10-Q
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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 September 30, 2020
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:
001-37500
 
 
Chiasma, Inc.
(Exact name of registrant as specified in its charter)
 
 
 
Delaware
 
76-0722250
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
140 Kendrick Street, Building C East
Needham, Massachusetts 02494
(Address of principal executive office) (Zip Code)
(617)
928-5300
(Registrant’s telephone number, including area code)
Not Applicable
(Former name or former address, if changed since last report)
Securities registered pursuant to Section 12(b) of the Act:
 
Title of each class
 
Trading Symbol(s)
 
Name of each exchange on which registered
Common Stock, $0.01 par value
 
CHMA
 
NASDAQ Global Select Market
 
 
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  
As of November 2, 2020,
 
there were 57,804,095 shares of the registrant’s 
Common Stock, $0.01 par value per share, outstanding.
 
 
 

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CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
This Quarterly Report on
Form 10-Q
contains forward-looking statements. These statements include all matters that are not related to present facts or current conditions or that are not historical facts, including statements regarding our strategy, future operations, future financial position, future revenue, projected costs, prospects, plans, objectives of management and expected market growth. The words “anticipate,” “believe,” “could,” “continue,” “should,” “predict,” “estimate,” “expect,” “intend,” “may,” “plan,” “potentially,” “will,” “would,” or the negative of these terms or other similar expressions are intended to identify forward-looking statements, although not all forward-looking statements contain these identifying words. These forward-looking statements include, but are not limited to, statements about:
 
   
our manufacturing supplement, or
CBE-30
supplement, to our approved NDA for our oral octreotide capsules product candidate, MYCAPSSA, for long-term maintenance treatment in acromegaly patients who have responded to and tolerated treatment with octreotide or lanreotide;
 
   
our expectations regarding the FDA’s ongoing review our
CBE-30
supplement, to our approved NDA and the FDA’s acceptance and review of the second
CBE-30
supplement we plan to submit;
 
   
our ability to obtain supply of sufficient amounts of octreotide capsules to support our commercial launch in the United States and clinical trials;
 
   
our commercial launch of MYCAPSSA in the United States, including our plans with respect our customer-facing team, the nature and success of our ongoing and planned commercialization activities and strategy, our pricing of MYCAPSSA, and related assumptions;
 
   
our views as to potential future results of our commercialization efforts in the United States with respect to MYCAPSSA, including our expectations with respect to the scope, level and availability of reimbursement by private and government payors;
 
   
our development of octreotide capsules for the treatment of acromegaly;
 
   
our efforts to potentially obtain regulatory approval of octreotide capsules in the European Union by conducting the MPOWERED Phase 3 clinical trial;
 
   
the timing and receipt and announcement of
top-line
and other clinical data, including our ability to release
top-line
data from the MPOWERED trial in November 2020;
 
   
the therapeutic benefits, effectiveness and safety of octreotide capsules;
 
   
our estimates of the size and characteristics of the markets that may be addressed by octreotide capsules;
 
   
the commercial success and market acceptance of octreotide capsules or any future product candidates that are approved for marketing in the United States or other countries;
 
   
our ability to generate future revenue;
 
   
the safety and efficacy of therapeutics marketed by our competitors that are targeted to indications which octreotide capsules have been developed to treat;
 
   
our ability to leverage our Transient Permeability Enhancer, or TPE, platform to develop and commercialize novel oral product candidates incorporating peptides that are currently only available in injectable or other
non-absorbable
forms;
 
   
the possibility that competing products or technologies may make MYCAPSSA, other product candidates we may develop and commercialize or our TPE technology obsolete;
 
   
our ability to secure collaborators to license, manufacture, market and sell octreotide capsules or any products for which we receive regulatory approval in the future;
 
   
our ability to protect our intellectual property and operate our business without infringing upon the intellectual property rights of others;
 
   
our product development and operational plans generally;
 
   
the impact of the
COVID-19
pandemic on our commercialization efforts of MYCAPSSA, regulatory submission and potential approvals, and our business generally; and
 
   
our estimates and expectations regarding our capital requirements, cash and expense levels and liquidity sources.
These forward-looking statements are not exhaustive. We may not actually achieve the plans, intentions or expectations

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disclosed in our forward-looking statements, and you should not place undue reliance on our forward-looking statements. We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends that we believe may affect our financial condition, results of operations, business strategy and financial needs. These forward-looking statements are subject to a number of risks, uncertainties and assumptions described in the section titled “Risk Factors” and elsewhere in this Quarterly Report on
Form 10-Q
and our prior filings with the U.S. Securities and Exchange Commission. Moreover, we operate in a very competitive and rapidly changing environment. New risk factors emerge from time to time, and it is not possible for our management to predict all risk factors nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in, or implied by, any forward-looking statements. 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.
Unless the context requires otherwise, references in this Quarterly Report on
Form 10-Q
to “we,” “us”, “our” and “Chiasma” refer to Chiasma, Inc. and our subsidiaries. We own various U.S. federal trademark registrations and applications, and unregistered trademarks and service marks, including “Chiasma,” “TPE”, “MYCAPSSA” and our corporate logo. Other trademarks or service marks that may appear in this Quarterly Report on
Form 10-Q
are the property of their respective holders. For convenience, we do not use the 
®
 and
symbols in each instance in which one of our trademarks appears throughout this Quarterly Report on
Form 10-Q,
but this should not be construed as any indication that we will not assert, to the fullest extent under applicable law, our rights thereto. We do not intend to use or display other companies’ trademarks and trade names to imply a relationship with, or endorsement or sponsorship of us by, any other companies.

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Chiasma, Inc.
INDEX
 
        
Page
 
    
Item 1.
  Financial Statements (Unaudited)      1  
  Condensed Consolidated Balance Sheets as of September 30, 2020 and December 31, 2019      1  
  Condensed Consolidated Statements of Operations for the three and nine months ended September 30, 2020 and 2019      2  
  Condensed Consolidated Statements of Comprehensive Loss for the three and nine months ended September 30, 2020 and 2019      3  
  Condensed Consolidated Statements of Stockholders’ Equity for the three and nine months ended September 30, 2020 and 2019      4  
  Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2020 and 2019      6  
  Notes to Condensed Consolidated Financial Statements      7  
Item 2.
  Management’s Discussion and Analysis of Financial Condition and Results of Operations      19  
Item 3.
  Quantitative and Qualitative Disclosures About Market Risk      28  
Item 4.
  Controls and Procedures      28  
    
Item 1.
  Legal Proceedings      29  
Item 1A.
  Risk Factors      29  
Item 2.
  Unregistered Sales of Equity Securities and Use of Proceeds      78  
Item 6.
  Exhibits      78  
  Signatures      79  

Table of Contents
PART I — FINANCIAL INFORMATION
 
Item 1.
Financial Statements
Chiasma, Inc.
Condensed Consolidated Balance Sheets
(Unaudited)
 
    
 
 
 
 
 
 
 
 
 
 
 
 
September 30, 2020
 
 
 
 
 
 
 
 
  
December 31, 2019
 
    
(in thousands except share data)
 
Assets
     
Current assets
     
Cash and cash equivalents
   $ 72,840      $ 27,855  
Marketable securities
     83,917        64,520  
Accounts receivable
     179        —    
Inventory
     8,942        —    
Prepaid expenses and other current assets
     5,383        3,881  
  
 
 
    
 
 
 
