive consolidated financial statements have been condensed or omitted. The condensed consolidated balance sheet as of December 31, 2020 was derived from the audited consolidated financial statements at that date, but does not include all the information and footnotes required by GAAP. These condensed consolidated interim financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in Lineage’s Annual Report on Form 10-K for the year ended December 31, 2020, as filed with the Securities and Exchange Commission (the “Commission”) on March 11, 2021.

 

The accompanying condensed consolidated interim financial statements, in the opinion of management, include all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of Lineage’s financial condition and results of operations. The condensed consolidated results of operations are not necessarily indicative of the results to be expected for any other interim period or for the entire year.

 

Principles of consolidation

 

Lineage’s condensed consolidated interim financial statements include the accounts of its subsidiaries. All material intercompany accounts and transactions have been eliminated in consolidation. The following table reflects Lineage’s ownership, directly or through one or more subsidiaries, of the outstanding shares of its operating subsidiaries as of March 31, 2021.

 

 

Subsidiary   Field of Business   Lineage
Ownership
    Country
Asterias BioTherapeutics, Inc.   Cell therapy clinical development programs in spinal cord injury and oncology     100 %   USA
Cell Cure Neurosciences Ltd. (“Cell Cure”)   Development and manufacturing of Lineage’s cell replacement platform technology     99 %(1)   Israel
ES Cell International Pte. Ltd. (“ESI”)   Stem cell products for research, including clinical grade cell lines produced under cGMP     100 %   Singapore
OrthoCyte Corporation (“OrthoCyte”)   Developing bone grafting products for orthopedic diseases and injuries     99.8 %   USA

 

(1) Includes shares owned by Lineage and ESI.

 

As of March 31, 2021, Lineage consolidated its direct and indirect wholly owned or majority-owned subsidiaries because Lineage has the ability to control their operating and financial decisions and policies through its ownership, and the noncontrolling interest is reflected as a separate element of shareholders’ equity on Lineage’s consolidated balance sheets.

 

8

 

 

Liquidity

 

Lineage has incurred significant operating losses and in recent years has funded its operations primarily through sale of common stock of AgeX and OncoCyte, both former subsidiaries, sale of common stock of Hadasit Bio-Holdings (“HBL”), receipt of research grants, royalties from product sales, license revenues, sales of research products and issuance of equity securities.

 

On May 1, 2020, Lineage entered into a Controlled Equity OfferingSM Sales Agreement (the “Sales Agreement”) with Cantor Fitzgerald & Co., as sales agent (“Cantor Fitzgerald”), pursuant to which Lineage may, but is not obligated to, raise up to $25.0 million through the sale of common shares from time to time in at-the-market transactions under the Sales Agreement. As of March 31, 2021, Lineage had issued 11,035,444 common shares at a weighted average price per share of $2.27 for gross proceeds of $25.0 million under the Sales Agreement. On March 5, 2021, Lineage filed a prospectus supplement with the SEC in connection with the offer and sale of an additional $25.0 million of common shares under the Sales Agreement increasing the total offering to $50.0 million. No sales of the additional $25.0 million shares have been conducted as of May 7, 2021.

 

As of March 31, 2021, Lineage had an accumulated deficit of approximately $295.5 million, working capital of $58.0 million and shareholders’ equity of $116.6 million. Lineage has evaluated its projected cash flows and believes that its $62.4 million of cash, cash equivalents and marketable equity securities are sufficient to fund Lineage’s planned operations for at least the next twelve months from the issuance date of the condensed consolidated interim financial statements included herein. If Lineage needs near term working capital or liquidity to supplement its cash and cash equivalents for its operations, Lineage may sell some, or all, of its marketable equity securities, as necessary.

 

Lineage’s projected cash flows are subject to various risks and uncertainties, and the unavailability or inadequacy of financing to meet future capital needs could force Lineage to modify, curtail, delay, or suspend some or all aspects of its planned operations. Lineage’s determination as to when it will seek new financing and the amount of financing that it will need will be based on Lineage’s evaluation of the progress it makes in its research and development programs, any changes to the scope and focus of those programs, any changes in grant funding for certain of those programs, and projection of future costs, revenues, and rates of expenditure. Lineage’s ability to raise additional funds may be adversely impacted by deteriorating global economic conditions and the disruptions to and volatility in the credit and financial markets in the United States and worldwide resulting from the ongoing COVID-19 pandemic. Lineage may be required to delay, postpone, or cancel clinical trials or limit the number of clinical trial sites, unless it is able to obtain adequate financing. Lineage cannot assure that adequate financing will be available on favorable terms, if at all. Sales of additional equity securities by Lineage or its subsidiaries and affiliates could result in the dilution of the interests of current shareholders.

 

Business Combinations

 

Lineage accounts for business combinations, such as the Asterias Merger completed in March 2019, in accordance with ASC Topic 805, which requires the purchase price to be measured at fair value. When the purchase consideration consists entirely of Lineage common shares, Lineage calculates the purchase price by determining the fair value, as of the acquisition date, of shares issued in connection with the closing of the acquisition. Lineage recognizes estimated fair values of the tangible assets and intangible assets acquired, including in-process research and development (“IPR&D”), and liabilities assumed as of the acquisition date, and records as goodwill any amount of the fair value of the tangible and intangible assets acquired and liabilities assumed in excess of the purchase price.

 

9

 

 

Marketable Equity Securities

 

Lineage accounts for the shares it holds in OncoCyte, and HBL as marketable equity securities in accordance with ASC 320-10-25, Investments – Debt and Equity Securities, as amended by Accounting Standards Update (“ASU”) 2016-01, Financial Instruments–Overall: Recognition and Measurement of Financial Assets and Financial Liabilities, further discussed below.

 

OncoCyte shares have readily determinable fair values quoted on the NYSE American under trading symbol “OCX”. The HBL shares have a readily determinable fair value quoted on the Tel Aviv Stock Exchange (“TASE”) under the trading symbol “HDST” where share prices are denominated in New Israeli Shekels (NIS).

 

Revenue Recognition

 

Lineage recognizes revenue in accordance with Financial Accounting Standards Board (“FASB”) ASU 2014-09, Revenues from Contracts with Customers (Topic 606), and in a manner that depicts the transfer of control of a product or a service to a customer and reflects the amount of the consideration it is entitled to receive in exchange for such product or service. In doing so, Lineage follows a five-step approach: (i) identify the contract with a customer; (ii) identify the performance obligations in the contract; (iii) determine the transaction price; (iv) allocate the transaction price to the performance obligations; and (v) recognize revenue when (or as) the customer obtains control of the product or service. Lineage considers the terms of a contract and all relevant facts and circumstances when applying the revenue recognition standard. Lineage applies the revenue recognition standard, including the use of any practical expedients, consistently to contracts with similar characteristics and in similar circumstances.

 

Lineage’s largest source of revenue is currently related to government grants. In applying the provisions of ASU 2014-09, Lineage has determined that government grants are out of the scope of ASU 2014-09 because the government entities do not meet the definition of a “customer,” as defined by ASU 2014-09, as there is not considered to be a transfer of control of goods or services to the government entities funding the grant. Lineage has, and will continue to, account for grants received to perform research and development services in accordance with ASC 730-20, Research and Development Arrangements, which requires an assessment, at the inception of the grant, of whether the grant is a liability or a contract to perform research and development services for others. If Lineage or a subsidiary receiving the grant is obligated to repay the grant funds to the grantor regardless of the outcome of the research and development activities, then Lineage is required to estimate and recognize that liability. Alternatively, if Lineage or a subsidiary receiving the grant is not required to repay, or if it is required to repay the grant funds only if the research and development activities are successful, then the grant agreement is accounted for as a contract to perform research and development services for others, in which case, grant revenue is recognized when the related research and development expenses are incurred (see Note 15).

 

Deferred grant revenues represent grant funds received from the governmental funding agencies for which the allowable expenses have not yet been incurred as of the latest balance sheet date reported. As of March 31, 2021, deferred grant revenue was $101,000.

 

10

 

 

Basic and diluted net income (loss) per share attributable to common shareholders

 

Basic earnings per share is calculated by dividing net income or loss attributable to Lineage common shareholders by the weighted average number of common shares outstanding, net of unvested restricted stock or restricted stock units, subject to repurchase by Lineage, if any, during the period. Diluted earnings per share is calculated by dividing the net income or loss attributable to Lineage common shareholders by the weighted average number of common shares outstanding, adjusted for the effects of potentially dilutive common shares issuable under outstanding stock options and warrants, using the treasury-stock method, convertible preferred stock, if any, using the if-converted method, and treasury stock held by subsidiaries, if any.

 

For the three months ended March 31, 2021 and 2020, respectively, Lineage reported a net loss attributable to common shareholders, and therefore, all potentially dilutive common shares were considered antidilutive for those periods.

 

The following common share equivalents were excluded from the computation of diluted net loss per common share for the periods presented because including them would have been antidilutive (in thousands): 

 

  

   Three Months Ended
March 31,
(unaudited)
 
   2021   2020 
Stock options   19,257    17,959 
Lineage Warrants (1) (Note 3)   1,090    1,090 
Restricted stock units   77    145 

 

(1) Although the Lineage Warrants (as defined below) are classified as liabilities, the Lineage Warrants are considered for dilutive earnings per share calculations in accordance with ASC 260, Earnings Per Share, and determined to be antidilutive for the period presented.

 

Restricted Cash

 

In accordance with ASU 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash, Lineage explains the change during the period in the total of cash, cash equivalents and restricted cash, and includes restricted cash with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the condensed consolidated statements of cash flows.

 

The following table provides a reconciliation of cash, cash equivalents, and restricted cash reported within the condensed consolidated balance sheet dates that comprise the total of the same such amounts shown in the condensed consolidated statements of cash flows for all periods presented herein (in thousands): 

 

 

   March 31,
2021
   December 31,
2020
   March 31,
2020
   December 31,
2019
 
   (unaudited)       (unaudited)     
Cash and cash equivalents  $56,210   $32,585   $9,832   $9,497 
Restricted cash included in deposits and other long-term assets (see Note 15)   506    520    557    599 
Restricted cash included in prepaid expenses and other current assets (see Note 15)   -    78    -    - 
Total cash, cash equivalents, and restricted cash as shown in the condensed consolidated statements of cash flows  $56,716   $33,183   $10,389   $10,096 

 

 

11

 

 

Recently Adopted Accounting Pronouncements

 

In August 2018, the FASB issued ASU 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework – Changes to the Disclosure Requirements for Fair Value Measurement, which modifies certain disclosure requirements for reporting fair value measurements. ASU 2018-13 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019. Lineage adopted this standard on January 1, 2020 and it did not have a significant impact on its condensed consolidated financial statements.

 

In December 2019, the FASB issued ASU 2019-12, Simplifying the Accounting for Income Taxes. The ASU enhances and simplifies various aspects of the income tax accounting guidance in ASC 740 and removes certain exceptions for recognizing deferred taxes for investments, performing intraperiod allocation and calculating income taxes in interim periods. The ASU also adds guidance to reduce complexity in certain areas, including recognizing deferred taxes for tax goodwill and allocating taxes to members of a consolidated group. This ASU is effective for fiscal years beginning after December 15, 2020, and interim periods within those fiscal years with early adoption permitted. Lineage adopted this standard as of January 1, 2021 and it is not expected to have a material impact on its condensed consolidated financial statements.

 

Recently Issued Accounting Pronouncements Not Yet Adopted - The recently issued accounting pronouncements applicable to Lineage that are not yet effective should be read in conjunction with the recently issued accounting pronouncements, as applicable and disclosed in Lineage’s Annual Report on Form 10-K for the year ended December 31, 2020, as filed with the Commission on March 11, 2021.

 

In June 2016, the FASB issued ASU 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. ASU 2016-13 is intended to provide financial statement users with more decision-useful information about the expected credit losses on financial instruments and other commitments and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. ASU 2016-13 is effective for Lineage beginning January 1, 2023. Lineage has not yet completed its assessment of the impact of the new standard on its condensed consolidated financial statements.

 

3. Asterias Merger

 

On March 8, 2019, the Asterias Merger closed with Asterias surviving as a wholly owned subsidiary of Lineage. The former stockholders of Asterias (other than Lineage) received 0.71 common shares of Lineage for every share of Asterias common stock they owned. Lineage issued 24,695,898 common shares, including 58,085 shares issued in respect of restricted stock units issued by Asterias that immediately vested in connection with the closing of the Asterias Merger. The aggregate dollar value of such shares, based on the closing price of Lineage common shares on March 8, 2019, was $32.4 million. The total purchase price was $52.6 million. Lineage also assumed warrants to purchase shares of Asterias common stock.

 

Asterias has two IPR&D intangible assets that were valued at $46.5 million as part of the purchase price allocation that was performed in connection with the Asterias Merger. The fair value of these assets consists of $31.7 million pertaining to the OPC1 program that is currently in a Phase 1/2a clinical trial for SCI, which has been partially funded by the California Institute for Regenerative Medicine and $14.8 million pertaining to the VAC2 program, which is an allogeneic, or “off-the-shelf,” cancer immunotherapy derived from pluripotent stem cells for which a clinical trial in non-small cell lung cancer is being funded and sponsored by Cancer Research UK.

 

Asterias also has certain royalty revenues for “research only use” culture media for pre-clinical research applications under certain, specific patent families under contracts which preclude the customers to sell for commercial use or for clinical trials. These royalty cash flows are generated under certain specific patent families that Asterias previously acquired from Geron Corporation (“Geron”). Asterias pays Geron a royalty for all royalty revenues received from these contracts. Because these patents are expected to continue to generate revenues for Asterias and are not to be used in the OPC1 or the VAC2 programs, these patents are considered to be separate long-lived intangible assets under ASC 805.

 

12

 

 

In connection with the closing of the Asterias Merger, Lineage assumed outstanding warrants to purchase shares of Asterias common stock, as further discussed below and in Note 11, and assumed sponsorship of the Asterias 2013 Equity Incentive Plan (see Note 12). All stock options to purchase shares of Asterias common stock outstanding immediately prior to the closing of the Asterias Merger were canceled at the closing for no consideration.

