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Business Combinations | 9 Months Ended
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Sep. 30, 2021
Business Combination and Asset Acquisition [Abstract] |
Business Combinations | 3. Business Combinations Acquisition of Insight Genetics, Inc. On January 31, 2020 (the “Insight Merger Date”), Oncocyte completed its acquisition of Insight pursuant to the Insight Merger Agreement. Merger Consideration at Closing Under the terms of the Insight Merger Agreement, Oncocyte agreed to pay $7 million in cash and $5 million of Oncocyte common stock (the “Initial Merger Consideration”), subject to a holdback for indemnity claims not to exceed ten percent of the total Merger Consideration. The parties agreed to holdback $0.6 million in cash (“Cash Holdback”) and approximately 0.2 million shares of Oncocyte common stock (“Stock Holdback”) through December 31, 2020, in the event that Oncocyte has indemnity claims. The Stock Holdback shares are considered to be issued and outstanding shares of Oncocyte common stock as of the Insight Merger Date but were placed in an escrow account and will be released from escrow after the holdback period, less any shares that may be returned to Oncocyte on account of any indemnity claims. Accordingly, on the Insight Merger Date, Oncocyte delivered approximately $11.4 million in Merger Consideration, consisting of $6.4 million in cash, which was net of the $0.6 million cash holdback, and 1.9 million shares of Oncocyte common stock, which includes the stock holdback shares placed in escrow. The shares of Oncocyte common stock delivered were valued at $5 million, based on the average closing price of Oncocyte common stock on the NYSE American during the five trading days immediately preceding the date of the Insight Merger Agreement. In March 2021, in accordance with the Insight Merger Agreement, the Cash Holdback was paid and the Stock Holdback was released from escrow to the selling shareholders. Milestone Payments (Milestone Contingent Consideration) In addition to the Initial Merger Consideration, Oncocyte may also pay contingent consideration of up to $6.0 million in any combination of cash or shares of Oncocyte common stock if certain milestones are achieved (the “Milestone Contingent Consideration”), which consist of (i) $1.5 million for clinical trial completion and data publication milestone, (ii) $3.0 million for an affirmative final local coverage determination from CMS for a specified lung cancer test, and (iii) up to $1.5 million for achieving certain CMS reimbursement milestones. As of September 30, 2021, no milestones have been met and no payments have been made. Revenue Share (Royalty Contingent Consideration) As additional consideration for Insight’s shareholders, the Insight Merger Agreement provides for Oncocyte to pay a revenue share of not more than ten percent of net collected revenues for current Insight pharma service offerings over a period of ten years, and a tiered revenue share percentage of net collected revenues through the end of the technology lifecycle if certain new cancer tests are developed and commercialized using Insight technology (“Royalty Contingent Consideration”). As of September 30, 2021, the royalty contingent consideration.has not been met and no payments have been made. Registration Rights Pursuant to the Insight Merger Agreement, Oncocyte filed a registration statement with the SEC to register the resale of the shares of common stock under the Securities Act of 1933, as amended (the “Securities Act”) issued in connection with the Insight Merger, which the SEC declared effective in August 2020. Workforce In connection with the closing of the Insight Merger, Oncocyte did not assume sponsorship of the Insight Equity Incentive Plan. Accordingly, the Insight Equity Incentive Plan and all related stock options to purchase shares of Insight common stock outstanding immediately prior to the Insight Merger were canceled on the Insight Merger Date for no consideration. At the Insight Merger Date, all of Insight’s employees ceased employment with Insight, and Oncocyte offered employment to certain of those former Insight employees, principally in laboratory roles and certain administrative roles (“New Oncocyte Employees”), and granted new equity awards to the New Oncocyte Employees under the Oncocyte 2018 Equity Incentive Plan. All Oncocyte stock option awards granted to the New Oncocyte Employees have vesting terms and conditions consistent with stock options granted to most other Oncocyte employees. Aggregate Merger Consideration and Purchase Price Allocation The calculation of the aggregate merger consideration, consisting of the Initial Merger Consideration, Milestone Contingent Consideration and Royalty Contingent Consideration (the “Aggregate Merger Consideration”) transferred on January 31, 2020, at fair value, is shown in the following table (in thousands, except for share and per share amounts). The Milestone Contingent Consideration and the Royalty Contingent Consideration are collectively referred to as “Contingent Consideration”. Schedule of Fair Value of Aggregate Merger Consideration
Cash consideration |  | $ | 7,000 | (1)
Stock consideration |  |  |  |
Shares of Oncocyte common stock issued on the Merger Date |  |  | 1,915,692 | (2)
Closing price per share of Oncocyte common stock on the Merger Date |  | $ | 2.61 |
Market value of Oncocyte common stock issued |  | $ | 5,000 |
Contingent Consideration |  | $ | 11,130 | (3)
Total fair value of consideration transferred on the Merger Date |  | $ | 23,130 |
(1) | The cash consideration paid on the Insight Merger Date was $6.4 million, which was net of a $0.6 million cash holdback discussed above, recorded as a holdback liability since Oncocyte retained the cash. In accordance with ASC 805, amounts held back for general representations and warranties of the sellers are included as part of the total consideration transferred.