Total current assets
     171,261        96,256  
Property and equipment, net
     581        334  
Other assets
     2,419        2,236  
Restricted cash
     20,300        —    
  
 
 
    
 
 
 
Total assets
   $ 194,561      $ 98,826  
  
 
 
    
 
 
 
Liabilities and Stockholders’ Equity
     
Current liabilities
     
Accounts payable
   $ 7,149      $ 3,253  
Accrued expenses
     10,275        7,576  
Other current liabilities
     722        546  
  
 
 
    
 
 
 
Total current liabilities
     18,146        11,375  
Deferred royalty obligation
     63,529        —    
Long-term liabilities
     2,548        1,682  
  
 
 
    
 
 
 
Total liabilities
     84,223        13,057  
  
 
 
    
 
 
 
Commitments and contingencies (Note 11)
 
Stockholders’ equity:
     
Common stock, $0.01 par value; authorized 125,000,000 shares at September 30, 2020 and December 31, 2019; issued and outstanding 57,804,095 shares at September 30, 2020 and 42,078,416 shares at December 31, 2019
     578        421  
Preferred stock, $0.01 par value;
 
authorized
 
5,000,000
shares; none outstanding
    
  
       —    
Additional
paid-in
capital
     437,659        358,245  
Accumulated other comprehensive income
     6        37  
Accumulated deficit
     (327,905      (272,934
  
 
 
    
 
 
 
Total stockholders’ equity
     110,338        85,769  
  
 
 
    
 
 
 
Total liabilities and stockholders’ equity
   $ 194,561      $ 98,826  
  
 
 
    
 
 
 
See accompanying notes to these unaudited condensed consolidated financial statements.
 
1

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Chiasma, Inc.
Condensed Consolidated Statements of Operations
(Unaudited)
 
    
For the Three Months Ended

September 30,
    
For the Nine Months Ended

September 30,
 
    
2020
    
2019
    
2020
    
2019
 
    
(in thousands except share and per share data)
 
Product revenue, net
   $ 142      $ —       $ 142      $ —    
Cost of goods sold
     3        —         3        —    
  
 
 
    
 
 
   
 
 
    
 
 
 
Gross profit
     139        —         139        —    
Operating expenses:
          
Selling, general and administrative
     13,048        4,116       31,295        9,210  
Research and development
     4,523        4,110       22,320        16,103  
  
 
 
    
 
 
   
 
 
    
 
 
 
Total operating expenses
     17,571        8,226       53,615        25,313  
  
 
 
    
 
 
   
 
 
    
 
 
 
Loss from operations
     (17,432      (8,226     (53,476      (25,313
Interest and other income, net
     1,122        549       1,648        1,074  
Interest expense
     (2,126      —         (3,033      —    
  
 
 
    
 
 
   
 
 
    
 
 
 
Loss before income taxes
     (18,436      (7,677     (54,861      (24,239
Provision for income taxes
     21        6       110        34  
  
 
 
    
 
 
   
 
 
    
 
 
 
Net loss
     (18,457      (7,683     (54,971      (24,273
  
 
 
    
 
 
   
 
 
    
 
 
 
Earnings per share
          
Basic
   $ (0.30    $ (0.20   $ (1.13    $ (0.77
  
 
 
    
 
 
   
 
 
    
 
 
 
Diluted
   $ (0.30    $ (0.20   $ (1.13    $ (0.77
  
 
 
    
 
 
   
 
 
    
 
 
 
Weighted-average shares outstanding:
          
Basic
     61,459,491        38,490,768       48,685,024        31,569,731  
  
 
 
    
 
 
   
 
 
    
 
 
 
Diluted
     61,459,491        38,490,768       48,685,024        31,569,731  
  
 
 
    
 
 
   
 
 
    
 
 
 
See accompanying notes to these unaudited condensed consolidated financial statements.
 
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Table of Contents
Chiasma, Inc.
Condensed Consolidated Statements of Comprehensive Loss
(Unaudited)
 
    
For the Three Months Ended

September 30,
    
For the Nine Months Ended

September 30,
 
    
2020
    
2019
    
2020
    
2019
 
    
(in thousands)
 
Net loss
   $ (18,457    $ (7,683   $ (54,971    $ (24,273
Other comprehensive income (loss):
          
Unrealized gain (loss) on available for sale securities, net
     (20      (3     (31      65  
  
 
 
    
 
 
   
 
 
    
 
 
 
Total other comprehensive income (loss):
     (20      (3     (31      65  
  
 
 
    
 
 
   
 
 
    
 
 
 
Comprehensive loss
   $ (18,477    $ (7,686   $ (55,002    $ (24,208
  
 
 
    
 
 
   
 
 
    
 
 
 
See accompanying notes to these unaudited condensed consolidated financial statements.
 
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Table of Contents
Chiasma, Inc.
Condensed Consolidated Statements of Stockholders’ Equity
(Unaudited)
 
    
Common Stock
    
Additional

Paid-in

Capital
   
Accumulated

Other

Comprehensive

Income (Loss)
   
Accumulated

Deficit
   
Total

Stockholders’

Equity
 
    
Shares
    
Amount
 
    
(in thousands except share data)
 
Balance, December 31, 2019
     42,078,416      $ 421      $ 358,245      $ 37     $ (272,934   $ 85,769  
Stock-based compensation
     —          —          1,162        —         —         1,162  
Exercise of stock options
     186,925        2        230        —         —         232  
Other comprehensive loss
     —          —          —          (34     —         (34
Net loss
     —          —          —          —         (15,386     (15,386
  
 
 
    
 
 
    
 
 
    
 
 
   
 
 
   
 
 
 
Balance, March 31, 2020
     42,265,341        423        359,637        3       (288,320     71,743  
Stock-based compensation
    
              1,335                    1,335  
Exercise of stock options
     3,591               5                    5  
Other comprehensive income
    
                     23             23  
Net loss
    
                           (21,128     (21,128
  
 
 
    
 
 
    
 
 
    
 
 
   
 
 
   
 
 
 
Balance, June 30, 2020
     42,268,932        423        360,977        26       (309,448     51,978  
Stock-based compensation
    
              1,345                    1,345  
Exercise of stock options
     5,399               13                    13  
Issuance of common stock
and pre-funded warrants 
in
follow-on
offering, net
     15,125,000        151        75,328                    75,479  
Issuance of common stock from
 
cashless
warrant exercise
     404,764        4        (4                   
Other comprehensive
 
loss
    
                     (20           (20
Net loss
    
                           (18,457     (18,457
  
 
 
    
 
 
    
 
 
    
 
 
   
 
 
   
 
 
 
Balance, September 30, 2020
     57,804,095      $ 578      $ 437,659      $ 6     $ (327,905   $ 110,338  
  
 
 
    
 
 
    
 
 
    
 
 
   
 
 
   
 
 
 
See accompanying notes to these unaudited condensed consolidated financial statements.
4

    
Common Stock
    
Additional

Paid-in

Capital
    
Accumulated

Other

Comprehensive

Income (Loss)
   
Accumulated

Deficit
   
Total

Stockholders’

Equity
 
    
Shares
    
Amount
 
    
(in thousands except share data)
 
Balance, December 31, 2018
     24,456,120      $ 245      $ 270,509      $ (16   $ (236,614   $ 34,124  
Stock-based compensation
     —          —          622        —         —         622  
Exercise of stock options
     33,839        —          3        —         —         3  
Additional paid in capital on account of vested portion of restricted stock
     —          —          16        —         —         16  
Other comprehensive income
     —          —          —          18       —         18  
Net loss
     —          —          —          —         (8,750     (8,750
    