 

Asterias Merger Related Litigation - See Note 15 Commitments and Contingencies for discussion regarding litigation related to the Asterias Merger.

 

4. Accounting for Common Stock of OncoCyte, at Fair Value

 

As of March 31, 2021, Lineage owned approximately 1.1 million shares of OncoCyte common stock. These shares had a fair value of approximately $5.8 million, based on the closing price of OncoCyte of $5.19 per share on March 31, 2021. As of December 31, 2020, Lineage owned approximately 3.6 million shares of OncoCyte common stock. These shares had a fair value of approximately $8.7 million, based on the closing price of OncoCyte of $2.39 per share on December 31, 2020.

 

For the three months ended March 31, 2021, Lineage recorded a realized gain of $6.0 million due to sales of OncoCyte shares in the period. Lineage also recorded a net unrealized gain on marketable equity securities of $1.2 million related to changes in fair market value of OncoCyte’s common stock price during the quarter.

 

For the three months ended March 31, 2020, Lineage recorded a realized gain of $1.1 million due to sales of OncoCyte shares in the period. Lineage also recorded a net unrealized loss on marketable equity securities of $0.3 million related to changes in fair market value of OncoCyte’s common stock price in the quarter.

 

All share prices are determined based on the closing price of OncoCyte common stock on the NYSE American on the applicable dates, or the last day of trading of the applicable quarter, if the last day of a quarter fell on a weekend.

 

5. Sale of Significant Ownership Interest in AgeX to Juvenescence Limited

 

On August 30, 2018, Lineage entered into a Stock Purchase Agreement with Juvenescence Limited (“Juvenescence”) and AgeX, pursuant to which Lineage sold 14.4 million shares of common stock of AgeX to Juvenescence for $3.00 per share, or an aggregate purchase price of $43.2 million (the “Purchase Price”). Juvenescence paid $10.8 million of the Purchase Price at closing, issued an unsecured convertible promissory note dated August 30, 2018 in favor of Lineage for $21.6 million (the “Promissory Note”), and paid $10.8 million on November 2, 2018. The Stock Purchase Agreement contains customary representations, warranties and indemnities from Lineage relating to the business of AgeX, including an indemnity cap of $4.3 million, which is subject to certain exceptions. In connection with the sale, Lineage also entered into a Shared Facilities Agreement with AgeX.

 

The Promissory Note bore interest at 7% per annum, with principal and accrued interest payable at maturity on August 30, 2020. The Promissory Note was paid in full on August 28, 2020.

 

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6. Property and Equipment, Net

 

At March 31, 2021 and December 31, 2020, property and equipment, net was comprised of the following (in thousands):

 

 

   March 31, 2021   December 31, 2020 
   (unaudited)     
Equipment, furniture and fixtures  $3,448   $3,628 
Leasehold improvements   2,392    2,472 
Right-of-use assets   3,746    3,845 
Accumulated depreciation and amortization   (4,472)   (4,315)
Property and equipment, net  $5,114   $5,630 

 

Property and equipment at March 31, 2021 and December 31, 2020 includes $79,000 in financing leases. In September 2020, Lineage terminated its leases in Alameda and entered into a new lease for a reduced amount of square footage. This resulted in a reduction to right-of-use assets of approximately $1.4 million. See additional information in Note 15.

 

Depreciation and amortization expense amounted to $174,000 and $212,000 for the three months ended March 31, 2021 and 2020, respectively. During the three months ended March 31, 2021 and 2020, Lineage sold non-capitalized assets for a net gain of $16,000 and $30,000, respectively, which was included in research and development expenses on the condensed consolidated statements of operations. During the three months ended March 31, 2020, Lineage sold equipment with a net book value of $13,000 and recognized a gain of $2,000, which was included in research and development expenses on the condensed consolidated statement of operations.

 

7. Goodwill and Intangible Assets, Net

 

At March 31, 2021, and December 31, 2020, goodwill and intangible assets, net consisted of the following (in thousands):

 

  

March 31, 2021

   December 31,2020 
   (unaudited)     
Goodwill(1)  $10,672   $10,672 
           
Intangible assets:          
Acquired IPR&D - OPC1 (from the Asterias Merger)(2)  $31,700   $31,700 
Acquired IPR&D - VAC2 (from the Asterias Merger)(2)   14,840    14,840 
Intangible assets subject to amortization:          
Acquired patents   18,953    18,953 
Acquired royalty contracts(2)   650    650 
Total intangible assets   66,143    66,143 
Accumulated amortization   (19,224)   (19,111)
Intangible assets, net  $46,919   $47,032 

 

(1) Goodwill represents the excess of the purchase price over the fair value of the net tangible and identifiable intangible assets acquired and liabilities assumed in the Asterias Merger.
   
(2) See Note 3 for information on the Asterias Merger which was consummated on March 8, 2019.

 

Amortization recognized in research and development expenses was $0.1 million and $0.5 million for the three months ended March 31, 2021 and 2020, respectively.

 

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8. Accounts Payable and Accrued Liabilities

 

At March 31, 2021 and December 31, 2020, accounts payable and accrued liabilities consisted of the following (in thousands):

 

   March 31, 2021  

December 31, 2020

 
   (unaudited)     
Accounts payable  $2,797   $2,611 
Accrued compensation   1,246    1,959 
Accrued liabilities   988    1,711 
PPP loan payable   523    523 
Other current liabilities   179    9 
Total  $5,733   $6,813 

 

As of March 31, 2021, accrued liabilities includes $0.3 million related to the signature fee owed to Cancer Research UK, as described in Note 15.

 

PPP Loan Payable

 

In April 2020, Lineage received a loan for $523,000 from Axos Bank under the PPP contained within the Coronavirus Aid, Relief and Economic Security (“CARES”) Act. The PPP loan has a term of two years, is unsecured, and is guaranteed by the U.S. Small Business Administration (“SBA”). The loan carries a fixed interest rate of one percent per annum, with the first six months of interest deferred. Under the CARES Act and Paycheck Protection Program Flexibility Act, Lineage will be eligible to apply for forgiveness of all loan proceeds used to pay payroll costs, rent, utilities and other qualifying expenses during the 24-week period following receipt of the loan, provided that Lineage maintains its employment and compensation within certain parameters during such period. Not more than 40% of the forgiven amount may be for non-payroll costs. If the conditions outlined in the PPP loan program are adhered to by Lineage, all or part of such loan could be forgiven. Lineage believes that all or a substantial portion of the PPP loan is eligible for forgiveness within one year and classifies the loan as a short-term liability. On December 27, 2020, the Consolidated Appropriations Act, 2021 (CAA) was signed into law, retroactively allowing a deduction of the expenses that gave rise to the PPP loan forgiveness, that was previously denied under the CARES Act. California has partially adopted the federal tax treatment. On February 17, 2021, California issued an Immediate Action Agreement, allowing companies to deduct up to $150,000 in expenses covered by the PPP loan. Any forgiven amounts will not be included in Lineage’s taxable income for federal or California purposes. Lineage applied for forgiveness of the PPP loan on September 30, 2020, and on May 13, 2021, received notice that the PPP loan was forgiven in full.

 

9. Fair Value Measurements

 

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. To increase the comparability of fair value measures, the following hierarchy prioritizes the inputs to valuation methodologies used to measure fair value (ASC 820-10-50), Fair Value Measurements and Disclosures:

 

  Level 1 – Inputs to the valuation methodology are quoted prices for identical assets or liabilities in active markets.
     
  Level 2 – Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices 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 assets or liabilities.
     
  Level 3 – Inputs to the valuation methodology are unobservable; that reflect management’s own assumptions about the assumptions market participants would make and significant to the fair value.

 

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We measure cash, cash equivalents, marketable equity securities and our liability classified warrants at fair value on a recurring basis. The fair values of such assets were as follows for March 31, 2021 and December 31, 2020 (in thousands):

 

       Fair Value Measurements Using 
   Balance at March 31, 2021   Quoted Prices in Active Markets for Identical Assets
(Level 1)
   Significant Other Observable Inputs
(Level 2)
   Significant Unobservable Inputs
(Level 3)
 
Assets:                    
Cash and cash equivalents  $56,210   $56,210   $-   $- 
Marketable equity securities   6,154    6,154    -    - 
                     
Liabilities:                    
Lineage Warrants   1    -    -    1 
Cell Cure Warrants   418    -    -    418 

 

       Fair Value Measurements Using 
   Balance at December 31, 2020  

Quoted Prices in Active Markets for Identical Assets

(Level 1)

  

Significant Other Observable Inputs

(Level 2)

  

Significant Unobservable Inputs

(Level 3)

 
Assets:                    
Cash and cash equivalents  $32,585   $32,585   $-   $- 
Marketable equity securities   8,977    8,977    -    - 
                     
Liabilities:                    
Lineage Warrants   1    -    -    1 
Cell Cure Warrants   437    -    -    437 

 

We have not transferred any instruments between the three levels of the fair value hierarchy.

 

In determining fair value, Lineage utilizes valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs to the extent possible, and also considers counterparty credit risk in its assessment of fair value.

 

Marketable equity securities include our positions in OncoCyte, and HBL. Both of these securities have readily determinable fair values quoted on the NYSE American or TASE stock exchanges. These securities are measured at fair value and reported as current assets on the condensed consolidated balance sheets based on the closing trading price of the security as of the date being presented.

 

The fair value of Lineage’s assets and liabilities, which qualify as financial instruments under FASB guidance regarding disclosures about fair value of financial instruments, approximate the carrying amounts presented in the accompanying consolidated balance sheets. The carrying amounts of accounts receivable, prepaid expenses and other current assets, accounts payable, accrued expenses and other current liabilities approximate fair values because of the short-term nature of these items.

 

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10. Related Party Transactions

 

Lineage incurred costs of $5,050 per month for the use of approximately 900 square feet of office space in New York City, which was made available to Lineage on a month-by-month basis by one of its directors at an amount that approximates his cost (see Note 15). In March 2021, Lineage terminated without penalty its leasing term related to the New York City office lease.

 

In connection with the putative shareholder class action lawsuits filed in February 2019 and October 2019 challenging the Asterias Merger (see Note 15), Lineage has agreed to pay for the legal defense of Neal Bradsher, director, Broadwood Partners, L.P., a shareholder of Lineage, and Broadwood Capital, Inc., which manages Broadwood Partners, L.P., all of which were named in the lawsuits. Through March 31, 2021, Lineage has incurred a total of $375,000 in legal expenses on behalf of the director, shareholder and the manager of the shareholder.

 

As part of financing transactions in which there were multiple other purchasers, Broadwood Partners, L.P. purchased 1,000,000 shares, 2,000,000 shares and 623,090 shares of OncoCyte common stock from Lineage in July 2019, September 2019 and January 2020, respectively.

 

11. Shareholders’ Equity

 

Preferred Shares

 

Lineage is authorized to issue 2,000,000 preferred shares. The preferred shares may be issued in one or more series as our board of directors may determine by resolution. Our board of directors is authorized to fix the number of shares of any series of preferred shares and to determine or alter the rights, preferences, privileges, and restrictions granted to or imposed on the preferred shares as a class, or upon any wholly unissued series of any preferred shares. Our board of directors may, by resolution, increase or decrease (but not below the number of shares of such series then outstanding) the number of shares of any series of preferred shares subsequent to the issue of shares of that series. There are no preferred shares issued and outstanding.

 

Common Shares

 

At March 31, 2021, Lineage was authorized to issue 250,000,000 common shares, no par value. As of March 31, 2021, and December 31, 2020, Lineage had 162,066,897 and 153,095,883 issued and outstanding common shares, respectively.

 

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At-The-Market Offering

 

On May 1, 2020, Lineage entered into the Sales Agreement, pursuant to which Lineage may offer and sell, from time to time, through Cantor Fitzgerald, common shares of Lineage having an aggregate offering price of up to $25,000,000. Lineage is not obligated to sell any shares under the Sales Agreement. Subject to the terms and conditions of the Sales Agreement, Cantor Fitzgerald will use commercially reasonable efforts, consistent with its normal trading and sales practices, applicable state and federal law, rules and regulations, and the rules of the NYSE American, to sell the shares from time to time based upon Lineage’s instructions, including any price, time or size limits specified by Lineage. Under the Sales Agreement, Cantor Fitzgerald may sell the shares by any method deemed to be an “at-the-market” offering as defined in Rule 415(a)(4) under the Securities Act of 1933, as amended, or by any other method permitted by law, including in privately negotiated transactions. Cantor Fitzgerald’s obligations to sell the shares under the Sales Agreement are subject to satisfaction of certain conditions, including the continued effectiveness of Lineage’s Registration Statement on Form S-3 (File No. 333-237975), which was filed with the Commission on May 1, 2020 and was declared effective on May 8, 2020. The Sales Agreement replaced the previous sales agreement with Cantor that had been entered into in April 2017. As of March 31, 2021, Lineage had issued 11,035,444 common shares at a weighted average price per share of $2.27 for gross proceeds of $25.0 million under the Sales Agreement. On March 5, 2021, Lineage filed a prospectus supplement with the SEC in connection with the offer and sale of an additional $25.0 million of common shares under the Sales Agreement increasing the total offering to $50.0 million. No sales of the additional $25.0 million shares have been conducted as of May 7, 2021.

 

Lineage agreed to pay Cantor Fitzgerald a commission of 3.0% of the aggregate gross proceeds from each sale of shares, reimburse legal fees and disbursements and provide Cantor Fitzgerald with customary indemnification and contribution rights. The Sales Agreement may be terminated by Cantor Fitzgerald or Lineage at any time upon notice to the other party, or by Cantor Fitzgerald at any time in certain circumstances, including the occurrence of a material and adverse change in Lineage’s business or financial condition that makes it impractical or inadvisable to market the shares or to enforce contracts for the sale of the shares.