(2) | The 229,885 Stock Holdback shares were placed in an escrow account and considered to be issued and outstanding Oncocyte common stock. In accordance with ASC 805, amounts held back for general representations and warranties of the sellers, including escrowed shares of common stock, are included as part of the total consideration transferred.
(3) | In accordance with ASC 805, Contingent Consideration, at fair value, is part of the total considered transferred on the Insight Merger Date, as further discussed below.
Aggregate Merger Consideration allocation Oncocyte allocated the Aggregate Merger Consideration transferred to tangible and identifiable intangible assets acquired and liabilities assumed based on their estimated fair values as of the Insight Merger Date. The fair values of the identifiable intangible assets acquired and the liabilities assumed was determined based on inputs that were unobservable and significant to the overall fair value measurement, which is also based on estimates and assumptions made by management at the time of the Insight Merger. As such, this was classified as Level 3 fair value hierarchy measurements and disclosures in accordance with ASC 820, Fair Value Measurement. The following table sets forth the allocation of the Aggregate Merger Consideration transferred to Insight’s tangible and identifiable intangible assets acquired and liabilities assumed on the Insight Merger Date, with the excess recorded as goodwill (in thousands): Schedule of Intangible Assets Acquired and Liabilities Assumed
|  | January 31, |
|  | 2020 |
Assets acquired: |  |  |  |
Cash and cash equivalents |  | $ | 36 |
Accounts receivable and other current assets |  |  | 42 |
Right-of-use assets, machinery and equipment |  |  | 585 |
Long-lived intangible assets - customer relationships |  |  | 440 |
Acquired in-process research and development |  |  | 14,650 |
Total identifiable assets acquired (a) |  |  | 15,753 |
Liabilities assumed: |  |  |  |
Accounts payable |  |  | 61 |
Right-of-use liabilities - operating lease |  |  | 495 |
Long-term deferred income tax liability |  |  | 1,254 |
Total identifiable liabilities assumed (b) |  |  | 1,810 |
Net assets acquired, excluding goodwill (a) - (b) = (c) |  |  | 13,943 |
Total cash, contingent consideration, and stock consideration transferred (d) |  |  | 23,130 |
Goodwill (d) - (c) |  |  | 9,187 |
The valuation of identifiable intangible assets and applicable estimated useful lives are as follows (in thousands, except for useful life): Schedule of Identifiable Intangible Assets and Estimated Useful Life
|  | Estimated Assets |  |  | Useful Life |
|  | Fair Value |  |  | (Years) |
In process research and development (“IPR&D”) |  | $ | 14,650 |  |  |  | n/a |
Customer relationships |  |  | 440 |  |  |  | 5 |
|  | $ | 15,090 |  |  |  |  |
The following is a discussion of the valuation methods and significant assumptions used to determine the fair value of Insight’s material assets and liabilities in connection with the Insight Merger: Acquired In-Process Research and Development and Deferred Income Tax Liability – The fair value of identifiable IPR&D intangible assets consists of $14.7 million allocated to DetermaIO™. Oncocyte determined the estimated aggregate fair value of DetermaIO™ using the Multi-Period Excess Earnings Method (“MPEEM”) under the income approach. MPEEM calculates the economic benefits by determining the income attributable to an intangible asset after the returns are subtracted for contributory assets such as working capital, assembled workforce, and fixed assets. The resulting after-tax net earnings are discounted at a rate commensurate with the risk inherent in the economic benefit projections of the assets. To calculate fair value of DetermaIO™ under MPEEM, Oncocyte used probability-weighted, projected cash flows discounted at a rate considered appropriate given the significant inherent risks associated with similar assets. Cash flows were calculated based on projections of revenues and expenses related to the asset and were assumed to extend through a multi-year projection period. Revenues from commercialization of DetermaIO™ were based on the estimated market potential for the indications for use which may include tests for the treatment of certain lung cancers and tests for the treatment of certain breast cancers. The expected cash flows from DetermaIO™ were then discounted to present value using a weighted-average cost of capital for