 
 
    
 
 
    
 
 
   
 
 
   
 
 
   
 
 
 
Balance, March 31, 2019
     24,489,959        245        271,150        2       (245,364     26,033  
Stock-based compensation
     —          —          627        —         —         627  
Exercise of stock options
     24,110        —          26        —         —         26  
Issuance of common stock in
follow-on
offering, net
     7,263,158        73        32,160        —         —         32,233  
Other comprehensive income
     —          —          —          50       —         50  
Net loss
     —          —          —          —         (7,840     (7,840
    
 
 
    
 
 
    
 
 
   
 
 
   
 
 
   
 
 
 
Balance, June 30, 2019
     31,777,227        318        303,963        52       (253,204     51,129  
Stock-based compensation
     —          —          944        —         —         944  
Exercise of stock options
     61,811        1        9        —         —         10  
Issuance of common stock in
follow-on
offering, net
     10,166,427        101        52,242        —         —         52,343  
Other comprehensive income
     —          —          —          (3     —         (3
Net loss
     —          —          —          —         (7,683     (7,683
    
 
 
    
 
 
    
 
 
   
 
 
   
 
 
   
 
 
 
Balance, September 30, 2019
     42,005,465      $ 420      $ 357,158      $ 49     $ (260,887   $ 96,740  
    
 
 
    
 
 
    
 
 
   
 
 
   
 
 
   
 
 
 
See accompanying notes to these unaudited condensed consolidated financial statements.
 
5

Chiasma, Inc.
Condensed Consolidated Statements of Cash Flows
(Unaudited)
 
    
Nine Months Ended September 30,
 
    
2020
    
2019
 
    
(in thousands)
 
Operating Activities:
    
Net loss
   $ (54,971   $ (24,273
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
    
Depreciation
     122       42  
Stock-based compensation
     3,813       2,193  
Accretion on marketable securities, net
     (71     (414
Non-cash
lease expense
     376       135  
Amortization of debt discount and issuance costs
     171       —    
Change in fair value of embedded derivative liability
     (1,060      —    
Benefit for deferred income taxes
     (8     (18
Changes in operating assets and liabilities:
    
Accounts receivable
     (179     —    
Inventory
     (8,913     —    
Prepaid expenses and other current assets
     (1,500     (526
Insurance Recovery (Note 11)
    
—  
      18,288  
Accounts payable and accrued expenses
     7,690       (1,924
Settlement Liability (Note 11)
    
—  
      (18,750
Other assets
     (688     53  
Other current and long-term liabilities
     920       (67
  
 
 
   
 
 
 
Net cash used in operating activities
     (54,298     (25,261
Investing Activities:
    
Purchases of marketable securities
     (92,879     (97,000
Maturities of marketable securities
     73,522       43,051  
Purchases of property and equipment
     (369     (140
  
 
 
   
 
 
 
Net cash used in
 
investing activities
     (19,726     (54,089
Financing Activities:
    
Proceeds from the issuance of common stock and
pre-funded
warrants, net
     75,479       84,576  
Exercise of stock options
     250       39  
Proceeds from short-term borrowing
    
—  
      1,675  
Payments of short-term borrowing
     (838     (335
Proceeds from deferred royalty obligation, net
     64,418       —    
  
 
 
   
 
 
 
Net cash provided by financing activities
     139,309       85,955  
  
 
 
   
 
 
 
Net increase in cash, cash equivalents and restricted cash
     65,285       6,605  
Cash, cash equivalents and restricted cash, beginning of period
     27,855       13,060  
  
 
 
   
 
 
 
Cash, cash equivalents and restricted cash, end of period
   $ 93,140     $ 19,665  
  
 
 
   
 
 
 
Reconciliation of cash, cash equivalents and restricted cash reported within the condensed consolidated balance sheets
    
Cash and cash equivalents
   $ 72,840     $ 19,665  
Restricted cash
     20,300       —    
  
 
 
   
 
 
 
Total cash, cash equivalents and restricted cash
   $ 93,140     $ 19,665  
  
 
 
   
 
 
 
See accompanying notes to these unaudited condensed consolidated financial statements.
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CHIASMA, INC.
Notes to Unaudited Condensed Consolidated Financial Statements
September 30, 2020
1. Description of Business and Summary of Significant Accounting Policies
Chiasma, Inc. is a commercial
-
stage biopharmaceutical company incorporated in 2001 under the laws of the State of Delaware. Chiasma, Inc. is headquartered in Massachusetts and has two wholly owned subsidiaries; Chiasma (Israel) Ltd., and Chiasma Securities Corp, collectively referred to as “the Company,” “we,” “us,” “our” or “Chiasma”. We are focused on developing and commercializing oral therapies to improve the lives of patients who face challenges associated with their existing treatments for rare and serious chronic disease. Employing our Transient Permeability Enhancer (“TPE”) technology platform, we seek to develop oral medications that are currently available only as injections. On June 26, 2020, we received approval from the U.S. Food and Drug Administration (“FDA”) of our oral octreotide capsules product candidate, MYCAPSSA
,
for long-term maintenance treatment in acromegaly patients who have responded to and tolerated treatment with octreotide or lanreotide. We commenced our U.S. commercial launch of MYCAPSSA in September 2020.
Acromegaly is a rare and debilitating condition that is caused by the body’s production of excess growth hormone. Octreotide is an analog of somatostatin, a natural inhibitor of growth hormone secretion. Octreotide capsules have been granted orphan designation in the United States and the European Union for the treatment of acromegaly. We retain worldwide rights to develop and commercialize octreotide capsules.
We are currently conducting an international Phase 3 clinical trial, referred to as MPOWERED, of oral octreotide capsules for the maintenance treatment of adult patients with acromegaly to support regulatory approval in the European Union by the European Medicines Agency (“EMA”). The MPOWERED trial is a global, randomized, open-label and active-controlled
15-month
trial initially designed to enroll up to 150 patients. The EMA requested that a minimum of 80 patients who are responders to octreotide capsules per the protocol following the
six-month
run-in
phase be randomized to either remain on octreotide capsules or return to injectable somatostatin receptor ligands (octreotide or lanreotide), and then followed for an additional nine months. In June 2019, we completed the enrollment of 146 total patients in MPOWERED and in January 2020 completed the randomization in that trial.
In April 2019, we completed an underwritten public offering of 7,263,158 shares of common stock at $4.75 per share for aggregate net proceeds of approximately $32.2 million after underwriting fees and offering expenses. In August 2019, we completed a
follow-on
public offering of common stock in which we sold 10,166,427 shares of common stock at $5.50 per share for aggregate net proceeds of approximately $52.3 million after underwriting fees and offering expenses.
In April 2020, we entered into an Open Market Sales Agreement (“ATM Agreement”) for “at the market offerings” with Jefferies LLC (“Jefferies”), under which we may offer and sell from time to time shares of our common stock having an aggregate offering price of up to $60.0 million through Jefferies, acting as our sales agent or principal. To date, we have not sold any common stock under the ATM Agreement.
In April 2020, we entered into a Revenue Interest Financing Agreement (the “Revenue Interest Financing Agreement”) with Healthcare Royalty Partners IV, L.P. (“HCR”) for up to $75.0 million. As of September 30, 2020, we have received
aggregate
 