 

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Reconciliation of Changes in Shareholders’ Equity

 

The following tables document the changes in shareholders’ equity for the three months ended March 31, 2021 and 2020 (unaudited and in thousands):

 

    1    2    3    4    5    6    7    8 
   Preferred Shares   Common Shares       Noncontrolling   Accumulated Other   Total 
   Number       Number       Accumulated   Interest/   Comprehensive   Shareholders’ 
   of Shares   Amount   of Shares   Amount   Deficit   (Deficit)   Income/(Loss)   Equity 
BALANCE AT DECEMBER 31, 2020   -   $    -    153,096   $393,944   $(294,078)  $(1,072)  $(3,667)  $95,127 
Shares issued through ATM   -    -    7,941    19,008    -    -    -    19,008 
Shares issued for services   -    -    78    202    -    -    -    202 
Shares issued upon vesting of restricted stock units, net of shares retired to pay employees’ taxes   -    -    10    (12)   -    -    -    (12)
Shares issued upon exercise of stock options   -    -    942    1,751                   1,751 
Financing related fees   -    -    -    (173)   -    -    -    (173)
Stock-based compensation   -    -    -    539    -    -    -    539 
Foreign currency translation gain   -    -    -    -    -    -    1,576    1,576 
NET LOSS   -    -    -    -    (1,416)   (32)   -    (1,448)
BALANCE AT MARCH 31, 2021   -   $-    162,067   $415,259   $(295,494)  $(1,104)  $(2,091)  $116,570 

 

   Preferred Shares   Common Shares       Noncontrolling   Accumulated Other   Total 
   Number       Number       Accumulated   Interest/   Comprehensive   Shareholders’ 
   of Shares   Amount   of Shares   Amount   Deficit   (Deficit)   Income/(Loss)   Equity 
BALANCE AT DECEMBER 31, 2019   -   $     -    149,804   $387,062   $(273,422)  $(1,712)  $(681)  $111,247 
Shares issued upon vesting of restricted stock units, net of shares retired to pay employees’ taxes   -    -    14    (2)   -    -    -    (2)
Stock-based compensation   -    -    -    626    -    -    -    626 
Foreign currency translation gain   -    -    -    -    -    -    1,315    1,315 
NET LOSS   -    -    -    -    (8,399)   (29)   -    (8,428)
BALANCE AT MARCH 31, 2020   -   $-    149,818   $387,686   $(281,821)  $(1,741)  $634   $104,758 

 

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Warrants

 

Lineage (previously Asterias) Warrants - Liability Classified

 

In March 2019, in connection with the closing of the Asterias Merger, Lineage assumed outstanding Asterias Warrants (the “Lineage Warrants”). As of March 31, 2021, the total number of common shares of Lineage subject to warrants that were assumed by Lineage in connection with the Asterias Merger was 1,089,900, which were converted to Lineage Warrants 30 days after the closing of the Asterias Merger, with similar terms and conditions retained under the Lineage Warrants as per the original Warrant Agreements. The Lineage Warrants have an exercise price of $6.15 per share and expire on May 13, 2021.

 

Cell Cure Warrants - Liability Classified

 

Cell Cure has two sets of issued warrants (the “Cell Cure Warrants”). Warrants to purchase 24,566 Cell Cure ordinary shares at an exercise price of $40.5359 per share were issued to HBL in July 2017. These warrants expire in July 2022. Warrants to purchase 13,738 Cell Cure ordinary shares at exercise prices ranging from $32.02 to $40.00 per share have been issued to consultants. Of these warrants, 11,738 were cashless exercised in October 2020. The remaining 2,000 warrants have an exercise price of $40.00 per share and expire in January 2024.

 

12. Stock-Based Awards

 

Equity Incentive Plan Awards

 

Effective November 8, 2019, Lineage adopted an amendment changing the name of the BioTime, Inc. 2012 Equity Incentive Plan to the Lineage Cell Therapeutics, Inc. 2012 Equity Incentive Plan (the “2012 Plan”). The 2012 Plan provides for the grant of stock options, restricted stock, restricted stock units (“RSUs”) and stock appreciation rights. As of March 31, 2021, a maximum of 24,000,000 common shares were available for grant under the 2012 Plan. Recipients of stock options are eligible to purchase common shares at an exercise price equal to the fair market value of such shares on the date of grant. The maximum term of options granted under the 2012 Plan is 10 years. Stock options generally vest over a four-year period based on continuous service; however, the 2012 Plan allows for other vesting periods. Upon the expiration of the restrictions applicable to an RSU, Lineage will either issue to the recipient, without charge, one common share per RSU or cash in an amount equal to the fair market value of one common share. RSUs granted from the 2012 Plan reduce the shares available for grant by two shares for each RSU granted.

 

A summary of Lineage’s 2012 Plan activity and other stock option awards granted outside of the 2012 Plan related information is as follows (in thousands, except per share amounts):

 

 

   Shares
Available
for Grant
   Number
of Options
Outstanding
   Number
of RSUs
Outstanding
   Weighted
Average
Exercise Price
 
December 31, 2020   8,002    15,865    93   $1.57 
Restricted stock units vested   -    -    (16)   - 
Options granted   (4,175)   4,175    -    2.43 
Options exercised   -    (942)   -    1.86 
Options expired/forfeited/cancelled   191    (191)   -    2.76 
March 31, 2021   4,018    18,907    77   $1.74 
Options exercisable at March 31, 2021        8,741        $1.95 

 

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At the effective time of the Asterias Merger, Lineage assumed sponsorship of the Asterias 2013 Equity Incentive Plan (the “Asterias Equity Plan”), with references to Asterias and Asterias common stock therein to be deemed references to Lineage and Lineage common shares. There were 7,309,184 shares available under the Asterias Equity Plan immediately before the closing of the Asterias Merger, which became 5,189,520 shares immediately following the Asterias Merger. The shares available under the Asterias Equity Plan will be for awards granted to those former Asterias employees who continued as Lineage employees upon consummation of the Asterias Merger.

 

A summary of activity under the Asterias Equity Plan is as follows (in thousands, except per share amounts):

 

 

  

Shares

Available

for Grant

  

Number

of Options

Outstanding

  

Weighted

Average

Exercise Price

 
December 31, 2020   4,840    350   $1.57 
Options granted   -    -    - 
Options exercised   -    -    - 
Options forfeited   -         - 
March 31, 2021   4,840    350   $1.57 
Options exercisable at March 31, 2021        176   $1.57 

 

Stock-based compensation expense

 

The fair value of each option award is estimated on the date of grant using a Black-Scholes option pricing model applying the weighted-average assumptions noted in the following table:

 

 

   Three Months Ended
March 31, (unaudited)
 
   2021   2020 
Expected life (in years)   6.25    6.25 
Risk-free interest rates   1.06%   0.8%
Volatility   73.0%   67.5%
Dividend yield   -%   -%

 

Operating expenses include stock-based compensation expense as follows (in thousands):

 

   Three Months Ended
March 31, (unaudited)
 
   2021   2020 
Research and development  $134   $96 
General and administrative   405    530 
Total stock-based compensation expense  $539   $626 

 

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13. Income Taxes

 

The provision for income taxes for interim periods is generally determined using an estimated annual effective tax rate as prescribed by ASC 740-270, Income Taxes, Interim Reporting. The effective tax rate may be subject to fluctuations during the year as new information is obtained, which may affect the assumptions used to estimate the annual effective tax rate, including factors such as valuation allowances and changes in valuation allowances against deferred tax assets, the recognition or de-recognition of tax benefits related to uncertain tax positions, if any, and changes in or the interpretation of tax laws in jurisdictions where Lineage conducts business. ASC 740-270 also states that if an entity is unable to reliably estimate some or a part of its ordinary income or loss, the income tax provision or benefit applicable to the item that cannot be estimated shall be reported in the interim period in which the item is reported.

 

For items that Lineage cannot reliably estimate on an annual basis (principally unrealized gains or losses generated by changes in the market prices of OncoCyte shares), Lineage uses the actual year to date effective tax rate rather than an estimated annual effective tax rate to determine the tax effect of each item, including the use of all available net operating losses and other credits or deferred tax assets.

 

The market value of the shares of OncoCyte common stock Lineage holds creates a deferred tax liability to Lineage based on the closing prices of the shares, less Lineage’s tax basis in the shares. The deferred tax liability generated by the OncoCyte shares that Lineage holds as of March 31, 2021, is a source of future taxable income to Lineage, as prescribed by ASC 740-10-30-17, that will more likely than not result in the realization of its deferred tax assets to the extent of the deferred tax liability. This deferred tax liability is determined based on the closing prices of the OncoCyte shares as of March 31, 2021. Due to the inherent unpredictability of future prices of those shares, Lineage cannot reliably estimate or project those deferred tax liabilities on an annual basis. Therefore, the deferred tax liability pertaining to OncoCyte shares, determined based on the actual closing prices on the last stock market trading day of the applicable accounting period, and the related impacts to the valuation allowance and deferred tax asset changes, are recorded in the accounting period in which they occur.

 

Prior to the Asterias Merger discussed in Note 3, the Asterias shares Lineage held generated similar deferred tax liabilities to Lineage as the OncoCyte shares discussed above. As of the Asterias Merger date and due to Asterias becoming a wholly owned subsidiary of Lineage, the Asterias deferred tax liabilities were eliminated with a corresponding adjustment to Lineage’s valuation allowance, resulting in no tax provision or benefit from this adjustment.

 

In connection with the Asterias Merger, a deferred tax liability of $10.8 million was recorded as part of the acquisition accounting. The deferred tax liability (“DTL”) is related to fair value adjustments for the assets and liabilities acquired in the Asterias Merger, principally consisting of IPR&D. This estimate of deferred taxes was determined based on the excess of the estimated fair values of the acquired assets and liabilities over the tax basis of the assets and liabilities acquired. The statutory tax rate was applied, as appropriate, to the adjustment based on the jurisdiction in which the adjustment is expected to occur. Because the IPR&D (prior to completion or abandonment of the R&D) is considered an indefinite-lived asset for accounting purposes, the fair value of the IPR&D on the acquisition date created a deferred income tax liability in accordance with ASC 740. This DTL is computed using the fair value of the IPR&D assets on the acquisition date multiplied by Lineage’s respective federal and state income tax rates. While this DTL would reverse on impairment or sale or commencement of amortization of the related intangible assets, those events are not anticipated under ASC 740 for purposes of predicting reversal of a temporary difference to support the realization of deferred tax assets, except for certain deferred tax assets and credit carryforwards that are also indefinite in nature as of the Asterias Merger date, which may be considered for reversal under ASC 740 as further discussed below.

 

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A valuation allowance is provided when it is more likely than not that some portion of the deferred tax assets will not be realized. Lineage established a full valuation allowance as of December 31, 2018 due to the uncertainty of realizing future tax benefits from its net operating loss carryforwards and other deferred tax assets, including foreign net operating losses generated by its subsidiaries. During the year ended December 31, 2020, a portion of the valuation allowance was released as it relates to Lineage’s indefinite lived assets that can be used against the indefinite lived liabilities. The amount of the valuation allowance released was $1.2 million; as new indefinite lived deferred tax assets are generated, we will continue to book provision benefits until the deferred tax liability position is exhausted, barring any new developments.

 

For the three months ended March 31, 2021, and 2020, Lineage did not record any provision or benefit for income taxes, as Lineage had taxable income related to a gain on the sale of OncoCyte common stock in the periods. This taxable income was offset by net operating loss carryforwards.

 

14. Supplemental Cash Flow Information

 

Supplemental disclosure of cash flow information for the three months ended March 31, 2021 and 2020 is as follows (in thousands):

 

  

Three Months Ended

March 31, (unaudited)

 
   2021   2020 
Cash paid during period for interest  $3   $7 

 

15. Commitments and Contingencies

 

Carlsbad Lease

 

In May 2019, Lineage entered into a lease for approximately 8,841 square feet of rentable space in an office park in Carlsbad, California (the “Carlsbad Lease”). The term of the Carlsbad Lease commenced on August 1, 2019 and expires on October 31, 2022.

 

Base rent under the Carlsbad Lease beginning on August 1, 2020 is $18,386 per month and increases by 3% annually on every August 1 thereafter during the lease term. Base rent for the first twenty-four months of the lease is based upon a deemed rentable area of 7,000 square feet. Base rent was abated for months two through five of the lease.

 

In addition to base rent, Lineage pays a pro rata portion of increases in certain expenses, including real property taxes, utilities (to the extent not separately metered to the leased space) and the landlord’s operating expenses, over the amounts of those expenses incurred by the landlord. As security for the performance of its obligations under the Carlsbad Lease, Lineage provided the landlord with a security deposit of $17,850.

 

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Alameda Leases and Alameda Sublease

 

In December 2015, Lineage entered into leases of office and laboratory space located in two buildings in Alameda, California (the “Alameda Leases”) comprised of 22,303 square feet (the “1010 Atlantic Premises”) and 8,492 square feet (the “1020 Atlantic Premises”). Base rent under the Alameda Leases beginning on February 1, 2020 was $72,636 per month with annual increases of approximately 3%. In addition to base rent, Lineage paid a pro rata portion of increases in certain expenses, including real property taxes, utilities (to the extent not separately metered to the leased space) and the landlord’s operating expenses, over the amounts of those expenses incurred by the landlord. As security for its obligations, Lineage provided the landlord with a security deposit of approximately $424,000, which was reduced to $78,000 on January 24, 2019 in accordance with the terms of the lease. The security deposit was returned to Lineage in March 2021.

 

In April 2020, Lineage entered into a sublease with Industrial Microbes, Inc. (“Industrial Microbes”) for the use of 10,000 square feet in the 1010 Atlantic Premises (the “Industrial Microbes Sublease”). Base rent under the Industrial Microbes Sublease was $28,000 per month with annual increases of approximately 3%. Base rent for the first month was abated. In addition to base rent and utilities, Industrial Microbes paid a pro-rata portion of increases in operating expenses, after an abatement period of one year.

 

On September 11, 2020, Lineage entered into a Lease Termination Agreement with the landlord terminating the Alameda Leases effective as of August 31, 2020 for the 1020 Atlantic Premises and September 30, 2020 for the 1010 Atlantic Premises. In consideration for the termination of the leases, Lineage paid a termination fee of $130,000 and other amounts due under the terms of the Alameda Leases through the applicable effective termination dates, except that no rent was due with respect to the 1020 Atlantic Premises after July 31, 2020. Lineage’s security deposit was received in March 2021. Lineage paid a separate termination fee of $30,000 to Industrial Microbes in connection with the termination of the Industrial Microbes Sublease and returned the $56,000 security deposit paid by Industrial Microbes. For the period of sublease from mid-April 2020 through September 2020, Lineage received $119,000 in rental income from Industrial Microbes.