companies with profiles substantially similar to that of Oncocyte and the risk inherent in the economic benefit projections of similar assets, which Oncocyte believes represents the rate that market participants would use to value those assets. The discount rate used to value DetermaIO™ was approximately 35%. The projected cash flows were based on significant assumptions, including the time and resources needed to complete development of the asset, timing and reimbursement rates from CMS, regulatory approvals, if any, to commercialize the asset, estimates of the number of tests that might be performed, revenue and operating profit expected to be generated by the asset, the expected economic life of the asset, market penetration and competition, and risks associated with achieving commercialization, including delay or failure to obtain CMS and any required regulatory approval, failure of clinical trials, and intellectual property litigation. Because the IPR&D (prior to completion or abandonment of the research and development) is considered an indefinite-lived asset for accounting purposes but is not recognized for tax purposes, the fair value of the IPR&D on the acquisition date generated a deferred income tax liability (“DTL”) in accordance with ASC 740, Income Taxes. This DTL is computed using the fair value of the IPR&D assets on the acquisition date multiplied by Oncocyte’s federal and state effective income tax rates. While this DTL would reverse on impairment or sale or commencement of amortization of the related intangible assets, ASC 740 allows Oncocyte to treat acquired available deferred tax assets (“DTAs”), such as Insight’s net operating loss carryforwards (“NOLs”) (subject to the annual limitation under Section 382 of the Internal Revenue Code) as available DTAs to offset against the DTLs, as the DTLs are expected to reverse within the NOL carryforward period. Any excess DTAs over those DTLs would be assessed for a valuation allowance in accordance with ASC 740. This accounting treatment is acceptable if, at the time of the acquisition, Oncocyte can both reasonably estimate a timeline to commercialization and the economic useful life of the IPR&D assets upon commercialization, which will be amortized during the carryforward period of the offsetting DTAs. On the Insight Merger Date, Oncocyte estimated and recorded a net DTL of $1.3 million after offsetting the acquired available NOLs with the IPR&D generated DTLs (see Note 8). Customer relationships – Insight provided a range of Pharma Services to its pharmaceutical customers. None of the Pharma Services are related to DetermaIO™. The Pharma Service customer relationships are considered separate long-lived intangible assets under ASC 805 and were valued primarily using the MPEEM discussed above, and will be amortized over their useful life, estimated to be 5 years based on the net income that can be expected from these relationships in future years and based on observed historical trends. The resulting cash flows were discounted to the valuation date based on a rate of return that recognizes a lower level of risk associated with these assets as compared to DetermaIO™ discussed above. As of the Insight Merger Date, there were no uncompleted performance obligations by Insight under any of its Pharma Services contracts, therefore no deferred revenues were assumed. Customer relationships generate similar DTLs to IPR&D as Oncocyte records this asset for accounting purposes but not for tax purposes. Accordingly, Oncocyte has offset all the acquired DTLs associated with the customer relationships with available acquired NOLs and included in the amount recorded discussed above (see Note 8). Right-of-use assets and liabilities, machinery and equipment – Insight is a lessee under an operating lease with a third-party lessor for its facilities, including its laboratory, in Nashville, Tennessee (the “Nashville Lease”). In April 2019, the Nashville lease was renewed by Insight for a five-year term and is classified as an operating lease under ASC 842. In accordance with ASC 805, when a company acquired in a business combination is a lessee, the acquirer initially measures the lease liability and the right-of-use asset for an acquired operating lease as if the lease is new at the acquisition date. In other words, the lease liability is measured at the present value of the remaining lease payments as of the acquisition date and the right-of-use asset is generally