proceeds of $65.0 million, less certain transaction expenses (see Note 7).
In July 2020, we completed an underwritten public offering of 15,125,000 shares of common stock and
pre-funded
warrants (the
“Pre-Funded
Warrants”) to purchase an aggregate of 5,000,000 shares of common stock
.
The public offering price was $4.00 per share of common stock. We received
 aggregate net proceeds of approximately $75.5 million
after deducting
 underwriting fees and offering expenses. The
Pre-Funded
Warrants are immediately exercisable at an exercise price per share of $0.0001.
We have incurred substantial operating losses since inception, and we expect our operating losses and negative operating cash flows to continue for the foreseeable future. We are heavily dependent on the commercial success of MYCAPSSA in the United States and the regulatory approval and subsequent commercial success of MYCAPSSA in the European Union, both of which may never occur. We plan to continue to invest in our U.S. commercial launch and, the manufacturing of octreotide capsules for market consumption, including in manufacturing scale-up activities, and continuing the open label extension portion of our international Phase 3 CHIASMA OPTIMAL clinical trial of octreotide capsules in acromegaly and our international Phase 3 MPOWERED clinical trial of octreotide capsules in acromegaly for participants outside the United States. In addition, if the MPOWERED trial results are positive, we plan to prepare and 
 
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Table of Contents
submit a marketing authorization application, or MAA, to the European Medicines Agency, or EMA, seeking potential regulatory approval of octreotide capsules as a treatment for acromegaly in the European Union
. We currently expect our existing cash, cash equivalents and marketable securities to fund our operations for at least one year after the date these condensed consolidated financial statements are issued.
Successful transition to attaining profitable operations is dependent upon achieving a level of revenues adequate to support our cost structure. We plan to continue to fund our losses from operations and capital funding needs from existing balances of cash, cash equivalents and marketable securities and potentially through
additional
 
equity financings. We may also opportunistically consider license and collaboration agreements with potential partners or convertible debt financing to the extent such sources are identified and available. If our anticipated U.S. revenues are insufficient to fund our operations to attaining and sustaining profitability, additional financing may be required. Such financing, if required, may not be available on a timely basis on terms acceptable to us, or at all. If we are not able to secure adequate additional funding when required, we may be forced to make reductions in spending, extend payment terms with suppliers, suspend or curtail our development opportunities, or it may negatively impact our ability to adequately fund or delay our potential commercial preparations or launch readiness outside the United States if the MPOWERED trial results are positive and MYCAPSSA is approved by the EMA. Any of these actions could materially harm our business, results of operations and future prospects. Failure to successfully commercialize octreotide capsules in acromegaly will prevent us from achieving profitability and positive cash flows, which could raise significant concerns about our continued viability as a business.
Basis of Presentation
We have prepared the accompanying unaudited condensed consolidated financial statements pursuant to the rules and regulations of the SEC regarding interim financial reporting. Accordingly, certain information and footnote disclosures required by accounting principles generally accepted in the United States (“U.S. GAAP”) for annual financial statements have been condensed or omitted. The information included in this quarterly report on Form
10-Q
should be read in conjunction with our Annual Report on Form
10-K
for the year ended December 31, 2019. The
year-end
condensed consolidated balance sheet data presented for comparative purposes was derived from our audited financial statements but does not include all disclosures required by U.S. GAAP. In the opinion of management, we have prepared the accompanying unaudited condensed consolidated financial statements on the same basis as our audited financial statements, and these financial statements include all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of the results of the interim period
s
 presented. Interim results are not necessarily indicative of results for a full year or for any other subsequent interim period.
Cash Equivalents
Cash equivalents consist of highly liquid instruments that mature within three months or less from the date of purchase.
Marketable Securities
Our investments primarily consist of commercial paper and corporate and government debt securities. These marketable securities are classified as
available-for-sale,
and as such, are reported at fair value on our condensed consolidated balance sheets. Unrealized holding gains and losses are reported within accumulated other comprehensive income (loss) as a separate component of stockholders’ equity. The amortized cost of debt securities is adjusted for amortization of premiums and accretion of discounts to maturity. Such amortization, together with interest on securities, are included in interest and other income, net, on our condensed consolidated statements of operations.
If a decline in the fair value of a marketable security below our cost basis is determined to be other than temporary, such marketable security is written down to its estimated fair value as a new cost basis and the amount of the write-down is included in earnings as an impairment charge. The cost of securities sold is based on the specific identification method.
Accounts Receivable
Our accounts receivable consist of amounts due from one specialty pharmacy (the “customer”) for sales of MYCAPSSA and which have standard payments terms. We extend credit to our customer based on our evaluation of the customer’s financial condition. Accounts receivable are stated at amounts due net of applicable prompt pay discounts and other adjustments. We assess the need for an allowance for doubtful accounts by considering a number of factors, including the length of time trade accounts receivable are past due and the customer’s ability to pay its obligation. Based on a review of these factors, as of September 30, 2020, we determined that an allowance for doubtful accounts was not required.
 
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Concentrations of credit risk
Financial instruments that potentially subject us to significant concentration of credit risk consist primarily of cash, cash equivalents and marketable securities, and accounts receivable. During the three months ended September 30, 2020, one customer comprised 100% of our accounts receivable and product revenues.
We routinely maintain deposits in financial institutions in excess of government insured limits. Management believes that we are not exposed to significant credit risk as our deposits are held at financial institutions that management believes to be of high credit quality and we have not experienced any significant losses in these deposits. We regularly invest excess operating cash in deposits with major financial institutions and money market funds and in notes issued by the U.S. government, as well as in fixed income investments and U.S. bond funds, both of which can be readily purchased and sold using established markets. We believe that the market risk arising from our holdings of these financial instruments is mitigated based on the fact that many of these securities are either government backed or of high credit rating.
Inventory
Prior to FDA approval of MYCAPSSA, all costs related to the manufacturing of MYCAPSSA that could potentially be available to support the planned U.S. commercial launch were charged to research and development expense in the period incurred. Generally, inventory may be capitalized if it is probable that future revenues will be generated from the sale of the inventory and that these revenues will exceed the cost of the inventory. Through the FDA approval date of MYCAPSSA, we expensed all of our manufacturing costs due to the high risk inherent in drug development and uncertainty as to whether MYCAPSSA would be approved. We began to capitalize our manufacturing-related costs to inventory starting July 1, 2020.
We capitalize the costs to manufacture our products incurred after regulatory approval when, based on our judgment, future commercialization is considered probable and the future economic benefit is expected to be realized. In connection therewith, we value our inventories at the lower of cost or estimated net realizable value. We determine the cost of our inventories, which includes amounts related to active pharmaceutical ingredient
 (“API”), 
and other raw materials, third party manufacturing costs and other overhead costs, on
a first-in,
first-out
basis. Inventories that may be used for either research and development or commercial sale are classified as inventory until the material is consumed or otherwise allocated for research and development. If the material is intended to be used for research and development, it is expensed as research and development once that determination is made.
On a quarterly basis, we review inventory quantities on hand and analyze the provision for excess and obsolete inventory based primarily on remaining product shelf life and our estimated sales forecast which is based on anticipated future demand. We build demand forecasts by considering factors such as, but not limited to, overall market potential, market share, market acceptance, and patient usage. Our estimates of future product demand may prove to be imprecise and changes in estimates will result in a change to the provision required for excess and obsolete inventory. Accordingly, any significant unanticipated changes in demand could have a significant impact on the value of our inventory and results of operations.
Deferred Royalty Obligation
We treat the deferred royalty obligation, as discussed further in Note
7
, as a debt obligation, amortized under the effective interest rate method over the estimated life of the agreement. We recognize interest expense thereon using the effective rate, which is based on our current estimates of future revenues over the life of the arrangement. In connection therewith, we periodically assess our expected revenues using internal projections, impute interest on the carrying value of the deferred royalty obligation, and record interest expense using the effective interest rate. To the extent our estimates of future revenues are greater or less than previous estimates or the estimated timing of such payments is materially different than previous estimates, we will account for any such changes by adjusting the effective interest rate on a prospective basis, with a corresponding impact to the reclassification of our deferred royalty obligation between short- and long-term. The assumptions used in determining the expected repayment term of the deferred royalty obligation and amortization period of the issuance costs requires that we make estimates that could impact the short-term and long-term classification of such costs, as well as the period over which such costs will be amortized.
 