 

Lineage continues to occupy approximately 2,432 square feet of the 1010 Atlantic Premises under a new sublease agreement (the “Alameda Sublease”). The term of the Alameda Sublease is from October 1, 2020 through January 31, 2023. Base rent under the Alameda Sublease is $14,592 per month with annual increases of 3% each October 1 thereafter during the lease term. Base rent for the first month was abated. Lineage paid a security deposit of $16,000 under the Alameda Sublease; this amount is considered restricted cash and is included in deposits and other long-term assets as of March 31, 2021 (see Note 2).

 

Based on the smaller footprint, and after taking into consideration the fees disclosed above, Lineage has reduced its contractual obligations by approximately $780,000 over the remaining life of the original leases through January 31, 2023.

 

New York Leased Office Space

 

Lineage incurred costs of $5,050 per month for the use of approximately 900 square feet of office space in New York City, which was made available to Lineage for use in conducting meetings and other business affairs, on a month-by-month basis, by one of its directors at an amount that approximates his cost. In March 2021, Lineage terminated without penalty its leasing term related to the New York City office lease. The lease was not in the scope of ASC 842 because it is a month-to-month lease.

 

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Cell Cure Leases

 

Cell Cure leases 728.5 square meters (approximately 7,842 square feet) of office and laboratory space in Jerusalem, Israel under a lease that expires December 31, 2025, with an option to extend the lease for five years each (the “Original Cell Cure Lease”). Base monthly rent is NIS 39,776 (approximately US $12,200 per month using the December 7, 2020 exchange rate). In addition to base rent, Cell Cure pays a pro-rata share of real property taxes and certain costs related to the operation and maintenance of the building in which the leased premises are located.

 

On January 28, 2018, Cell Cure entered into another lease agreement for an additional 934 square meters (approximately 10,054 square feet) of office space in the same facility in Jerusalem, Israel under a lease that expires on December 31, 2025, with two options to extend the lease for five years each (the “January 2018 Lease”). The January 2018 Lease commenced on April 1, 2018 and included a leasehold improvement construction allowance of up to NIS 4,000,000 (approximately up to US $1.1 million using the December 31, 2018 exchange rate) from the landlord. The leasehold improvements were completed in December 2018 and the entire allowance was used. Beginning on January 1, 2019, combined base rent and construction allowance payments for the January 2018 Lease are NIS 93,827 per month (approximately $26,000 per month).

 

In December 2018, Cell Cure made a $420,000 deposit required under the January 2018 Lease, which amount is included in deposits and other long-term assets on the consolidated balance sheet as of March 31, 2021, to be held as restricted cash during the term of the January 2018 Lease.

 

The below table provides supplemental cash flow information related to leases as follows (in thousands):

 

   Three Months Ended
March 31,
 
   2021   2020 
Cash paid for amounts included in the measurement of lease liabilities:        
Operating cash flows from operating leases  $208   $398 
Operating cash flows from financing leases   3    7 
Financing cash flows from financing leases   -    8 
           
Right-of-use assets obtained in exchange for lease obligations:          
Operating leases   -    29 
Financing leases   -    - 

 

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Supplemental balance sheet information related to leases is as follows (in thousands, except lease term and discount rate):

 

   March 31, 2021   December 31, 2020 
Operating leases          
Right-of-use assets, net  $2,648   $2,916 
           
Right-of-use lease liabilities, current   771    746 
Right-of-use lease liabilities, noncurrent   2,217    2,514 
Total operating lease liabilities  $2,988   $3,260 
           
Financing leases          
Property and equipment, gross  $79   $79 
Accumulated depreciation   (68)   (65)
Property and equipment, net  $11   $14 
           
Current liabilities  $16   $16 
Long-term liabilities   26    26 
Total finance lease liabilities  $42   $42 
           
Weighted average remaining lease term          
Operating leases   4.0 years    4.2 years 
Finance leases   2.2 years    2.4 years 
Weighted average discount rate          
Operating leases   8.0%   8.0%
Finance leases   10.0%   10.0%

 

Future minimum lease commitments are as follows as of March 31, 2021 (in thousands):

 

 

    Operating Leases     Finance Leases  
Year Ending December 31,                  
2021   $ 724     $ 14  
2022     912       19  
2023     480       8  
2024     454       -  
2025     442       -  
Thereafter     531       -  
                 
Total lease payments   $ 3,543     $ 41  
Less imputed interest     (555 )     (4 )
Total   $ 2,988     $ 37  

 

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Research and Option Agreement

 

On January 5, 2019, Lineage and Orbit Biomedical Limited (“Orbit”) entered into a Research and Option Agreement, which was assigned by Orbit to Gyroscope Therapeutics Limited (“Gyroscope”) and amended on May 7, 2019, January 30, 2020, May 1, 2020 and September 4, 2020 (the “Gyroscope Agreement”). As amended, the Gyroscope Agreement provided Lineage access to Gyroscope’s vitrectomy-free subretinal injection device (the “Orbit Device”) as a means of delivering OpRegen in Lineage’s ongoing Phase 1/2a clinical trial through the earlier of: (i) December 1, 2020; or (ii) or treatment of three additional patients with the Orbit Device between September 4, 2020 and December 1, 2020 (the “Access Period”). Following the Access Period, Lineage also had an exclusive right to negotiate a definitive agreement to distribute and sell the Orbit Device for the subretinal delivery of RPE cells for the treatment of dry AMD (the “Option Period”), which was initially set to expire in February 2021. Pursuant to the terms of the Gyroscope Agreement, Lineage paid access fees totaling $2.5 million: (i) $1.25 million in January 2019 upon execution of the Gyroscope Agreement; and (ii) $1.25 million in August 2019 upon completion of certain collaborative research activities using the Gyroscope technology for the OpRegen Phase 1/2a clinical trial. These access fees of $2.5 million were amortized on a straight-line basis throughout 2019 and included in research and development expenses. Lineage also agreed to reimburse Gyroscope for costs of consumables, training services, travel costs and other out of pocket expenses incurred by Gyroscope for performing services under the Gyroscope Agreement. In January 2020, Lineage agreed to pay an additional $0.5 million to extend the Access Period to July 5, 2020, $0.2 million of which was paid in January 2020 and $0.3 million of which was paid in November 2020. The Access Period was subsequently extended two additional times at no cost and ended in accordance with the terms of the Gyroscope Agreement in November 2020. In February 2021, Lineage exercised its right to extend the initial Option Period for $0.5 million. During the extended Option Period, Lineage determined not to pursue a definitive agreement to distribute and sell the Orbit Device, and the Gyroscope Agreement terminated on May 11, 2021 upon expiration of the Option Period.

 

Litigation

 

Lineage is subject to various claims and contingencies in the ordinary course of its business, including those related to litigation, business transactions, employee-related matters, and others. When Lineage is aware of a claim or potential claim, it assesses the likelihood of any loss or exposure. If it is probable that a loss will result and the amount of the loss can be reasonably estimated, Lineage will record a liability for the loss. If the loss is not probable or the amount of the loss cannot be reasonably estimated, Lineage will disclose the claim if the likelihood of a potential loss is reasonably possible and the amount involved could be material. Lineage is not aware of any claims likely to have a material adverse effect on its financial condition or results of operations.

 

On February 19, 2019, a putative shareholder class action lawsuit was filed (captioned Lampe v. Asterias Biotherapeutics, Inc. et al., Case No. RG19007391) in the Superior Court of the State of California, County of Alameda challenging the Asterias Merger. On March 1, 2019, Asterias made certain amendments and supplements to its public disclosures regarding the Asterias Merger (the “Supplemental Disclosures”). On May 3, 2019, an amended class action complaint (the “Amended Complaint”) was filed. The Amended Complaint named Lineage, Patrick Merger Sub, Inc., the Asterias board of directors, one member of Lineage’s board of directors, and certain stockholders of both Lineage and Asterias. The action was brought by two purported stockholders of Asterias, on behalf of a putative class of Asterias stockholders, and asserted breach of fiduciary duty and aiding and abetting claims under Delaware law. The Amended Complaint alleged, among other things, that the process leading up to the Asterias Merger was conflicted and inadequate, and that the proxy statement filed by Asterias with the Commission omitted certain material information, which allegedly rendered the information disclosed materially misleading. The Amended Complaint sought, among other things, that a class be certified, the recovery of monetary damages, and attorneys’ fees and costs.

 

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On June 3, 2019, defendants filed demurrers to the Amended Complaint. On August 13, 2019, the parties submitted a stipulation to the court seeking dismissal of the action with prejudice as to the named Plaintiffs and without prejudice as to the unnamed putative class members, and disclosed to the court the parties’ agreement to resolve, for $200,000, Plaintiffs’ claim for an award of attorneys’ fees and expenses in connection with the purported benefit conferred on Asterias stockholders by the Supplemental Disclosures. The court granted the stipulation and dismissed the action August 14, 2019. Lineage continues to believe that the claims and allegations in the action lack merit, but believed that it was in Lineage’s shareholders’ best interest for the action to be dismissed and to resolve the fee claim in a timely manner without additional costly litigation expenses.

 

On October 14, 2019, another putative class action lawsuit was filed challenging the Asterias Merger. This action (captioned Ross v. Lineage Cell Therapeutics, Inc., et al., C.A. No. 2019-0822) was filed in Delaware Chancery Court and names Lineage, the Asterias board of directors, one member of Lineage’s board of directors, and certain stockholders of both Lineage and Asterias as defendants. The action was brought by a purported stockholder of Asterias, on behalf of a putative class of Asterias stockholders, and asserts breach of fiduciary duty and aiding and abetting claims under Delaware law. The complaint alleges, among other things, that the process leading up to the Asterias Merger was conflicted, that the Asterias Merger consideration was inadequate, and that the proxy statement filed by Asterias with the Commission omitted certain material information, which allegedly rendered the information disclosed materially misleading. The complaint seeks, among other things, that a class be certified, the recovery of monetary damages, and attorneys’ fees and costs. On December 20, 2019, the defendants moved to dismiss the complaint. On February 10, 2020, the plaintiff filed an opposition. Defendants filed their replies on March 13, 2020. On June 23, 2020, a hearing on the motions to dismiss occurred. On September 21, 2020, the Chancery Court denied the motion to dismiss as to Lineage and certain members of the Asterias board of directors, and it granted the motion to dismiss as to all other defendants. On October 30, 2020, the remaining defendants filed an answer to the complaint.

 

Lineage believes the allegations in the action lack merit and intends to vigorously defend the claims asserted. It is impossible at this time to assess whether the outcome of this proceeding will have a material adverse effect on Lineage’s consolidated results of operations, cash flows or financial position. Therefore, in accordance with ASC 450, Contingencies, Lineage has not recorded any accrual for a contingent liability associated with this legal proceeding based on its belief that a liability, while possible, is not probable nor estimable, and any range of potential contingent liability amounts cannot be reasonably estimated at this time. Lineage records legal expenses as incurred.

 

Employment contracts

 

Lineage has entered into employment agreements with certain executive officers. Under the provisions of the agreements, Lineage may be required to incur severance obligations for matters relating to changes in control, as defined in the agreements, and involuntary terminations.

 

Indemnification

 

In the normal course of business, Lineage may provide indemnifications of varying scope under Lineage’s agreements with other companies or consultants, typically Lineage’s clinical research organizations, investigators, clinical sites, suppliers and others. Pursuant to these agreements, Lineage will generally agree to indemnify, hold harmless, and reimburse the indemnified parties for losses and expenses suffered or incurred by the indemnified parties arising from claims of third parties in connection with the use or testing of Lineage’s products and services. Indemnification provisions could also cover third party infringement claims with respect to patent rights, copyrights, or other intellectual property pertaining to Lineage products and services. The term of these indemnification agreements will generally continue in effect after the termination or expiration of the particular research, development, services, or license agreement to which they relate. The potential future payments Lineage could be required to make under these indemnification agreements will generally not be subject to any specified maximum amount. Historically, Lineage has not been subject to any claims or demands for indemnification. Lineage also maintains various liability insurance policies that provide Lineage with insurance against claims or demands for indemnification in specified circumstances. As a result, Lineage believes the fair value of these indemnification agreements is minimal. Accordingly, Lineage has not recorded any liabilities for these agreements as of March 31, 2021 and December 31, 2020.

 

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Second Amendment to Clinical Trial and Option Agreement and License Agreement with Cancer Research UK

 

On May 6, 2020, Lineage and its wholly owned subsidiary Asterias entered into a Second Amendment to Clinical Trial and Option Agreement (the “CTOA Amendment”) with Cancer Research UK (“CRUK”) and Cancer Research Technology Limited (“CRT”), which amends the Clinical Trial and Option Agreement entered into between Asterias, CRUK and CRT dated September 8, 2014, as amended September 8, 2014. Pursuant to the CTOA Amendment, Lineage assumed all obligations of Asterias and exercised early its option to acquire data generated in the Phase 1 clinical trial of VAC2 in non-small cell lung cancer being conducted by CRUK. CRUK will continue conducting the VAC2 study.

 

Lineage and CRT effectuated the option by simultaneously entering into a license agreement (the “License Agreement”) pursuant to which Lineage agreed to pay the previously agreed signature fee of £1,250,000 (approximately $1.6 million). In consideration of Lineage’s agreement to exercise the option prior to completion of the study, the parties agreed to defer the signature fee as follows: £500,000 in September 2020, £500,000 in February 2021 and £250,000 in April 2021. For the primary licensed product for the first indication, the License Agreement provides for milestone fees of up to £8,000,000 based upon initiation of a Phase 3 clinical trial and the filing for regulatory approval and up to £22,500,000 in sales-based milestones payments. Additional milestone fees and sales-based milestone payments would be payable for other products or indications, and mid-single-digit royalty payments are payable on sales of commercial products.

 

Either party may terminate the License Agreement for the uncured material breach of the other party. CRT may terminate the License Agreement in the case of Lineage’s insolvency or if Lineage ceases all development and commercialization of all products under the License Agreement.