measured at an amount equal to the lease liability, adjusted for favorable or unfavorable terms of the lease when compared with market terms. Since the Nashville Lease was renewed by Insight in proximity to the Insight Merger Date, the terms of the Nashville Lease were considered by Oncocyte to be market terms at the Insight Merger Date. Accordingly, Oncocyte measured the net present value of the remaining contractual Nashville Lease payments as of the Insight Merger Date using an incremental borrowing rate consistent with Oncocyte’s other operating leases and recorded a right-of-use liability and a corresponding right-of-use asset of $0.5 million. In addition, $0.1 million was allocated to certain laboratory machinery and equipment approximating the fair value of those assets as of the Insight Merger Date. Contingent consideration liabilities – ASC 805 requires that contingent consideration be estimated and recorded at fair value as of the acquisition date as part of the total consideration transferred. Contingent consideration is an obligation of the acquirer to transfer additional assets or equity interests to the selling shareholders in the future if certain future events occur or conditions are met, such as the attainment of product development milestones. Contingent consideration also includes additional future payments to selling shareholders based on achievement of components of earnings, such as “earn-out” provisions or percentage of future revenues, including royalties paid to the selling shareholders based on a percentage of revenues generated from DetermaIO™ and Insight Pharma Services over their respective useful life. Accordingly, Oncocyte determined there are two types of contingent consideration in connection with the Insight Merger, the Milestone Contingent Consideration and the Royalty Contingent Consideration discussed below, which are collectively referred to as the “Contingent Consideration”. There are three milestones comprising the Milestone Contingent Consideration, collectively referred to as the Milestones, in connection with the Insight Merger which Oncocyte valued and recorded as part of Contingent Consideration as of the Insight Merger Date (see table below), which consist of (i) a payment for clinical trial completion and related data publication (“Milestone 1”), (ii) a payment for an affirmative final local coverage determination from CMS for a specified lung cancer test (“Milestone 2”), and (iii) a payment for achieving specified CMS reimbursement milestones (“Milestone 3”). If achieved, any respective Milestone will be paid at the contractual value shown below, with the payment made either in cash or in shares of Oncocyte common stock as determined by Oncocyte. There can be no assurance that any of the Milestones will be achieved. There are two separate components of the Royalty Contingent Consideration, collectively referred to as the Royalty Payments, in connection with the Insight Merger which Oncocyte valued and recorded as part of Contingent Consideration as of the Insight Merger Date (see table below); Royalty Payments consist of (i) revenue share payments based on a percentage of future sales generated from DetermaIO™ (“Royalty 1”), and (ii) revenue share payments based on percentage of future sales generated from current Insight Pharma Service offerings, as defined in the Insight Merger Agreement (“Royalty 2”). There can be no assurance that any revenues on which the Royalty Payments are based will be generated from DetermaIO™ or Pharma Service offerings. The following table shows the Insight Merger Date contractual payment amounts, as applicable, and the corresponding fair value of each respective Contingent Consideration liability (in thousands): Schedule of Fair Value of Contingent Consideration Liability
|  |  |  |  | Fair |
|  | Contractual |  |  | Value on the |
|  | Value |  |  | Merger Date |
Milestone 1 |  | $ | 1,500 |  |  | $ | 1,340 |
Milestone 2 |  |  | 3,000 |  |  |  | 1,830 |
Milestone 3 (a) |  |  | 1,500 |  |  |  | 770 |
Royalty 1 (b) |  |  | See(b) |  |  |  | 5,980 |
Royalty 2 (b) |  |  | See(b) |  |  |  | 1,210 |
Total |  | $ | 6,000 |  |  | $ | 11,130 |
(a) | Indicates the maximum payable if the Milestone is achieved.
(b) | As defined, Royalty Payments are based on a percentage of future revenues of DetermaIO™ and Pharma Services over their respective useful life, accordingly there is no fixed contractual value for the Royalty Contingent Consideration.