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Revenue Recognition
In accordance with accounting guidance for revenue recognition, we recognize revenue when a customer obtains control of promised goods or services, in an amount that reflects the consideration which we expect to receive in exchange for those goods or services. To determine revenue recognition for arrangements that we determine to be within the scope of such guidance, we perform the following five steps: (i) identify the contract(s) with a customer; (ii) identify the performance obligations in the contract; (iii) determine the transaction price; (iv) allocate the transaction price to the performance obligations in the contract; and (v) recognize revenue when (or as) the entity satisfies a performance obligation. We only apply the five-step model to contracts when it is probable that we will collect the consideration we are entitled to in exchange for the goods or services that we transfer to the customer. For a further discussion of accounting for net product revenue see Note 2.
Use of Estimates
The preparation of condensed consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the condensed consolidated financial statements and accompanying notes during the reporting period. We base these estimates and assumptions on historical experience when available, and on various factors that we believe to be reasonable under the specific circumstances. Significant estimates relied upon in preparing the accompanying condensed consolidated financial statements include, but are not limited to, recognition of product revenues, accounting for stock-based compensation, income taxes, the fair value of embedded derivatives and our deferred royalty obligation and accounting for certain accruals. We assess the above estimates on an ongoing basis; however, actual results could materially differ from those estimates.
Recently Issued Accounting Pronouncements
In June 2016, the
Financial Accounting Standards Board 
 issued new guidance which will require more timely recording of credit losses on loans and other financial instruments held by financial institutions and other organizations. The new guidance requires the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions and reasonable and supportable forecasts. The new guidance also requires enhanced disclosures regarding significant estimates and judgments used in estimating credit losses. On January 1, 2020, we adopted this standard. The adoption of this standard did not have a material impact on our condensed consolidated financial statements.
2. Product Revenue, Net
We began selling MYCAPSSA in September 2020. We currently sell MYCAPSSA in the United States to a specialty pharmacy, which dispenses the product directly to patients. We recognize revenue when the customer obtains control of the product, which occurs at a point in time, when the product is received by them.
Revenue Reserves for Variable Consideration
Revenue from sales of MYCAPSSA are recorded at the net sales price, which is the amount of consideration we expect to receive in exchange for transferring the product to a customer (“transaction price”). This transaction price for product sales includes variable consideration for which reserves are established and which may result from discounts, returns, chargebacks, rebates,
co-pay
or
co-insurance
assistance and other allowances that are offered within contracts with our customer and payors. We estimate the amount of variable consideration that should be included in the transaction price under the expected value method for all sales deductions other than trade discounts, which are estimated under the most likely amount method. These provisions represent our best estimate of the amount of consideration to which we are entitled. Actual amounts of consideration ultimately received may differ from these estimates. If actual results in the future vary from our estimates, we will adjust these estimates, which would affect net product revenue and earnings in the period such variances become known.
Trade Discounts and Specialty Pharmacy Fees
: we provide customary discounts to our
customer
for prompt payment, the terms for which are explicitly stated in our
contract
with such
customer
. We record these discounts as a reduction of revenue with a corresponding reduction to accounts receivable. In addition, we also pay fees for data and distribution services from our specialty pharmacy. We have determined that such fees are not for a distinct g
oo
d or service and, accordingly, are being recorded as a reduction of product revenue and a component of accrued expenses.
Government and Payor Rebates:
 We are subject to discount obligations under state Medicaid programs, Medicare, and other government programs. Additionally, we may contract with various private payor organizations, primarily insurance companies and pharmacy benefit managers, for the payment of rebates with respect to utilization of MYCAPSSA. Provisions for both government and payor rebates are based on the estimated amount of rebates and incentives to be
 
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Table of Contents
claimed on the related sales from the period. These reserves are recorded in the same period in which the related revenue is recognized, resulting in a reduction of product revenue and the establishment of a current liability that is included in accrued expenses in our condensed consolidated balance sheet. For Medicare, we must also estimate the number of patients in the prescription drug coverage gap for whom we will owe an additional liability under the Medicare Part D program. Our liability for these rebates currently consists of estimates of claims for the current quarter, and estimated future claims that will be made for product that has been recognized as revenue, but which remains in distribution channel inventories at the end of the reporting period. 
Other Incentives/Patient Assistance Programs:
 We offer voluntary patient assistance programs such as
co-pay
and
co-insurance
assistance. These programs are intended to provide financial assistance to qualified commercially insured patients with prescription drug
co-payments
and
co-insurance
required by payors. The calculation of the accrual for
co-pay
and
co-insurance
assistance is based on an estimate of claims and the cost per claim that we expect to receive associated with product that has been recognized as revenue, but remains in the distribution channel inventories at period end.
Product Returns
:
We
 offer customers a limited right of return for unopened damaged or defective product, and, under certain circumstances, for unopened product for a limited time before its expiration date. We estimate the amount of product revenues that may be returned by customers and record this estimate as a reduction of revenue in the period in which the related product revenue is recognized. We currently estimate our provision for sales returns based on our expectations and adjust the transaction price with such estimate at the time of sale to our customer. Once sufficient history has been collected for product returns, we will utilize that history to inform our estimate assumption.
The following table summarizes activity in each of the above product revenue allowances and reserve categories for the nine months ended September 30, 2020:
 
    
Discounts and Fees
    
Rebates and Other
Incentives
    
Returns
    
Total
 
           
($ in thousands)
        
Balance, January 1, 2020
   $      $      $      $  
Provision
     17        26        1        44  
Payments or credits
                           
  
 
 
    
 
 
    
 
 
    
 
 
 
Balance, September 30, 2020
   $ 17      $ 26      $ 1      $ 44  
  
 
 
    
 
 
    
 
 
    
 
 
 
3. Investments
Our investments consisted of the following as of September 30, 2020 and December 31, 2019:
 
    
As of September 30, 2020
 
    
Amortized Cost
    
Gross Unrealized

Gains
    
Gross Unrealized

Losses
    
Estimated Fair

Value
 
           
($ in thousands)
        
Money market funds
   $ 32,697      $      $      $ 32,697  
Corporate notes
     16,796        1        (1      16,796  
Commercial paper
     88,191        8        (3      88,196  
U.S. treasury 
securities
     21,525        1               21,526  
  
 
 
    
 
 
    
 
 