 

Second Amended and Restated License Agreement

 

On June 15, 2017, Cell Cure entered into a Second Amended and Restated License Agreement (the “License Agreement”) with Hadasit Medical Research Services and Development Ltd. (“Hadasit”), the commercial arm and a wholly owned subsidiary of Hadassah Medical Organization. Pursuant to the License Agreement, Hadasit granted Cell Cure an exclusive, worldwide, royalty bearing license (with the right to grant sublicenses) in its intellectual property portfolio of materials and technology related to human stem cell derived photoreceptor cells and retinal pigment epithelial cells (the “Licensed IP”), to use, commercialize and exploit any part thereof, in any manner whatsoever in the fields of the development and exploitation of: (i) human stem cell derived photoreceptor cells, solely for use in cell therapy for the diagnosis, amelioration, prevention and treatment of eye disorders; and (ii) human stem cell derived retinal pigment epithelial cells, solely for use in cell therapy for the diagnosis, amelioration, prevention and treatment of eye disorders.

 

As consideration for the Licensed IP, Cell Cure will pay a small one-time lump sum payment, a royalty in the mid-single digits of net sales from sales of Licensed IP by any invoicing entity, and a royalty of 21.5% of sublicensing receipts. In addition, Cell Cure will pay Hadasit an annual minimal non-refundable royalty, which will become due and payable the first January 1 following the completion of services to Cell Cure by a research laboratory.

 

Cell Cure will pay Hadasit non-refundable milestone payments upon the recruitment of the first patient for the first Phase 2b clinical trial, upon the enrollment of the first patient in the first Phase 3 clinical trials, upon delivery of the report for the first Phase 3 clinical trials, upon the receipt of an NDA or marketing approval in the European Union, whichever is the first to occur, and upon the first commercial sale in the United States or European Union, whichever is the first to occur. Such milestones, in the aggregate, may be up to $3.5 million. As of March 31, 2021, Cell Cure had not accrued any milestone payments under the License Agreement.

 

The License Agreement terminates upon the expiration of Cell Cure’s obligation to pay royalties for all licensed products, unless earlier terminated. In addition to customary termination rights of both parties, Hadasit may terminate the License Agreement if Cell Cure fails to continue the clinical development of the Licensed IP or fails to take actions to commercialize or sell the Licensed IP over any consecutive 12 month period. The License Agreement also contains mutual confidentiality obligations of Cell Cure and Hadasit, and indemnification obligations of Cell Cure.

 

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Royalty obligations and license fees

 

Lineage and its subsidiaries or affiliates are parties to certain licensing agreements with research institutions, universities and other parties for the rights to use those licenses and other intellectual property in conducting research and development activities. These licensing agreements provide for the payment of royalties by Lineage or the applicable party to the agreement on future product sales, if any. In addition, in order to maintain these licenses and other rights during the product development, Lineage or the applicable party to the contract must comply with various conditions including the payment of patent related costs and annual minimum maintenance fees. Annual minimum maintenance fees are expected to be approximately $30,000 to $60,000 per year.

 

Grants

 

Under the terms of the grant agreement between Cell Cure and Israel Innovation Authority (“IIA”) (formerly the Office of the Chief Scientist of Israel) of the Ministry of Economy and Industry, for the development of OpRegen, Cell Cure will be required to pay royalties on future product sales, if any, up to the amounts received from the IIA, plus interest indexed to LIBOR. Cell Cure’s research and product development activities under the grant are subject to substantial risks and uncertainties and performed on a best efforts basis. As a result, Cell Cure is not required to make any payments under the grant agreement unless it successfully commercializes OpRegen. Accordingly, pursuant to ASC 730-20, the grant is considered a contract to perform research and development services for others and grant revenue is recognized as the related research and development expenses are incurred (see Note 2).

 

Israeli law pertaining to such government grants contain various conditions, including substantial penalties and restrictions on the transfer of intellectual property, or the manufacture, or both, of products developed under the grant outside of Israel, as defined by the IIA.

 

16. Subsequent Events

 

Immunomic Therapeutics Inc. License Agreement

 

On April 16, 2021, Lineage entered a worldwide license and development collaboration with Immunomic Therapeutics, Inc (ITI). Lineage is the sole and exclusive owner of the rights to the VAC platform and has licensed to ITI patents and materials for the development and commercialization of novel cancer immunotherapy agent derived from this platform utilizing an antigen provided by ITI.

 

Under terms of the Agreement, Lineage is entitled to upfront licensing fees totaling $2.0 million paid over the first year, and up to $67.0 million in development and commercial milestones across multiple indications. Lineage will also be eligible to receive royalties up to 10% on net sales of future products.

 

PPP Loan

 

On May 13, 2021, Lineage received notice that its PPP loan was forgiven in full. See Note 8 for additional information.

 

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

 

The matters addressed in this Item 2 that are not historical information constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, (the “Exchange Act”) including statements about any of the following: any projections of earnings, revenue, gross profit, cash, effective tax rate, use of net operating losses, or any other financial items; the plans, strategies and objectives of management for future operations or prospects for achieving such plans; and any statements of assumptions underlying any of the foregoing. Any statements contained herein that are not statements of historical fact may be deemed to be forward-looking statements. Without limiting the foregoing, the words “believes,” “anticipates,” “plans,” “expects,” “seeks,” “estimates,” and similar expressions are intended to identify forward-looking statements. While Lineage may elect to update forward-looking statements in the future, it specifically disclaims any obligation to do so, even if Lineage’s estimates change, and readers should not rely on those forward-looking statements as representing Lineage’s views as of any date subsequent to the date of the filing of this Report. Although we believe that the expectations reflected in these forward-looking statements are reasonable, such statements are inherently subject to risks and Lineage can give no assurances that its expectations will prove to be correct. Actual results could differ materially from those described in this Report because of numerous factors, many of which are beyond the control of Lineage. A number of important factors could cause the results of the Company to differ materially from those indicated by such forward-looking statements, including those detailed in Part II, Item IA, “Risk Factors” of this Report.

 

The following discussion should be read in conjunction with Lineage condensed consolidated interim financial statements and the related notes provided under “Item 1 - Financial Statements” above.

 

Company and Business Overview

 

We are a clinical-stage biotechnology company developing novel cell therapies for unmet medical needs. Our focus is to develop therapies for degenerative retinal diseases, neurological conditions associated with demyelination, and aiding the body in detecting and combating cancer. Specifically, Lineage is testing therapies to treat dry age-related macular degeneration, spinal cord injuries, and non-small cell lung cancer. Our programs are based on our proprietary cell-based technology platform and associated development and manufacturing capabilities. From this platform, we develop and manufacture specialized, terminally or functionally differentiated human cells from established and well-characterized pluripotent cell lines. These differentiated cells are transplanted into a patient either to replace or support cells that are dysfunctional or absent due to degenerative disease or traumatic injury, or are administered as a means of helping the body mount a more robust and effective immune response to cancer.

 

We have three allogeneic, or “off-the-shelf,” cell therapy programs in clinical development:

 

  OpRegen®, a retinal pigment epithelium (“RPE”) cell replacement therapy currently in a Phase 1/2a multicenter clinical trial for the treatment of advanced dry age-related macular degeneration (“AMD”) with geographic atrophy (“GA”). There currently are no therapies approved by the U.S. Food and Drug Administration (“FDA”) for dry AMD, which accounts for approximately 85-90% of all AMD cases and is one of the leading causes of blindness in people over the age of 60.
     
  OPC1, an oligodendrocyte progenitor cell therapy currently in a Phase 1/2a multicenter clinical trial for acute spinal cord injuries (“SCI”). This clinical trial has been partially funded by the California Institute for Regenerative Medicine (“CIRM”).
     
  VAC2, an allogeneic cancer immunotherapy of antigen-presenting dendritic cells currently in a Phase 1 clinical trial in non-small cell lung cancer. This clinical trial is being funded and conducted by Cancer Research UK, one of the world’s largest independent cancer research charities.

 

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In addition to seeking to create value for shareholders by developing product candidates and other technologies through our clinical development programs, we also seek to create value from our technologies through partnering and strategic transactions. We founded two companies that later became publicly traded companies: OncoCyte Corporation (“OncoCyte”) and AgeX Therapeutics, Inc. (“AgeX”). We continue to hold common stock in OncoCyte.

 

Though our principal focus is on advancing our three cell therapy programs currently in clinical development, we may seek to create additional value through corporate transactions, as we have in the past, or by initiating new programs using existing protocols or new protocols and cell lines.

 

Critical Accounting Policies

 

This Management’s Discussion and Analysis of Financial Condition and Results of Operations discusses and analyzes data in our unaudited Condensed Consolidated Interim Financial Statements, which we have prepared in accordance with generally accepted accounting principles in the United States. Preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses, and related disclosure of contingent assets and liabilities. Management bases its estimates on historical experience and on various other assumptions that it believes to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Senior management has discussed the development, selection and disclosure of these estimates with the Audit Committee of our board of directors. Actual conditions may differ from our assumptions and actual results may differ from our estimates.

 

An accounting policy is deemed critical if it requires an accounting estimate to be made based on assumptions about matters that are highly uncertain at the time the estimate is made, if different estimates reasonably could have been used, or if changes in the estimate that are reasonably likely to occur could materially impact the financial statements. Management believes that there have been no significant changes to the items that we disclosed as our critical accounting policies and estimates in Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the year ended December 31, 2020 as filed with the Securities and Exchange Commission (the “Commission”) on March 11, 2021, except as follows:

 

Business Combinations

 

We account for business combinations, such as the Asterias Merger completed in March 2019, in accordance with Accounting Standards Codification (“ASC”) 805, Business Combinations, which requires the purchase price to be measured at fair value. When the purchase consideration consists entirely of our common shares, we calculate the purchase price by determining the fair value, as of the acquisition date, of shares issued in connection with the closing of the acquisition. We recognize estimated fair values of the tangible assets and intangible assets acquired, including in-process research and development (“IPR&D”), and liabilities assumed as of the acquisition date, and we record as goodwill any amount of the fair value of the tangible and intangible assets acquired and liabilities assumed in excess of the purchase price.

 

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Goodwill and IPR&D

 

Goodwill is calculated as the difference between the acquisition date fair value of the consideration transferred and the values assigned to the assets acquired and liabilities assumed. Goodwill is not amortized but is tested for impairment at least annually, or more frequently if circumstances indicate potential impairment.

 

IPR&D assets are indefinite-lived intangible assets until the completion or abandonment of the associated research and development (“R&D”) efforts. Once the R&D efforts are completed or abandoned, the IPR&D will either be amortized over the asset life as a finite-lived intangible asset or be impaired, respectively, in accordance with ASC 350, Intangibles - Goodwill and Other. In accordance with ASC 350, goodwill and acquired IPR&D are determined to have indefinite lives and, therefore, are not amortized. Instead, they are tested for impairment at least annually and between annual tests if we become aware of an event or a change in circumstances that would indicate the asset may be impaired.

 

Leases

 

We account for leases in accordance with ASC 842, Leases. We determine if an arrangement is a lease at inception. Leases are classified as either financing or operating, with classification affecting the pattern of expense recognition in the consolidated statements of operations. Under the available practical expedients for the adoption of ASC 842, we account for the lease and non-lease components as a single lease component. We recognize right-of-use (“ROU”) assets and lease liabilities for leases with terms greater than twelve months in the condensed consolidated balance sheet.

 

ROU assets represent our right to use an underlying asset during the lease term and lease liabilities represent our obligation to make lease payments arising from the lease. Operating lease ROU assets and liabilities are recognized at commencement date based on the present value of lease payments over the lease term. As most of our leases do not provide an implicit rate, we use our incremental borrowing rate based on the information available at commencement date in determining the present value of lease payments. We use the implicit rate when readily determinable. The operating lease ROU asset also includes any lease payments made and excludes lease incentives. 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 lease payments is recognized on a straight-line basis over the lease term.

 

Operating leases are included as ROU assets in property and equipment, and ROU lease liabilities, current and long-term, in the condensed consolidated balance sheets. Financing leases are included in property and equipment, and in financing lease liabilities, current and long-term, in the condensed consolidated balance sheets.

 

Going Concern Assessment

 

In accordance with Accounting Standards Update (“ASU”) 2014-15, Presentation of Financial Statements – Going Concern, we assess going concern uncertainty in our consolidated financial statements to determine if we have sufficient cash and cash equivalents on hand and working capital to operate for a period of at least one year from the date our consolidated financial statements are issued or are available to be issued, which is referred to as the “look-forward period” as defined by ASU No. 2014-15. As part of this assessment, based on conditions that are known and reasonably knowable to us, we will consider various scenarios, forecasts, projections, and estimates, and we will make certain key assumptions, including the timing and nature of projected cash expenditures or programs, and our ability to delay or curtail those expenditures or programs, if necessary, among other factors. Based on this assessment, as necessary or applicable, we make certain assumptions concerning our ability to curtail or delay research and development programs and expenditures to the extent we deem probable those implementations can be achieved and we have the proper authority to execute them within the look-forward period in accordance with ASU 2014-15.

 

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Results of Operations

 

Comparison of Three Months Ended March 31, 2021 and 2020

 

Revenues and Cost of Sales

 

The amounts in the tables below show our consolidated revenues, by source, and cost of sales for the periods presented (in thousands).

 

   Three Months Ended
March 31, (unaudited)
   $ Increase/   %
Increase/
 
   2021   2020   (Decrease)   (Decrease) 
Grant revenue  $98   $348   $(250)   (72)%
Royalties from product sales and license fees   293    166    127    77%
Total revenues   391    514    (123)   (24)%
Cost of sales   (112)   (94)   (18)   19%
Gross profit  $279   $420   $(141)   (34)%

 

Our total revenues decreased by $0.1 million for the three months ended March 31, 2021 as compared to the same period in the prior year, due to a $0.2 million decrease in grant revenues due to less grant-related activities during the period, offset by a $0.1 million increase in royalties from product sales.

 

Our grant revenues are generated primarily by our subsidiary Cell Cure Neurosciences Ltd. (“Cell Cure”) from the Israel Innovation Authority (“IIA”) for the development of OpRegen and our bio retina program, and from a Small Business Innovation Research grant from the National Institutes of Health for our vision restoration program (the “NIH grant”).