The fair value of the Milestone Contingent Consideration was determined using a scenario analysis valuation method which incorporates Oncocyte’s assumptions with respect to the likelihood of achievement of the Milestones, credit risk, timing of the Milestone Contingent Consideration payments and a risk-adjusted discount rate to estimate the present value of the expected payments. The discount rate was estimated at approximately 7.5% after adjustment for the probability of achievement of the Milestones. No Milestone Contingent Consideration is payable with respect to a particular Milestone unless and until the Milestone is achieved. Since the Milestone Contingent Consideration payments are based on nonfinancial, binary events, management believes the use of the scenario analysis method is appropriate. The fair value of each Milestone after the Insight Merger Date is reassessed by Oncocyte as changes in circumstances and conditions occur, with the subsequent change in fair value recorded in Oncocyte’s condensed consolidated statements of operations. The fair value of the Royalty Contingent Consideration was determined using a single scenario analysis method to value the Royalty Payments. The single scenario method incorporates Oncocyte’s assumptions with respect to specified future revenues generated from DetermaIO™ and current Insight Pharma Services over their respective useful lives, credit risk, and a risk-adjusted discount rate to estimate the present value of the expected royalty payments. The credit and risk-adjusted discount rate was estimated at approximately 45%. Since the Royalty Contingent Consideration payments are based on future revenues and linear payouts, management believes the use of the single scenario method is appropriate. The fair value of the Contingent Consideration after the Insight Merger Date is reassessed by Oncocyte as changes in circumstances and conditions occur, with the subsequent change in fair value recorded in Oncocyte’s condensed consolidated statements of operations. As of September 30, 2021, based on Oncocyte’s reassessment of the significant assumptions note above, there was an increase of approximately $2.3 million to the fair value of the Contingent Consideration primarily attributable to revised estimates of the timing of the possible future payouts and, accordingly, this increase was recorded as an unrealized loss in the condensed consolidated statements of operations for the nine months ended September 30, 2021. The following table reflects the activity for Oncocyte’s Contingent Consideration since the Insight Merger Date, measured at fair value using Level 3 inputs (in thousands): Schedule of Contingent Consideration, Measured at Fair Value
|  | Fair Value |
Balance at December 31, 2020 |  | $ | 7,120 |
Change in estimated fair value |  |  | 2,260 |
Balance at September 30, 2021 |  | $ | 9,380 |
Contingent consideration is not deductible for tax purposes, even if paid; therefore, no deferred tax assets related to the Contingent Consideration were recorded. Goodwill – 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, including Contingent Consideration. Goodwill also includes the $1.3 million of net deferred tax liabilities recorded principally related to DetermaIO™ and customer relationships discussed above. Goodwill is not amortized but is tested for impairment at least annually, or more frequently if circumstances indicate potential impairment (see Notes 2 and 4). The slight increase to Goodwill as of September 30, 2021 from December 31, 2020 was related to the true up of the final working capital adjustment paid to the selling shareholders in March 2021. Goodwill and identifiable intangible assets are not amortizable or deductible for tax purposes since these assets are not recognized for tax purposes. Asset acquisition of Razor Genomics, Inc. On September 30, 2019, Oncocyte completed the purchase of 1,329,870 shares of Razor Series A Convertible Preferred Stock, par value $0.0001 per share (the “Preferred Stock”), representing 25% of the outstanding equity of Razor on a fully diluted basis, for $10 million in cash (the “Initial Closing”), pursuant to a Subscription and Stock Purchase Agreement (the “Purchase Agreement”) dated September 4, 2019, among Oncocyte, Encore Clinical, Inc. (“Encore”), and Razor. Pursuant to the Purchase Agreement, Oncocyte entered into Minority Holder Stock Purchase Agreements of like tenor (the “Minority Purchase Agreements”) with the shareholders of Razor other than Encore (the “Minority Shareholders”) for the future purchase of the shares of Razor common stock they own. Oncocyte has also entered into certain other agreements with Razor and Encore, including a Sublicense and Distribution Agreement (the “Sublicense Agreement”), a Development Agreement (the “Development Agreement”), and an amendment to a Laboratory Services Agreement (the “Laboratory Agreement”) pursuant to which Oncocyte became a party to that agreement. Purchase Option The Purchase Agreement and Minority Shareholder Agreements granted Oncocyte the option to acquire the balance of the outstanding shares of Razor common stock from Encore under the Purchase Agreement and from the Minority Shareholders under the Minority Purchase Agreements (the “Option”) for an additional $10 million in cash and Oncocyte common stock valued at $5 