    
 
 
 
Total
   $ 159,209      $ 10      $ (4    $ 159,215  
  
 
 
    
 
 
    
 
 
    
 
 
 
 
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As of December 31, 2019
 
    
Amortized Cost
    
Gross Unrealized

Gains
    
Gross Unrealized

Losses
    
Estimated Fair

Value
 
    
($ in thousands)
 
Money market funds
   $ 23,012      $      $      $ 23,012  
Corporate notes
     45,584        20               45,604  
Commercial paper
     20,899        17               20,916  
  
 
 
    
 
 
    
 
 
    
 
 
 
Total
   $ 89,495      $ 37      $      $ 89,532  
  
 
 
    
 
 
    
 
 
    
 
 
 
As of September 30, 2020, we consider the unrealized losses in our investment portfolio to be temporary in nature and not due to credit losses. We have the ability to hold such investments until recovery of the fair value. We utilize the specific identification method in computing realized gains and losses. We had
 
no realized gains and losses on our
available-for-sale
securities for the three and nine months ended September 30, 2020 or 2019.
The fair values of our investments by classification in our condensed consolidated balance sheets as of September 30, 2020 and December 31, 2019 were as follows:
 
    
September 30, 2020
    
December 31, 2019
 
    
($ in thousands)
 
Cash and cash equivalents
   $ 54,998      $ 25,012  
Marketable securities
     83,917        64,520  
Restricted cash
     20,300        —    
  
 
 
    
 
 
 
Total
   $ 159,215      $ 89,532  
  
 
 
    
 
 
 
Cash and cash equivalents in the table above exclude cash of $17.8 million and $2.8 million as of September 30, 2020 and December 31, 2019, respectively. The contractual maturity dates of all of our investments are less than one year.
4. Fair Value Measurements of Financial Instruments
Certain assets and liabilities are reported at fair value on a recurring basis. Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. The fair value accounting guidance requires that assets and liabilities carried at fair value be classified and disclosed in one of the following three categories:
 
 
 
Level 1
— Quoted prices in active markets for identical assets or liabilities that we have the ability to access at the measurement date.
 
 
 
Level 2
— Inputs other than quoted prices in active markets that are observable for the asset or liability, either directly or indirectly.
 
 
 
Level 3
— Inputs that are unobservable for the asset or liability.
To the extent that valuation is based on models or inputs that are less observable or unobservable in the market, the determination of fair value requires more judgment. Accordingly, the degree of judgment exercised by us in determining fair value is greatest for instruments categorized in Level 3. A financial instrument’s level within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement.
 
 
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The fair value measurements of our financial instruments are summarized in the table below:
 
    
Fair Value Measurements at September 30, 2020
 
Description
  
Quoted Prices in

Active Markets for

Identical Assets

(Level 1)
    
Significant Other

Observable Inputs

(Level 2)
    
Significant

Unobservable

Inputs (Level 3)
    
Total
 
Financial assets
  
($ in thousands)
 
Cash equivalents:
                 
Money market funds
   $ 32,697        $        $        $ 32,697  
U.S. treasury s
ecuriti
es
              8,499                   8,499  
Corporate notes
              3,605                   3,605  
Commercial paper
              30,497                   30,497  
  
 
 
      
 
 
      
 
 
      
 
 
 
Total cash equivalents
   $ 32,697        $ 42,601        $        $ 75,298  
Marketable securities:
                 
U.S.
treasury
 
s
ecuriti
es
   $ 13,027        $        $        $ 13,027  
Corporate notes
              13,191                   13,191  
Commercial paper
              57,699                   57,699  
  
 
 
      
 
 
      
 
 
      
 
 
 
Total marketable securities
     13,027          70,890                   83,917  
  
 
 
      
 
 
      
 
 
      
 
 
 
Total
   $ 45,724        $ 113,491        $        $ 159,215  
  
 
 
      
 
 
      
 
 
      
 
 
 
Financial liabilities
                 
Derivative liabilities
   $        $        $ 2,040        $ 2,040  
 
    
Fair Value Measurements at December 31, 2019
 
Description
  
Quoted Prices in

Active Markets for

Identical Assets

(Level 1)
    
Significant Other

Observable Inputs

(Level 2)
    
Significant

Unobservable

Inputs (Level 3)
    
Total
 
Financial assets
  
($ in thousands)
 
Cash equivalents:
           
Money market funds
   $ 23,012      $ —        $ —        $ 23,012  
Corporate notes
     —          2,000        —          2,000  
  
 
 
    
 
 
    
 
 
    
 
 
 
Total cash equivalents
   $ 23,012      $ 2,000      $ —        $ 25,012  
Marketable securities:
           
Corporate notes
   $ —        $ 43,604      $ —        $ 43,604  
Commercial paper
     —          20,916        —          20,916  
  
 
 
    
 
 
    
 
 
    
 
 
 
Total marketable securities
     —          64,520        —          64,520  
  
 
 
    
 
 
    
 
 
    
 
 
 
Total
   $ 23,012      $ 66,520      $ —        $ 89,532  
  
 
 
    
 
 
    
 
 
    
 
 
 
Our cash equivalents are composed of money market funds as well as U.S. treasury securities, corporate notes and commercial paper with maturity dates of 90 days or less from the date of purchase. We measure these investments at fair value. The fair value of cash equivalents held in money market is determined based on Level 1 inputs.
Items classified as Level 2 within the valuation hierarchy consist of U.S. treasury securities, corporate notes and commercial paper. We estimate the fair values of these marketable securities by taking into consideration valuations obtained from independent pricing services, which normally derive security prices from recently reported trades for identical or similar securities, making adjustments based upon other significant observable market transactions. At the end of each reporting period, we perform quantitative and qualitative analysis of prices received from third parties to determine whether prices are reasonable estimates of fair value. After completing our analysis, we did not adjust or override any fair value measurements provided by our pricing services as of September 30, 2020 or December 31, 2019.
In certain cases where there is limited activity or less transparency around inputs to valuation, the related assets or liabilities are classified as Level 3. We recorded derivative liabilities associated with our deferred royalty obligation, as discussed further in Note 7. These derivative liabilities are measured at fair value using an option pricing Monte Carlo simulation model and is included as a component of the deferred royalty obligation. The embedded derivative liabilities are subject to remeasurement at the end of each reporting period, with changes in fair value recognized as a component
 of
 
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interest and other income, net. The assumptions used in the option pricing Monte Carlo simulation model include: (1) the expected net sales of MYCAPSSA; (2) our risk-adjusted discount rate that includes a company specific risk premium; (3) our cost of debt; (4) volatility; (5) the probability and timing of a change in control occurring during the term of the instrument; and (6) the probability and timing of an event of default during the term of the instrument. We did not have any Level 3 assets or liabilities being measured at fair value on a recurring basis as of December 31, 2019.
The following table sets forth a summary of the changes in the fair value of the embedded derivative for the three months ended September 30, 2020:
($ in thousands)
  
Fair Value Measurement of
Embedded Derivative using
Significant Unobservable
Inputs (Level 3)
 
Balance, June 30, 2020
   $ 1,308  
Additions during the period
     1,792  
Change in fair value during the period
     (1,060
  
 
 
 
Balance, September 30, 2020
   $ 2,040  
  
 
 
 
5. Inventory
Our inventory of MYCAPSSA consisted of the following as of September 30, 2020:
($ in thousands)
  
September 30, 2020
 
Raw materials and supplies
   $ 6,745  
Work in process
     1,879  
Finished goods
     318  
  