 

The decrease in our grant revenues for the three months ended March 31, 2021 as compared to the same period in the period year, were primarily due to less U.S. based grant-related activities during the period. Grant revenues generated by Cell Cure from the IIA for the development of OpRegen and our bio retina program was $0.1 million both for the three months ended March 31, 2021 and 2020. Grant revenues generated by the NIH grant were $0.2 million for the three months ended March 31, 2020. NIH grant related activities were completed in the third quarter of 2020.

 

Operating expenses

 

The amounts in the tables below are our consolidated operating expenses for the periods presented (in thousands).

 

   Three Months Ended
March 31 (unaudited)
   $ Increase/   %
Increase/
 
   2021   2020   (Decrease)   (Decrease) 
Research and development expenses  $3,394   $3,339   $55    2%
General and administrative expenses   3,935    4,519    (584)   (13)%

 

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Research and development expenses

 

Research and development expenses consist of costs incurred for company-sponsored, collaborative and contracted research and development activities. These costs include direct and research-related overhead expenses including compensation and related benefits, stock-based compensation, consulting fees, research and laboratory fees, rent of research facilities, amortization of intangible assets, and license fees paid to third parties to acquire patents or licenses to use patents and other technology. We expense research and development costs as incurred. Research and development expenses incurred and reimbursed by grants from third parties approximate the grant income recognized in the consolidated statements of operations.

 

The following table shows the amount of our total research and development expenses allocated to our primary research and development projects for the periods presented (in thousands).

 

   Three Months Ended March 31,
(unaudited)
 
   Amount   Percent of Total 
Program  2021   2020   2021   2020 
OpRegen® and other ophthalmic applications  $1,102   $1,869    33%   56%
OPC1   1,666    1,221    49%   37%
VAC platform   584    114    17%   3%
All other programs   42    135    1%   4%
Total research and development expenses  $3,394   $3,339    100%   100%

 

The increase of $0.1 million in total research and development expenses for the three months ended March 31, 2021 as compared to the same period in the prior year is mainly attributable to the following:

 

  a net decrease of $0.8 million in OpRegen and other ophthalmic application expenses, attributable primarily to a decrease in manufacturing activities in 2021 as compared to 2020,
  an increase of $0.4 million in OPC1-related expenses, primarily related to an increase in manufacturing and development activities for this program,
  an increase of $0.5 million in VAC program expenses, primarily related to manufacturing improvement activities.

 

General and administrative expenses

 

General and administrative expenses include employee and director compensation, consulting fees other than those paid for science-related consulting, facilities and equipment rent and maintenance related expenses, insurance costs allocated to general and administrative expenses, costs of patent applications, prosecution and maintenance, stock exchange-related costs, depreciation expense, marketing costs, legal and accounting costs, and other miscellaneous expenses which are allocated to general and administrative expense.

 

The total net decrease of $0.6 million in general and administrative expenses for the three months ended March 31, 2021 compared to the same period in 2020, was primarily attributable to a $0.4 million reduction in Asterias Merger-related expenses, a $0.1 million reduction in legal and patent expenses, a $0.2 million reduction in rent and utilities expenses, and a $0.1 million reduction in compensation expenses, offset by a $0.2 million increase in investor relations expenses.

 

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Other income and (expenses), net

 

The following table shows the amount of other income and (expense), net, for the periods presented (in thousands):

 

   Three Months Ended
March 31, (unaudited)
 
   2021   2020 
Other income (expenses), net          
Interest income, net  $2   $405 
Gain on sale of marketable equity securities   6,024    1,258 
Unrealized gain (loss) on marketable equity securities   1,239    (1,338)
Unrealized gain on warrant liability   18    35 
Other expenses, net   (1,681)   (1,350)
Total other income (expenses), net  $5,602   $(990)

 

Interest income, net – During the three months ended March 31, 2020, we earned $0.4 million of interest income, from our promissory note with Juvenescence. In August 2020, Lineage received $24.6 million from Juvenescence, representing the outstanding principal and accrued interest on the promissory note.

 

Gain on investment in OncoCyte - As of March 31, 2021, Lineage owned 1.1 million shares of OncoCyte common stock. These shares had a fair value of $5.8 million, based on the closing price of OncoCyte common stock of $5.19 per share on March 31, 2021. As of December 31, 2020, Lineage owned 3.6 million shares of OncoCyte common stock. These shares had a fair value of $8.7 million, based on the closing price of OncoCyte common stock of $2.39 per share on December 31, 2020.

 

For the three months ended March 31, 2021, Lineage recorded a realized gain of $6.0 million due to sales of OncoCyte shares in the period. Lineage also recorded a net unrealized gain on marketable equity securities of $1.2 million related to changes in fair market value of OncoCyte’s common stock price during the quarter.

 

For the three months ended March 31, 2020, Lineage recorded a realized gain of $1.1 million due to sales of OncoCyte shares in the period. Lineage also recorded a net unrealized loss on marketable equity securities of $0.3 million related to changes in fair market value of OncoCyte’s common stock price during the quarter.

 

All share prices are determined based on the closing price of OncoCyte common stock on the NYSE American on the applicable dates, or the last day of trading of the applicable quarter, if the last day of a quarter fell on a weekend.

 

We expect our other income and expenses, net, to continue to fluctuate each reporting period based on the changes in the market price of our OncoCyte shares, which could significantly impact our net income or loss reported in our condensed consolidated statements of operations for each period.

 

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Marketable equity securities - We also account for the shares we held in Hadasit Bio-Holdings (“HBL”) and AgeX as marketable equity securities as of March 31, 2021 and 2020. These securities were carried at fair market value on our consolidated balance sheets. For the three months ended March 31, 2021, we did not hold any marketable securities related to AgeX, and the accounting transactions for HBL were not material.

 

For the three months ended March 31, 2020 Lineage recorded a realized gain of $0.2 million due to sales of AgeX shares in the period, and an unrealized loss of $1.0 million due to the changes in fair market value of these marketable securities from December 31, 2019 to March 31, 2020.

 

Other expenses, net - Other expenses, net, in 2021 and 2020 consist primarily of net foreign currency transaction gains and losses recognized by our subsidiaries Cell Cure and ES Cell International Pte. Ltd. (“ESI”), changes in the fair value of warrants issued by Cell Cure, dividend income and interest income, net. Foreign currency transaction gains and losses for the periods presented are principally related to the remeasurement of the U.S. dollar denominated notes payable by Cell Cure to Lineage.

 

Income Taxes

 

The market value of the shares of OncoCyte common stock we hold creates a deferred tax liability based on the closing prices of the shares, less our tax basis in the shares. The deferred tax liability generated by the OncoCyte shares that we hold as of March 31, 2021, is a source of future taxable income to us, as prescribed by ASC 740-10-30-17, that will more likely than not result in the realization of our deferred tax assets to the extent of the deferred tax liability. This deferred tax liability is determined based on the closing prices of the OncoCyte shares as of March 31, 2021. Due to the inherent unpredictability of future prices of those shares, we cannot reliably estimate or project those deferred tax liabilities on an annual basis. Therefore, the deferred tax liability pertaining to OncoCyte shares, determined based on the actual closing prices on the last stock market trading day of the applicable accounting period, and the related impacts to the valuation allowance and deferred tax asset changes, are recorded in the accounting period in which they occur.

 

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In connection with the Asterias Merger, a deferred tax liability of $10.8 million was recorded as part of the acquisition accounting. The deferred tax liability (“DTL”) is related to fair value adjustments for the assets and liabilities acquired in the Asterias Merger, principally consisting of IPR&D. This estimate of deferred taxes was determined based on the excess of the estimated fair values of the acquired assets and liabilities over the tax basis of the assets and liabilities acquired. The statutory tax rate was applied, as appropriate, to the adjustment based on the jurisdiction in which the adjustment is expected to occur. Because the IPR&D (prior to completion or abandonment of the R&D) is considered an indefinite-lived asset for accounting purposes, the fair value of the IPR&D on the acquisition date creates a deferred income tax liability in accordance with ASC 740. This DTL is computed using the fair value of the IPR&D assets on the acquisition date multiplied by Lineage’s respective federal and state income tax rates. While this DTL would reverse on impairment or sale or commencement of amortization of the related intangible assets, those events are not anticipated under ASC 740 for purposes of predicting reversal of a temporary difference to support the realization of deferred tax assets, except for certain deferred tax assets and credit carryforwards that are also indefinite in nature as of the Asterias Merger date, which may be considered for reversal under ASC 740 as further discussed below.

 

A valuation allowance is provided when it is more likely than not that some portion of the deferred tax assets will not be realized. Lineage established a full valuation allowance as of December 31, 2018 due to the uncertainty of realizing future tax benefits from its net operating loss carryforwards and other deferred tax assets, including foreign net operating losses generated by its subsidiaries. During the year ended December 31, 2020, a portion of the valuation allowance was released as it relates to Lineage’s indefinite lived assets that can be used against the indefinite lived liabilities. The amount of the valuation allowance released was $1.2 million; as new indefinite lived deferred tax assets are generated, we will continue to book provision benefits until the deferred tax liability position is exhausted, barring any new developments.

 

For the three months ended March 31, 2021 and 2020, Lineage did not record any provision or benefit for income taxes, as Lineage had taxable income related to a gain on the sale of OncoCyte shares in both periods. This taxable income was offset by net operating loss carryforwards.

 

We expect that deferred income tax expense or benefit we record each reporting period, if any, will vary depending on the change in the closing stock prices of OncoCyte shares from period to period and the related changes in those deferred tax liabilities and our deferred tax assets and other credits, including changes in the valuation allowance, for each period.

 

See Note 3 to our condensed consolidated interim financial statements included elsewhere in this Report for a description of the Asterias Merger that was completed on March 8, 2019. We have concluded that an ownership change did occur after the Asterias Merger, and the acquired operating loss carryforwards are subject to limitation under Section 382 of the Internal Revenue Service Code; Lineage will only be able to utilize $52.8 million of these operating loss carryforwards.

 

Liquidity and Capital Resources

 

At March 31, 2021, we had $62.4 million of cash, cash equivalents and marketable equity securities on hand, which includes our investments in OncoCyte and HBL. We may use our marketable equity securities for liquidity, as necessary, and as market conditions allow. The market value may not represent the amount that could be realized in a sale of investment shares due to various market and regulatory factors, including trading volume or market depth factors and volume and manner of sale restrictions under Federal securities laws, prevailing market conditions and prices at the time of any sale, and subsequent sales of securities by the entities. In addition, the value of our marketable equity securities may be significantly and adversely impacted by deteriorating global economic conditions and the recent disruptions to and volatility in the credit and financial markets in the United States and worldwide resulting from the ongoing COVID-19 pandemic.

 

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Since inception, we have incurred significant operating losses and have funded our operations primarily through the issuance of equity securities, the sale of common stock of our former subsidiaries, OncoCyte and AgeX, payments from research grants, royalties from product sales and sales of research products and services. At March 31, 2021, we had an accumulated deficit of $295.5 million, working capital of $58.0 million and shareholders’ equity of $116.6 million. We evaluated the projected cash flows for Lineage and our subsidiaries, and we believe that our $62.4 million in cash, cash equivalents and marketable equity securities provide sufficient cash, cash equivalents, and liquidity to carry out our current planned operations through at least twelve months from the issuance date of our condensed consolidated interim financial statements included elsewhere in this Report. If we need near term working capital or liquidity to supplement our cash and cash equivalents for our operations, we may sell some, or all, of our investments, as necessary.

 

The COVID-19 pandemic has impacted patient enrollment in our OpRegen Phase 1/2a multicenter clinical trial and the VAC2 Phase 1 multicenter clinical trial. In particular, we saw sites pause enrollment to focus on, and direct resources to, the COVID-19 pandemic. Additionally, patients may choose not to enroll or continue participating in clinical trials as a result of the pandemic. At this point in time, the majority of our sites are back up and enrolling. We are unable to predict with confidence if there will be future patient enrollment delays and difficulties as the COVID-19 pandemic continues. If patient enrollment is delayed for an extended period of time, such clinical trials could be delayed or otherwise adversely affected. Our inability to enroll a sufficient number of patients for any of our current or future clinical trials could result in significant delays.

 

Our projected cash flows are subject to various risks and uncertainties, and the unavailability or inadequacy of financing to meet future capital needs could force us to modify, curtail, delay, or suspend some or all aspects of our current planned operations. Our determination as to when we will seek new financing and the amount of financing that we will need will be based on our evaluation of the progress we make in our research and development programs, any changes to the scope and focus of those programs, any changes in grant funding for certain of those programs, and projection of future costs, revenues, and rates of expenditure. Our ability to raise additional funds may be adversely impacted by deteriorating global economic conditions and the disruptions to and volatility in the credit and financial markets in the United States and worldwide resulting from the ongoing COVID-19 pandemic. We may be required to delay, postpone, or cancel our clinical trials or limit the number of clinical trial sites, unless we are able to obtain adequate financing. We cannot assure that adequate financing will be available on favorable terms, if at all. Sales of additional equity securities by us or our subsidiaries and affiliates could result in the dilution of the interests of our current shareholders.

 

Cash flows used in operating activities

 

Net cash used in operating activities of $7.4 million for the three months ended March 31, 2021 primarily reflects the loss from operations of $7.1 million plus the changes in assets and liabilities of $1.3 million. These items were offset primarily by non-cash expenses of $0.5 million for stock-based compensation and $0.3 million of depreciation and amortization. The unrealized gain on marketable equity securities had no effect on cash flows.

 

Net cash used in operating activities of $5.0 million for the three months ended March 31, 2020 primarily reflects the loss from operations of $7.4 million less the changes in assets and liabilities of $0.6 million. These items were offset primarily by non-cash expenses of $0.7 million of depreciation and amortization and $0.6 million for stock-based compensation. The unrealized loss on marketable securities had no effect on cash flows.

 

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Cash flows provided by investing activities

 

Cash provided by investing activities of $10.1 million for the three months ended March 31, 2021 was associated primarily with receipts of $10.1 million from sales of a portion of our OncoCyte holdings.