million in total (the “Additional Purchase Payment”). Oncocyte agreed to exercise the Option if, within a specified time frame, certain milestones are met related to the contracting of clinical trial sites for a clinical trial of DetermaRx™. On January 29, 2021, the principal shareholder of Razor informed Oncocyte that the milestone requiring Oncocyte to purchase the outstanding shares of Razor common stock had been attained under the Purchase Agreement and Minority Shareholder Purchase Agreements. On February 24, 2021, Oncocyte exercised the Option and completed the purchase of all the issued and outstanding shares of common stock of Razor and paid the selling shareholders in total $10 million in cash and issued a total of 982,318 shares of Oncocyte common stock having a market value of $5.7 million on that date. As a result of Oncocyte exercising the Option and purchasing the Razor common stock, Oncocyte is now the sole shareholder of Razor. Development Agreement Under the Development Agreement, Razor reserved as a “Clinical Trial Expense Reserve” $4 million of the proceeds it received at the Initial Closing from the sale of the Preferred Stock to Oncocyte, to fund Razor’s share of costs incurred in connection with a clinical trial of DetermaRx™ for purposes of promoting commercialization (“Clinical Trial”). On February 24, 2021, upon the completion of the outstanding shares of Razor common stock and consolidation of Razor’s accounts, Oncocyte obtained control of approximately $3.4 million in cash from Razor, which was the remaining balance in the Clinical Trial Expense Reserve account that Razor was using to pay for the Clinical Trial expenses. Beginning on February 24, 2021, this balance was transferred to Oncocyte’s control as part of the acquisition date assets and liabilities recorded from the Razor entity shown below. Oncocyte will be responsible for all expenses for the Clinical Trial up to the total budget amount approved by representatives of Oncocyte and Encore on a Steering Committee, which is expected to cover multiple years and is estimated to cost up to $16 million. Upon completion of enrollment of the full number of patients for the Clinical Trial, Oncocyte will issue to Encore and the Minority Shareholders shares of Oncocyte common stock with an aggregate market value at the date of issue equal to $3 million (“Clinical Trial Milestone Payment”). If the issuance of shares of common stock having a market value of $3 million would require Oncocyte to issue a number of shares that, when combined with any shares issued under the Purchase Agreement and the Minority Shareholder Purchase Agreements, would exceed the number of shares that may be issued without shareholder approval under applicable stock exchange rules, Oncocyte may deliver the number of shares permissible under stock exchange rules and an amount of cash necessary to bring the combined value of cash and shares to $3 million. If, within a specified time frame, Encore is substantially responsible for obtaining funding to Oncocyte or Razor for the Clinical Trial from any third-party pharmaceutical company, a portion of such additional funding amount will be paid to Encore, subject to a $3 million cap on the payment to Encore if the funding is provided by a designated pharmaceutical company. Sublicense Agreement Under the Sublicense Agreement, Razor granted to Oncocyte an exclusive worldwide sublicense under certain patent rights applicable to DetermaRx™ in the field of use covered by the applicable license held by Razor for purposes of commercialization and development of DetermaRx™. Pursuant to the Razor Sublicense Agreement, Oncocyte will pay all royalties and all revenue sharing and earnout payments owed by Razor to certain third parties with respect to DetermaRx™ revenues, including the licensor of the patent rights sublicensed to Oncocyte, but those payments will be deducted from gross revenues to determine net revenues for the purpose of paying royalties to the former Razor shareholders. Total royalty and earnout payments to the former Razor shareholders, the licensor, and other third parties will be a low double-digit percentage, and in addition certain milestone payments may become due if cumulative net revenue benchmarks are reached. Royalties and earnout payments will be payable on a quarterly basis. This payment obligation will continue after Oncocyte’s purchase of the Razor common stock from Encore and the Minority Shareholders. Laboratory Agreement Under the Laboratory Agreement, Oncocyte has assumed Razor’s Laboratory Agreement payment obligations of $450,000 per year (see Note 10). The Laboratory Agreement gives Oncocyte the right to use Razor’s CLIA laboratory in Brisbane, California. Oncocyte pays Encore a quarterly fee for services related to operating and maintaining the CLIA laboratory, including certain staffing. The Laboratory Agreement will expire on September 29, 2021, but Oncocyte may extend the term for additional one-year periods, or Oncocyte may terminate the agreement at its option. Oncocyte also has the right to terminate the Laboratory Agreement if there is an event or occurrence that adversely affects, in any material respect, DetermaRx™ or its prospects or its ability to be commercialized, and it remains continuing and uncured. Accounting for the Razor Investment Beginning