 
 
 
Total inventory
   $ 8,942  
  
 
 
 
We began to capitalize inventory on July 1, 2020 following FDA approval of MYCAPSSA.
6. Accrued Expenses
As of September 30, 2020 and December 31, 2019, accrued expenses consisted of the following:
    
September 30, 2020
    
December 31, 2019
 
    
($ in thousands)
 
Accrued research and development expenses
   $ 3,895      $ 4,219  
Accrued selling, general, administrative and other expenses
     3,209        1,485  
Accrued payroll and employee benefits
     3,171        1,872  
  
 
 
    
 
 
 
Total accrued expenses
   $ 10,275      $ 7,576  
  
 
 
    
 
 
 
7. Deferred Royalty Obligation
In April 2020, we entered into the Revenue Interest Financing Agreement with HCR whereby HCR will receive payments from us at a tiered percentage (the “Applicable Tiered Percentage”) of future net revenues of MYCAPSSA and any of our other future products, including worldwide net product sales and upfront payments and milestones received from third parties under license agreements (the “Revenue Interests”). Under the terms of the agreement, we received $25.0 million, less certain transaction expenses, from HCR in April 2020 and an additional $25.0 million in July 2020 following the FDA approval of MYCAPSSA. In September 2020 we received an additional $15.0 million upon meeting conditions related to commercial drug supply availability and first commercial sale of MYCAPSSA
. We are also entitled to receive an additional $10.0 million in early 2022 subject to the achievement of
 
a revenue milestone and customary closing conditions. In exchange for the total investment amount (“Investment Amount”) received, HCR will receive a tiered royalty starting in the low double digits on worldwide annual net revenues of MYCAPSSA and any other future products, subject to step-downs upon the achievement of certain annual revenues.
 
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HCR’s rights to receive the Revenue Interests shall terminate on the date on which HCR has received payments equal to 195% of the funded portion of the Investment Amount including the aggregate of all payments made to HCR as of such date, unless the Revenue Interest Financing Agreement is terminated earlier. If HCR has not received payments equal to the 195% of the funded portion of the Investment Amount by the
ten-year
anniversary of the initial closing date and no event of default has occurred or is ongoing, among other things, we shall pay HCR an amount equal to the funded portion of the Investment Amount plus a specific annual rate of return in the low to
mid-teens
less payments previously received. If a change of control of the Company occurs, we must immediately repay HCR the total amount actually funded (including unfunded amounts conditionally eligible to be funded) plus a change of control premium, the amount of which is variable up to 95% based on timing and circumstances of such change of control. Upon the occurrence of an event of default, including the withdrawal, suspension or other termination of the FDA approval of MYCAPSSA as a treatment for acromegaly that continues for
60
days that prevents us from marketing MYCAPSSA, HCR may accelerate payments due under the agreement to the 195% of the funded portion of the Investment Amount.
If HCR has not received 60% of the funded portion of the Investment Amount by September 30, 2023 or 100% of the funded portion of the Investment Amount by September 30, 2024, we must make cash payments sufficient to gross HCR up to such minimum amounts. Further, the Revenue Interest Financing Agreement requires us to maintain a minimum of $20.0 million in securitized cash and investment accounts, which we recorded as restricted cash in the condensed consolidated balance sheet, during any quarter that the trailing four quarters of net revenue of MYCAPSSA is below a certain threshold. Our obligations under the Revenue Interest Financing Agreement are secured by a first priority perfected security interest in all of our Chiasma, Inc. cash and cash equivalents (as defined in the Revenue Interest Financing Agreement), all present and future net revenues of MYCAPSSA and all MYCAPSSA-related assets.
We have evaluated the terms of the deferred royalty obligation and concluded that the features of the Investment Amount are similar to those of a debt instrument. Accordingly, we have accounted for the transaction as long-term debt. We have evaluated the terms of the debt and determined that the repayment of up to 195% of the Investment Amount, less any payments made to date, upon a change of control is an embedded derivative that requires bifurcation from the debt instrument and fair value recognition. In addition, we have determined that the repayment of 195% of the funded portion of the Investment Amount, less any payments made to date, upon an event of default is an embedded derivative that requires bifurcation from the debt instrument and fair value recognition. We determine the fair value of the derivatives using an option pricing Monte Carlo simulation model taking into account the probability and timing of a change of control and an event of default occurring and potential repayment amounts and timing of such payments that would result under various scenarios, as further described in Note 4. The aggregate fair value of the embedded derivative as of September 30, 2020 is $2.0 million and is presented in deferred royalty obligation in the condensed consolidated balance sheet. We remeasure the embedded derivative to fair value each reporting period until the termination of the Revenue Interest Financing Agreement. Such changes in fair value are recorded as interest and other income,
 
net in the condensed consolidated statement of operations.
The effective interest rate as of September 30, 2020 was approximately 17%. In connection with the deferred royalty obligation, we incurred debt issuance costs totaling $0.6 million during the nine months ended September 30, 2020. Debt issuance costs have been netted against the deferred royalty obligation and are being amortized over the estimated term of the obligation using the effective interest method, adjusted on a prospective basis for changes in the underlying assumptions and inputs. The assumptions used in determining the expected repayment term of the deferred royalty obligation and amortization period of the issuance costs requires that we make estimates that could impact the short- and long-term classification of these costs, as well as the period over which these costs will be amortized.
The carrying value of the deferred royalty obligation, as presented on the condensed consolidated balance sheet, approximates fair value as of September 30, 2020 and was measured using Level 3 inputs. The estimated fair value was calculated using an option pricing Monte Carlo simulation model with inputs consistent with those used in determining the embedded derivative values as described in Note 
4
.
8. Earnings per Share of Common Stock
We include our outstanding shares of common stock and
Pre-Funded
Warrants in our calculation of the basic weighted-average shares outstanding. We include the
Pre-Funded
Warrants as their exercise price of $0.0001 per share is negligible and they are fully vested and exercisable at any time after the original issuance date. Our potential dilutive securities, which include all other common stock warrants outstanding and stock options, have been excluded from the computation of diluted weighted-average shares outstanding because such securities would have an anti-dilutive impact due to net losses reported during the three and nine months ended September 30, 2020 and 2019.
 
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9. Warrants
A summary of warrants activity for the nine months ended September 30, 2020 is presented below.
 