 

Cash provided by investing activities of $5.3 million for the three months ended March 31, 2020 was associated primarily with receipts of $5.0 million from sales of a portion of our OncoCyte holdings and $0.3 million from sales of a portion of our AgeX holdings.

 

Cash flows provided by financing activities

 

Cash provided by financing activities of $21.0 million for the three months ended March 31, 2021 was associated primarily with net proceeds of $19.3 million from the sale of common shares and proceeds of $1.7 million from the exercise of employee stock options.

 

Cash used in financing activities for the three months ended March 31, 2020 was $10,000.

 

Off-Balance Sheet Arrangements

 

As of March 31, 2021 and December 31, 2020, we did not have any off-balance sheet arrangements, as defined in Item 303(a)(4)(ii) of Commission Regulation S-K.

 

Item 3. Quantitative and Qualitative Disclosures about Market Risk

 

Under Commission rules and regulations, as a smaller reporting company, we are not required to provide the information required by this item.

 

Item 4. Controls and Procedures

 

Evaluation of Disclosure Controls and Procedures

 

It is management’s responsibility to establish and maintain adequate internal control over all financial reporting pursuant to Rule 13a-15 under the Exchange Act. Our management, including our principal executive officer and our principal financial officer, have reviewed and evaluated the effectiveness of our disclosure controls and procedures as of the end of the period covered by this Report. Following this review and evaluation, management collectively determined that our disclosure controls and procedures are effective to ensure that information required to be disclosed by us in reports that we file or submit under the Exchange Act: (i) is recorded, processed, summarized and reported within the time periods specified in Commission rules and forms; and (ii) is accumulated and communicated to management, including our chief executive officer and our chief financial officer, as appropriate to allow timely decisions regarding required disclosure.

 

Changes in Internal Control over Financial Reporting

 

There were no changes in our internal control over financial reporting that occurred during the period covered by this Report that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

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PART II - OTHER INFORMATION

 

Item 1. Legal Proceedings

 

The information required by this Item is incorporated herein by reference to Notes to Condensed Consolidated Interim Financial Statements—Note 15. “Commitments and Contingencies” under the heading “Litigation,” in Part I, Item 1, of this Report.

 

From time-to-time we may be involved in a variety of claims or litigation proceedings. Such proceedings may initially be viewed as immaterial but could later prove to be material. Litigation proceedings are inherently unpredictable and excessive verdicts do occur. Given the inherent uncertainties in litigation, even when we can reasonably estimate the amount of possible loss or range of loss and reasonably estimable loss contingencies, the actual outcome may change in the future due to new developments or changes in approach. In addition, such claims or litigation proceedings could involve significant expense and diversion of management’s attention and resources from other matters.

 

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Item 1A. Risk Factors

 

An investment in our common shares involves a high degree of risk. You should carefully consider the following risk factors, as well as the other information in this Report, before deciding whether to purchase, hold or sell our common shares. The occurrence of any of the following risks could harm our business, financial condition, results of operations and/or growth prospects or cause our actual results to differ materially from those contained in forward-looking statements we have made in this Report and those we may make from time to time. You should consider all of the risk factors described when evaluating our business. We have marked with an asterisk (*) those risk factors that reflect changes from the similarly titled risk factors included in Item 1A of our Annual Report on Form 10-K for the fiscal year ended December 31, 2020, as filed with the Commission on March 11, 2021.

 

Risks Related to Our Business Operations and Capital Requirements

 

We have incurred operating losses since inception, and we do not know if or when we will attain profitability.*

 

Our total operating losses for the fiscal year ended December 31, 2020 were $26.4 million and our total operating losses for the three months ended March 31, 2021 were $7.1 million, and we had an accumulated deficit of $295.5 million as of March 31, 2021. Since inception, we have incurred significant operating losses and have funded our operations primarily through sales of our equity securities and the equity securities of former subsidiaries, receipt of research grants, royalties on product sales, license revenues, sales of research products, and revenues from subscription fees and advertising revenue from database products of a former subsidiary. Substantially all of our losses have resulted from expenses incurred in connection with our research and development programs and from general and administrative costs associated with our operations. All of our product candidates will require substantial additional development time and resources before we would be able to apply for or receive regulatory approvals. We expect to continue to incur losses for the foreseeable future, and we anticipate these losses will increase substantially as we continue our development of, seek regulatory approval for and potentially commercialize any of our product candidates and seek to identify, assess, acquire, in-license or develop additional product candidates.

 

To become and remain profitable, we must succeed in developing and eventually commercializing products that generate significant revenue. This will require us to be successful in a range of challenging activities, including completing clinical trials and preclinical trials of our product candidates, obtaining regulatory approval for these product candidates and manufacturing, marketing and selling any products for which we may obtain regulatory approval. In addition, we are attempting to develop new medical products and technology. We may never succeed in these activities and, even if we do, may never generate revenues that are significant enough to achieve profitability.

 

We will continue to spend a substantial amount of our capital on research and development, but we might not succeed in developing products and technologies that are useful in medicine.*

 

We are attempting to develop new medical products and technology. These new products and technologies might not prove to be safe and efficacious in the human medical applications for which they are being developed. Our research and development activities are costly, time consuming, and their results are uncertain. We incurred research and development expenses amounting to approximately $3.4 million during the three months ended March 31, 2021, and $12.3 million during the fiscal year ended December 31, 2020. If we successfully develop a new technology or product, refinement of the new technology or product and definition of the practical applications and limitations of the technology or product may take years and require large sums of money. Clinical trials of new therapeutic products, particularly those products that are regulated as biologics, drugs, or devices, are very expensive and take years to complete. We may not have the financial resources to fund clinical trials on our own and we may have to enter into licensing or collaborative arrangements with others. Any such arrangements may be dilutive to our ownership or economic interest in the products we develop, and we might have to accept royalty payments on product sales rather than receiving the gross revenues from product sales. In addition, we may discontinue one or more of the research or product development programs. Our product and technology development programs may be delayed or discontinued should adequate funding on acceptable terms not be available.

 

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The amount and pace of research and development work that we can do or sponsor, and our ability to commence and complete clinical trials required to obtain regulatory approval to market our therapeutic and medical device products, depends upon the amount of funds we have.*

 

At March 31, 2021, we had $62.4 million of cash, cash equivalents and marketable equity securities. There can be no assurance that we will be able to raise additional funds on favorable terms or at all, or that any funds raised will be sufficient to permit us to develop and market our products and technology, if and when approved. Our ability to raise additional funds may be adversely impacted by deteriorating global economic conditions and the disruptions to and volatility in the credit and financial markets in the United States and worldwide resulting from the ongoing COVID-19 pandemic. Unless we are able to generate sufficient revenue or raise additional funds when needed, it is likely that we will be unable to continue our planned activities, even if we make progress in our research and development projects. We may have to postpone or limit the pace of our research and development work and planned clinical trials of our product candidates unless our cash resources increase through a growth in revenues, royalties, license fees, equity financings or borrowings.

 

We will need to issue additional equity or debt securities in order to raise additional capital needed to pay our operating expenses.

 

We expect to continue to incur substantial research and product development expenses and will need to raise additional capital to pay operating expenses until we are able to generate sufficient revenues from product sales, royalties and license fees. Our ability to raise additional equity or debt capital will depend, not only on progress made in developing new products and technologies, but also on access to capital and conditions in the capital markets. We believe that our cash, cash equivalents and marketable securities as of March 31, 2021 will be sufficient to fund our planned operations for at least the next 12 months. We have based these estimates on assumptions that may prove to be wrong, and we may use our capital resources sooner than we currently expect. Our operating plans and other demands on our cash resources may change as a result of many factors currently unknown to us, and we may need to seek additional funds sooner than planned. Any equity capital raise could result in the dilution of the interests of shareholders or may otherwise limit our ability to finance further in the future, which may negatively impact our business and operations. Any debt capital financing may involve covenants that restrict our operations, including limitations on additional borrowing and on the use of our assets. If we raise capital through licensing arrangements, it may be necessary to grant licenses on terms that are not favorable to us. There can be no assurance that we will be able to raise capital on favorable terms, or at all, or at times and in amounts needed to successfully finance product development, clinical trials, and general operations.

 

Lawsuits have been filed and other lawsuits may be filed against our company and certain members of our company’s and Asterias Biotherapeutics, Inc.’s (“Asterias”) boards of directors relating to our acquisition of Asterias (the “Asterias Merger”). An adverse ruling in any such lawsuit may result in additional payments and costs.

 

A putative class action lawsuit alleging breach of fiduciary duties in connection with the Asterias Merger is pending in the Delaware Chancery Court. The defendants are certain former members of Asterias’ board of directors and our company’s board of directors. The complaint alleges that the merger process was conflicted, that the consideration was inadequate, and that the proxy statement filed by Asterias was misleading. The complaint seeks, among other things, certification of a class, rescission of the merger or monetary damages, and attorneys’ fees and costs.

 

The defendants specifically deny all allegations in the litigation and intend to defend it vigorously. However, any adverse ruling in this case could result in additional payments. Additional lawsuits arising out of or relating to the merger agreement and/or the merger may be filed in the future.

 

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Changes in tax laws or regulations that are applied adversely to us or our customers may have a material adverse effect on our business, cash flow, financial condition or results of operations.

 

New income, sales, use or other tax laws, statutes, rules, regulations or ordinances could be enacted at any time, which could adversely affect our business operations and financial performance. Further, existing tax laws, statutes, rules, regulations or ordinances could be interpreted, changed, modified or applied adversely to us. For example, the 2017 Tax Act, enacted many significant changes to the U.S. tax laws. Future guidance from the Internal Revenue Service and other tax authorities with respect to the 2017 Tax Act may affect us, and certain aspects of the 2017 Tax Act could be repealed or modified in future legislation. For example, the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”) and the Consolidated Appropriations Act, 2021 (CA) modified certain provisions of the 2017 Tax Act. In addition, it is uncertain if and to what extent various states will conform to the 2017 Tax Act, the CARES Act, or any newly enacted federal tax legislation. Changes in corporate tax rates, the realization of net deferred tax assets relating to our operations, the taxation of foreign earnings, and the deductibility of expenses under the 2017 Tax Act or future reform legislation could have a material impact on the value of our deferred tax assets, could result in significant one-time charges, and could increase our future U.S. tax expense.

 

Our ability to use net operating losses and other tax attributes to offset future taxable income or taxes may be subject to limitations.

 

As of December 31, 2020, we had net operating loss (“NOL”) carryforwards for U.S. federal and state tax purposes of approximately $169.9 million and $118.6 million, respectively. Included in these amounts are NOLs acquired through the merger with Asterias (see below). A portion of the federal and state NOL carryforwards will begin to expire, if not utilized, in varying amounts between 2027 and 2037. NOLs that expire unused will be unavailable to offset future income tax liabilities. Under federal income tax law, federal NOLs incurred in tax years beginning after December 31, 2017, may be carried forward indefinitely, but the deductibility of such NOLs in tax years beginning after December 31, 2020, is limited to 80% of taxable income. It is uncertain if and to what extent various states that we may operate in will conform to the federal tax law. In addition, under Sections 382 and 383 of the Internal Revenue Code of 1986, as amended (the “IRC”), and corresponding provisions of state law, if a corporation undergoes an “ownership change,” which is generally defined as a greater than 50% change, by value, in its equity ownership over a three-year period, the corporation’s ability to use its pre-change NOL carryforwards and other pre-change tax attributes to offset its post-change income or taxes may be limited. We may experience ownership changes in the future as a result of subsequent shifts in our stock ownership, some of which may be outside of our control. If an ownership change occurs and our ability to use our NOL carryforwards is materially limited, it would harm our future operating results by effectively increasing our future tax obligations. In addition, at the state level, there may be periods during which the use of net operating loss carryforwards is suspended or otherwise limited, which could accelerate or permanently increase state taxes owed. For example, in 2020 California enacted A.B. 85 which imposed limits on the usability of California state net operating losses and certain tax credits in tax years beginning after 2019 and before 2023.

 

As part of the merger with Asterias, we acquired various tax attribute carryforwards including federal and California NOLs of $52.8 million and $41.9 million, respectively, as well as California research and development credits of $2.4 million. As a result of the merger, Asterias incurred an ownership change under Section 382 of the IRC, which places annual limits on the amount of these NOLs that are available to offset income. Because of the annual limitation, the total amount of these NOLs is not immediately available to offset future income. The California research and development credit of $2.4 million has no expiration date.

 

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Taxing authorities could reallocate our taxable income among our subsidiaries, which could increase our overall tax liability.

 

We are organized in the United States, and currently have subsidiaries in Israel and Singapore. If we succeed in growing our business, we expect to conduct increased operations through subsidiaries in various tax jurisdictions pursuant to transfer pricing arrangements between us and our subsidiaries. If two or more affiliated companies are located in different countries, the tax laws or regulations of each country generally will require that such arrangements be priced the same as those between unrelated companies dealing at arm’s length and that appropriate documentation is maintained to support the value of such arrangements. Our transfer pricing policies were formulated with the assistance of third-party experts. We are in the process of obtaining a formal transfer pricing report. However, after we receive such report, we do not intend to amend our returns for prior years. Whether we obtain a formal transfer pricing study with outside experts or not, our transfer pricing procedures will not be binding on applicable tax authorities.

 

If tax authorities in any of these countries were to successfully challenge our transfer prices as not reflecting arm’s length transactions, they could require us to adjust our transfer prices and thereby reallocate our income to reflect these revised transfer prices, which could result in a higher tax liability to us. In addition, if the country from which the income is reallocated does not agree with the reallocation, both countries could tax the same income, resulting in double taxation. If tax authorities were to allocate income to a higher tax jurisdiction, subject our income to double taxation or assess interest and penalties, it would increase our tax liability, which could adversely affect our financial condition, results of operations and cash flows.

 

Our business and operations could suffer in the event of system failures.

 

Despite the implementation of security measures, our internal computer systems and those of our contractors and consultants are vulnerable to damage from computer viruses, unauthorized access, natural disasters including earthquakes and tsunamis, terrorism, war, and telecommunication and electrical failures. Such events could cause significant interruption of our operations and development programs. For example, the loss of data for our product candidates could result in delays in our regulatory filings and development efforts and significantly increase our costs. To the extent that any disruption or security breach was to result in a loss of or damage to our data, or inappropriate disclosure of confidential or proprietary information, we could incur liability and the development of our product candidates could be delayed.