on the Initial Closing and through February 23, 2021, Oncocyte has accounted for the Razor investment under the equity method of accounting under ASC 323 because prior to the Additional Purchase Payment discussed above Oncocyte exercised significant influence over, but did not control, the Razor entity. Oncocyte did not control Razor because, among other factors, Oncocyte was entitled to designate one person to serve on a three-member board of directors of Razor, with the other two members designated by Encore. Also, any deadlocked decisions by a Steering Committee of Oncocyte and Encore representatives that makes decisions with respect to the Clinical Trial, other than with respect to the Clinical Trial budget, will be resolved by a member designated by Encore. Prior to February 24, 2021, the aggregate Razor acquisition payments of $11.245 million incurred during September 2019 and a $4 million CMS milestone payment made by Oncocyte during June 2020 under the Development Agreement, were amortized over a 10-year useful life of DetermaRx™ and were reflected in Oncocyte’s pro rata earnings and losses of the equity method investment in Razor in the condensed consolidated statements of operations. Beginning on February 24, 2021, Razor’s results are included with Oncocyte’s consolidated results, primarily consisting of outside research and development expenses incurred by Razor for the Clinical Trial. The Initial Closing equity method investment in Razor and the Additional Purchase Payment for the remaining interests in Razor are both considered an asset acquisition, rather than a business combination, because, among other factors, Razor had no workforce, no commercial product (Razor had granted all commercial rights to Oncocyte), no revenues, no distribution system and no facilities. Substantially all of the fair value of Razor’s assets at the Initial Closing and on February 24, 2021 was concentrated in Razor’s intangible asset, the DetermaRx™ patent and related know-how, thus satisfying the requirements of the practical screen test to be considered an asset acquisition in accordance with ASU 2017-01, Business Combinations (Topic 805): Clarifying the Definition of a Business. Accordingly, no goodwill may be recognized in an asset acquisition in accordance with ASC 805-50. As Razor became a wholly owned subsidiary of Oncocyte on February 24, 2021, the DTA associated with the previous equity method investment was reversed. There is no tax effect of this reversal as the DTA had been fully offset by a valuation allowance (see Note 8). However, upon payment of the Additional Purchase Payment, Oncocyte recorded an additional step-up to fair value for the Razor intangible asset under ASC 805-50 for financial reporting purposes but this “step-up” is not recognized for income tax purposes. As a result, the fair value adjustment of the Razor intangible asset on the acquisition date generated a DTL in accordance with ASC 740. This DTL is computed using the fair value of the intangible assets on the acquisition date multiplied by Oncocyte’s federal and state effective income tax rates, using the simultaneous equations method for asset acquisitions under the guidance provided in ASC 740-10-25-51, which requires that the DTL be recognized as part of the investment of the acquired asset instead of any immediate income tax expense or benefit arising from the recognition of the DTL. Furthermore, ASC 740 allows Oncocyte to treat acquired available deferred tax assets, such as Razor’s NOLs (subject to the annual limitation under Section 382 of the Internal Revenue Code) as available DTAs to offset against the DTLs, as the DTLs are expected to reverse within the NOL carryforward period. Any excess DTAs over those DTLs would be assessed for a valuation allowance in accordance with ASC 740. On February 24, 2021, Oncocyte estimated and recorded a net DTL of $7.6 million after offsetting the acquired available NOLs with the intangible asset shown in the table below. See Note 8 for a discussion related to the partial release of Oncocyte’s valuation allowance pertaining to the DTL generated above in accordance with ASC 740. On February 24, 2021, upon Oncocyte’s acquisition of the outstanding common stock of Razor, the Razor intangible asset balance recorded on the acquisition date and included in Intangible Assets was as follows (in thousands): Summary of Acquisition Intangible Assets
|  | As of February 24, |
|  | 2021 |
Razor intangible asset recorded on the acquisition date: |  |  |  |
Equity method investment carrying value |  | $ | 13,147 |
Cash paid as Additional Purchase Payment for the Razor asset |  |  | 10,000 |
Oncocyte common stock issued (982,318 shares issued at market value) as Additional Purchase Payment |  |  | 5,756 |
Less: cash balance received from Razor for Clinical Trial expenses |  |  | (3,352 | )
Deferred tax liability generated from the Razor asset |  |  | 7,564 |
Other |  |  | 169 |
Total Razor investment asset balance as of February 24, 2021 (a) |  | $ | 33,284 |
(a) | This balance will be amortized over the remaining useful life of the Razor asset, approximating 8.5 years, as of the February 24, 2021 acquisition date, with the amortization expense included in “Cost of revenues – amortization of acquired intangibles” on the condensed consolidated statements of operations.