Description
  
Exercise Price
    
Expiration Date
    
Balance,
December 31,
2019
    
Warrants
Issued
    
Warrants
Exercised
   
Balance,
September 30,
2020
 
October 2012 Warrants
   $ 0.0910        10/22/2022        829,686        —          (205,321     624,365  
March 2013 Warrants
   $ 0.0910        3/28/2022        829,686        —          (205,321     624,365  
December 2014 Warrants
   $ 9.1320        12/16/2024        923,527        —          —         923,527  
February 2015 Warrants
   $ 9.1320        12/16/2024        984,116        —          —         984,116  
July 2020
Pre-Funded
Warrants
   $ 0.0001      No expiration
 
            5,000,000              5,000,000  
        
 
 
    
 
 
    
 
 
   
 
 
 
           3,567,015        5,000,000        (410,642     8,156,373  
        
 
 
    
 
 
    
 
 
   
 
 
 
As described in Note 1, in July 2020 in connection with an underwritten public offering
, we issued Pre-Funded Warrants
to purchase an aggregate of 5,000,000 shares of common stock which are immediately exercisable at an exercise price per share of $0.0001.
10. Stock-based Compensation
In 2008, our board of directors adopted the 2008 Stock Incentive Plan (the “2008 Plan”), which provided for the grant of incentive stock options, nonqualified stock options, and restricted stock to employees, directors, and nonemployees of the Company up to 3,547,741 shares of common stock. Option awards expire 10 years from the grant date and generally vest over four years but vesting conditions can vary at the discretion of our board of directors.
In July 2015, the Company approved the 2015 Stock Option and Incentive Plan (the “2015 Plan”), which became effective upon our initial public offering. The 2015 Plan allows the grant of incentive stock options, nonqualified stock options, and restricted stock to employees, directors, and nonemployees of the Company initially up to 3,566,296 shares of common stock. In connection with the adoption of the 2015 Plan, no further option grants were permitted under the 2008 Plan and any expirations, cancellations, or terminations under the 2008 Plan are available for issuance under the 2015 Plan. On January 1, 2020, the number of shares reserved and available for issuance under the 2015 Plan increased by 1,683,136 shares of common stock pursuant to a provision in the 2015 Plan that provides that the number of shares reserved and available for issuance will automatically increase each January 1, beginning on January 1, 2016, by 4% of the number of shares of common stock issued and outstanding on the immediately preceding December 31 or such lesser number as determined by the compensation committee of the board of directors. As of September 30, 2020, the total number of shares authorized for stock award plans is 9,775,418 of which 1,179,160 remain available for grant. There are 8,243,861 stock options outstanding as of September 30, 2020.
Stock-based compensation for the three and nine months ended September 30, 2020 and 2019 consisted of the following:
 
    
Three Months Ended September 30,
    
Nine Months Ended September 30,
 
    
2020
    
2019
    
2020
    
2019
 
    
($ in thousands)
 
Selling, general and administrative
   $ 1,079      $ 702      $ 3,092      $ 1,373  
Research and development
     237        242        721        820  
  
 
 
    
 
 
    
 
 
    
 
 
 
Total
   $ 1,316      $ 944      $ 3,813      $ 2,193  
  
 
 
    
 
 
    
 
 
    
 
 
 
Stock-based compensation of $29,000 was capitalized into inventory for the three and nine months ended September 30, 2020. Stock-based compensation capitalized into inventory is recognized as cost of goods sold when the related product is sold.
The fair value of each stock option issued was estimated at the date of grant using the Black-Scholes option model with the following weighted-average assumptions:
 
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Table of Contents
    
Nine Months Ended September 30,
 
    
2020
   
2019
 
Expected volatility
     85     97
Expected term (years)
     6.2       6.0  
Risk-free interest rate
     0.97     2.03
Expected dividend yield
     0     0
We granted approximately 2,135,300 stock options in the nine months ended September 30, 2020. The weighted-average grant date fair value per share of stock options granted during the nine months ended September 30, 2020 was $3.36. We granted approximately 1,832,000 stock options in the nine months ended September 30, 2019. The weighted-average grant date fair value per share of options granted during the nine months ended September 30, 2019 was $5.05.
11. Commitments and Contingencies
Manufacturing Commitments
As of September 30, 2020,
 we had outstanding manufacturing commitments, including the acquisition of API, in the aggregate amount of
$
20.1
million of which $
3.2
million is expected to be incurred in
2020
with the remainder to be incurred throughout
2021
. The payments on these commitments will occur following the deliveries of the API or completion of the manufacturing services.
2019 Litigation Settlement
On June 9, 2016, Chiasma, Inc. and certain of our current and former officers were named as defendants in a purported federal securities class action lawsuit filed in the United States District Court for the District of Massachusetts, styled
Gerneth v. Chiasma, Inc., et al
. An amended complaint was filed by the lead plaintiff on February 10, 2017 challenging our statements regarding our first Phase 3 clinical trial methodology and results, and our ability to obtain FDA approval for octreotide capsules, in violation of Sections 11 and 15 of the Securities Act of 1933. The amended complaint added as defendants current and former members of our board of directors, as well as the investment banks that underwrote our initial public offering on July 15, 2015. The plaintiff sought an unspecified amount of compensatory damages on behalf of himself and members of a putative shareholder class, including interest and reasonable costs and expenses incurred in litigating the action, and any other relief the court determines is appropriate. The defendants filed a motion to dismiss the amended complaint on March 27, 2017 and on February 15, 2018, the court denied defendants’ motion to dismiss. The defendants filed an answer to the amended complaint on March 30, 2018. On February 27, 2019, the parties agreed to a settlement of all legal claims in which defendants expressly denied that they have committed any act or omission giving rise to any liability under Sections 11 or 15 of the Securities Act of 1933. On March 14, 2019, the court issued an order of preliminary approval of the settlement. As a result of this settlement agreement, we recorded a litigation settlement liability of $18.8 million as of December 31, 2018. Additionally, we recorded a litigation insurance settlement recovery receivable of $18.3 million as of December 31, 2018
,
which represent
ed
 the estimated insurance claim proceeds from our insurance carriers. On June 27, 2019, the court issued an order of final approval of the settlement. The litigation insurance settlement recovery and litigation settlement liability were settled during the three months ended June 30, 2019.
12. Leases
We determine if an arrangement is a lease at inception. We have operating leases for our office spaces and certain automobiles.
Right-of-use
assets and lease liabilities are recognized based on the present value of the future minimum lease payments over the lease term at the commencement date. The
right-of-use
asset also includes direct costs incurred and is reduced by lease incentives. Lease agreements with lease and
non-lease
components are accounted for separately. As our leases do not provide an implicit rate, we use an estimated incremental borrowing rate based on the information available at the commencement date in determining the present value of future payments. We recognize operating lease expense on a straight-line basis over the lease term.
 
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Table of Contents
    
Three Months Ended
September 30,
    
Nine Months Ended
September 30,
 
    
2020
    
2019
    
2020
    
2019
 
    
($ in thousands)
 
The components of lease expense were as follows:
           
Operating lease expense
   $ 170      $ 58      $ 505      $ 159  
  
 
 
    
 
 
    
 
 
    
 
 
 
Supplemental cash flow information related to leases was as follows:
           
Cash paid for amounts included in the measurement of lease liabilities:
           
Operating cash flows from operating leases
   $ 205      $ 54      $ 476      $ 154  
Right-of-use assets obtained in exchange for lease obligations:
           
Operating leases
   $ 28      $ —        $ 122      $ 113  
 
    
September 30, 2020
 
    
($ in thousands)
 
Supplemental balance sheet information related to leases was as follows:
  
Right-of-use
assets
   $ 1,118  
  
Other current liabilities
   $ 622  
Long-term liabilities
     645  
  
 
 
 
Total lease liabilities
   $ 1,267  
 
 
 
 
 
  
 
 
 
Weighted average remaining lease term—operating leases
     24  
Weighted average discount rate—operating leases
     10.8
Our lease
right-of-use
assets are recorded within other assets on our condensed consolidated balance sheets.
Future lease payments under noncancelable leases as of September 30, 2020 are as follows:
 
    
($ in thousands)
 
Remainder of 2020
   $ 186  
2021
     726  
2022
     497  
2023
  
 
7
 
  
 
 
 
Total future minimum lease payments
     1,416  
Less: imputed interest