 

In addition, our product candidates are manufactured by starting with cells that are stored in a cryopreserved master cell bank. While we believe we have adequate backup should any cell bank be lost in a catastrophic event, we or our third-party suppliers and manufacturers could lose multiple cell banks, which would severely affect our manufacturing activities. We cannot assure you that any stability or other issues relating to the manufacture of any of our product candidates or products will not occur in the future. Any delay or interruption in the supply of clinical trial supplies could delay the completion of planned clinical trials, increase the costs associated with maintaining clinical trial programs and, depending upon the period of delay, require us to commence new clinical trials at additional expense or terminate clinical trials completely. Any adverse developments affecting clinical or commercial manufacturing of our product candidates or products may result in shipment delays, inventory shortages, lot failures, product withdrawals or recalls or other interruptions in the supply of our product candidates or products. Accordingly, failures or difficulties faced at any level of our supply chain could adversely affect our business and delay or impede the development and commercialization of any of our product candidates or products and could have an adverse effect on our business, prospects, financial condition and results of operations.

 

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Our business could be adversely affected if we lose the services of the key personnel upon whom we depend or if we fail to attract senior management and key scientific personnel.

 

We believe that our continued success depends to a significant extent upon our efforts and ability to retain highly qualified personnel, including our Chief Executive Officer, Brian Culley. All of our officers and other employees are at-will employees and may terminate their employment with us at any time with no advance notice. The loss of the services of Mr. Culley or other members of our senior management could have a material adverse effect on us. Further, the replacement of any of such individuals likely would involve significant time and costs and may significantly delay or prevent the achievement of our business and clinical objectives and would harm our business.

 

In addition, we could experience difficulties attracting qualified employees in the future. For example, competition for qualified personnel in the biotechnology and medical device field is intense due to the limited number of individuals who possess the skills and experience required by our industry. We will need to hire additional personnel, including experienced sales representatives, as we expand our clinical development and commercial activities. We may not be able to attract quality personnel on acceptable terms, or at all. In addition, to the extent we hire personnel from competitors, we may be subject to allegations that they have been improperly solicited or that they have divulged proprietary or other confidential information or that their former employers own their research output.

 

The value of our investments in public companies fluctuates based on their respective stock prices and could be negatively affected by business, regulatory and other risks applicable to them.*

 

As of March 31, 2021, we had an equity investment in OncoCyte, a U.S. publicly traded company. As of March 31, 2021, the value of our investment in OncoCyte was approximately $5.8 million based on its closing stock price as of that date. If OncoCyte were to have delays in clinical trials or commercialization activities or otherwise realize the specific business, regulatory and other risks applicable to them, the value of its common stock and the valuation of our investment could be negatively affected. If OncoCyte were to fail and ultimately cease operations, we may lose the entire value of our investment. In addition, the value of our marketable equity securities may be significantly and adversely impacted by deteriorating global economic conditions and the disruptions to and volatility in the credit and financial markets in the United States and worldwide resulting from the ongoing COVID-19 pandemic.

 

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Risks Related to Government Regulation

 

We may be subject, directly or indirectly, to federal and state healthcare fraud and abuse laws, including anti-kickback and false claims laws, transparency laws, and health information privacy and security laws. If we are unable to comply, or have not fully complied, with such laws, we could face substantial penalties.*

 

Our current and future operations may be subject to various federal and state fraud and abuse laws, including, without limitation, the federal Anti-Kickback Statute, the federal False Claims Act, and healthcare professional transparency laws and regulations. These laws may impact, among other things, our research activities and our proposed sales, marketing, and education programs. In addition, we may be subject to patient privacy regulation by both the federal government and the states in which we conduct our business. The laws that may affect our ability to operate include:

 

  the federal Anti-Kickback Statute, which prohibits, among other things, persons from knowingly and willfully soliciting, receiving, offering or paying remuneration, directly or indirectly, to induce, or in return for, the purchase or recommendation of an item or service reimbursable under a federal healthcare program, such as the Medicare and Medicaid programs;

 

  federal civil and criminal false claims laws, including the federal False Claims Act, and civil monetary penalty laws, which prohibit, among other things, individuals or entities from knowingly presenting, or causing to be presented, claims for payment from Medicare, Medicaid, or other third-party payors that are false or fraudulent;
     
  the federal Health Insurance Portability and Accountability Act of 1996 (“HIPAA”), which created new federal criminal statutes that prohibit, among other things, executing a scheme to defraud any healthcare benefit program and making false statements relating to healthcare matters;

 

  HIPAA, as amended by the Health Information Technology for Economic and Clinical Health Act, (“HITECH”) and their implementing regulations, which imposes certain requirements on “covered entities,” including certain healthcare providers, health plans, and healthcare clearinghouses, as well as their respective “business associates” that create, receive, maintain or transmit individually identifiable health information for or on behalf of a covered entity, and their subcontractors that use, disclose, access, or otherwise process individually identifiable protected health information, relating to the privacy, security, and transmission of individually identifiable health information;
     
  The Physician Payments Sunshine Act which requires manufacturers of drugs, devices, biologics, and medical supplies to report annually to the Centers for Medicare & Medicaid Services (“CMS”), information related to payments and other transfers of value to physicians (defined to include doctors, dentists, optometrists, podiatrists, and chiropractors) and teaching hospitals, and ownership and investment interests held by physicians and their immediate family members and applicable group purchasing organizations, and, beginning in 2022 will require applicable manufacturers to report information regarding payments and other transfers of value provided during the previous year to physician assistants, nurse practitioners, clinical nurse specialists, certified nurse anesthetists and anesthesiologist assistants, and certified nurse-midwives; and
     
  state law equivalents of each of the above federal laws, such as anti-kickback and false claims laws that may apply to items or services reimbursed by any third-party payors, including commercial insurers, state laws that require pharmaceutical companies to comply with the pharmaceutical industry’s voluntary compliance guidelines and the relevant compliance guidance promulgated by the federal government, or otherwise restrict payments that may be made to healthcare providers and other potential referral sources; state laws that require drug manufacturers to report information related to payments and other transfers of value to physicians and other healthcare providers, marketing expenditures, or drug pricing, state and local laws that require the registration of pharmaceutical sales representatives, and state laws governing the privacy and security of health information in certain circumstances, many of which differ from each other in significant ways and may not have the same effect, thus complicating compliance efforts.

 

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Because of the breadth of these laws and the narrowness of the statutory exceptions and regulatory safe harbors available, it is possible that some of our business activities could be subject to challenge under one or more of such laws. In addition, recent health care reform legislation has strengthened these laws.

 

If our operations are found to be in violation of any of the laws described above or any other governmental regulations that apply, we may be subject to significant penalties, including administrative, civil and criminal penalties, damages, fines, disgorgement, exclusion from participation in government health care programs, such as Medicare and Medicaid, integrity oversight and reporting obligations, imprisonment, and the curtailment or restructuring of our operations, any of which could adversely affect our ability to operate our business and our results of operations.

 

If we do not receive regulatory approvals, we will not be permitted to sell our therapeutic and medical device products.

 

The therapeutic and medical device products that we and our subsidiaries develop cannot be sold until the FDA and corresponding foreign regulatory authorities approve the products for medical use. The need to obtain regulatory approval to market a new product means that:

 

  We will have to conduct expensive and time-consuming clinical trials of new products. The full cost of conducting and completing clinical trials necessary to obtain FDA and foreign regulatory approval of a new product cannot be presently determined but could exceed our current financial resources.
     
  Clinical trials and the regulatory approval process for a pharmaceutical or cell-based product can take several years to complete. As a result, we will incur the expense and delay inherent in seeking FDA and foreign regulatory approval of new products, even if the results of clinical trials are favorable.
     
  Data obtained from preclinical and clinical studies is susceptible to varying interpretations and regulatory changes that could delay, limit, or prevent regulatory agency approvals.
     
  Because the therapeutic products we are developing with pluripotent stem cell technology involve the application of new technologies and approaches to medicine, the FDA or foreign regulatory agencies may subject those products to additional or more stringent review than drugs or biologics derived from other technologies.
     
  A product that is approved may be subject to restrictions on use.
     
  The FDA can recall or withdraw approval of a product, if it deems necessary.
     
  We will face similar regulatory issues in foreign countries.

 

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Government-imposed bans or restrictions and religious, moral, and ethical concerns about the use of hES cells could prevent us from developing and successfully marketing stem cell products.

 

Government-imposed bans or restrictions on the use of embryos or hES cells in research and development in the United States and abroad could generally constrain stem cell research, thereby limiting the market and demand for our products. During March 2009, the federal government, pursuant to a presidential executive order, lifted certain restrictions on federal funding of research involving the use of hES cells, and in accordance with the executive order, the National Institutes of Health (“NIH”) has adopted guidelines for determining the eligibility of hES cell lines for use in federally funded research. The central focus of the guidelines is to assure that hES cells used in federally funded research were derived from human embryos that were created for reproductive purposes, were no longer needed for this purpose, and were voluntarily donated for research purposes with the informed written consent of the donors. The hES cells that were derived from embryos created for research purposes rather than reproductive purposes, and other hES cells that were not derived in compliance with the guidelines, are not eligible for use in federally funded research. California law requires that stem cell research be conducted under the oversight of a stem cell review oversight committee (“SCRO”). Many kinds of stem cell research, including the derivation of new hES cell lines, may only be conducted in California with the prior written approval of the SCRO. A SCRO could prohibit or impose restrictions on the research that we plan to do. The use of hES cells may give rise to religious, moral, and ethical issues. These considerations could lead to more restrictive government regulations or could generally constrain stem cell research, thereby limiting the market and demand for our products.

 

We expect that the commercial opportunity for some of our products may depend on our ability to obtain reimbursement and continued coverage from various payors, including government entities and insurance companies.

 

If these third-party payors do not consider our products to be cost-effective compared to other therapies, they may not cover our products as a benefit under their plans or, if they do, the level of payment may not be sufficient to allow us to sell our products on a profitable basis.

 

For example, in the United States, healthcare providers are reimbursed for covered services and products they deliver through Medicare, Medicaid and other government healthcare programs, as well as through private payers. No uniform policy for coverage and reimbursement exists in the United States, and coverage and reimbursement can differ significantly from payor to payor. Decisions regarding whether to cover any of our product candidates, if approved, the extent of coverage and amount of reimbursement to be provided are made on a plan-by-plan basis. Third-party payors often rely upon Medicare coverage policy and payment limitations in setting their own reimbursement rates, but also have their own methods and approval process apart from Medicare determinations. As a result, the coverage determination process is often a time-consuming and costly process that will require us to provide scientific and clinical support for the use of our product candidates to each payor separately, with no assurance that coverage and adequate reimbursement will be applied consistently or obtained in the first instance. We may be required to provide specified rebates or discounts on the products we sell to certain government funded programs, including Medicare and Medicaid, and those rebates or discounts have increased over time. The Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act (collectively, the “ACA”), enacted in 2010, increased many of the mandatory discounts and rebates and imposed a new branded prescription pharmaceutical manufacturers and importers fee payable each year by certain manufacturers.

 

We face similar issues outside of the United States. In some non-U.S. jurisdictions, the proposed pricing for a drug must be approved before it may be lawfully marketed. The requirements governing drug pricing vary widely from country to country. For example, the EU provides options for its member states to restrict the range of medicinal products for which their national health insurance systems provide reimbursement and to control the prices of medicinal products for human use. A member state may approve a specific price for the medicinal product, or it may instead adopt a system of direct or indirect controls on the profitability of the company placing the medicinal product on the market. There can be no assurance that any country that has price controls or reimbursement limitations for pharmaceutical products will allow favorable reimbursement and pricing arrangements for any of our products. Historically, products launched in the EU do not follow price structures of the United States and generally tend to be significantly lower.

 

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Disruptions at the FDA and other government agencies caused by funding shortages or global health concerns could negatively impact our business.

 

The ability of the FDA to review and approve proposed clinical trials or new product candidates can be affected by a variety of factors, including, but not limited to, government budget and funding levels, ability to hire and retain key personnel and accept the payment of user fees, statutory, regulatory, and policy changes, and other events that may otherwise affect the FDA’s ability to perform routine functions. Average review times at the agency have fluctuated in recent years as a result. In addition, government funding of other government agencies that fund research and development activities is subject to the political process, which is inherently fluid and unpredictable.

 

Disruptions at the FDA and other agencies may also slow the time necessary for new product candidates to be reviewed and/or approved by necessary government agencies, which would adversely affect our business. For example, over the last several years, including for 35 days beginning on December 22, 2018, the U.S. government has shut down several times and certain regulatory agencies, such as the FDA, have had to furlough critical FDA employees and stop critical activities.

 

Separately, in response to the global COVID-19 pandemic, in March 2020, the FDA announced its intention to postpone most foreign inspections of manufacturing facilities and temporarily postponed routine surveillance inspections of domestic manufacturing facilities. In July 2020 domestic inspections restarted only on a risk-based basis. Regulatory authorities outside the United States may adopt similar restrictions or other policy measures in response to the COVID-19 pandemic. If a prolonged government shutdown occurs, or if global health concerns continue to prevent the FDA or other regulatory authorities from conducting their regular inspections, reviews, or other regulatory activities, it could significantly impact the ability of the FDA or other regulatory authorities to timely review and process our regulatory submissions, which could have a material adverse effect on our business.

 

The ACA and future changes to that law may adversely affect our business.*

 

As a result of the adoption of the ACA, in the United States, substantial changes have been made to the system for paying for healthcare in the United States. Among the ACA’s provisions of importance to our industry are that it:

 

  created the branded prescription pharmaceutical manufacturers and importers annual fee;
     
  increased the statutory minimum rebates a manufacturer must pay under the Medicaid Drug Rebate Program, to 23.1% and 13% of the average manufacturer price for most branded and generic drugs, respectively and capped the total rebate amount for innovator drugs at 100% of the Average Manufacturer Price;