Under ASC 805-50, for asset acquisitions, the remaining Clinical Trial Milestone Payment will be recorded only if the consideration is both probable (milestone has been achieved) and estimable in accordance with ASC 450, Contingencies, and as of September 30, 2021, no contingent consideration payment was recorded as the Clinical Trial Milestone Payment was not deemed probable of achievement as of that date. Summarized standalone financial data for Razor from January 1, 2021 through February 23, 2021 The unaudited standalone results of operations for Razor prior to being consolidated with Oncocyte is summarized below (in thousands): Schedule of Condensed Statement of Operations
|  | For the period from |
|  | January 1, 2021 through |
|  | February 23, 2021 |
Condensed Statement of Operations (1) |  | (unaudited) |
Research and development expense |  | $ | 125 |
General and administrative expense |  |  | - |
Loss from operations |  |  | (125 | )
Net loss |  | $ | (125 | )
(1) | The condensed standalone statement of operations of Razor is provided for informational purposes only. Razor’s results for the period from January 1, 2021 through February 23, 2021 are not included in Oncocyte’s consolidated results of operations because Razor was not consolidated with Oncocyte’s financial statements but had been accounted for under the equity method of accounting since the September 30, 2019 Initial Closing date, however, Oncocyte’s results included its pro rata losses from Razor. Beginning on February 24, 2021, Razor’s results are included with Oncocyte’s consolidated results, primarily consisting of outside research and development expenses incurred by Razor for the Clinical Trial discussed above.
Acquisition of Chronix Biomedical, Inc. On April 15, 2021, the Chronix Merger Date, Oncocyte completed its acquisition of Chronix pursuant the Chronix Merger Agreement. During the nine months ended September 30, 2021, Oncocyte incurred $681,000 in Chronix transaction costs, including advisory, legal, accounting, valuation, and other professional and consulting fees, which were accounted for as “General and administrative” expenses in the condensed consolidated statement of operations. Merger Consideration at Closing Pursuant to the Chronix Merger Agreement, Oncocyte agreed to deliver closing consideration consisting of approximately (i) 648,000 shares of Oncocyte common stock (the “Closing Shares”), which represents approximately $1.43 million of Closing Shares issued to Chronix stockholders and approximately $1.87 million of Closing Shares issued to payoff assumed liabilities, based on the $5.09 closing price per share of Oncocyte common stock on the NYSE American on February 1, 2021; (ii) $4.0 million in cash; and (iii) $550,000 net settlement of acquirer/acquiree pre-combination activity (collectively, the “Chronix Closing Consideration”). Contingent Consideration As additional consideration for holders of certain classes and series of Chronix capital stock, the Chronix Merger Agreement also provides for Oncocyte to pay “Chronix Contingent Consideration” consisting of (i) “Chronix Milestone Payments” of up to $14 million in any combination of cash or Oncocyte common stock if certain milestones specified in the Chronix Merger Agreement are achieved, (ii) “Royalty Payments” of up to 15% of net collections for sales of specified tests and products during the five-to-ten year earnout periods, and (iii) “Transplant Sale Payments” of up to 75% of net collections from the sale or license to a third party of Chronix’s patents for use in transplantation medicine during a seven-year earnout period. The Chronix Closing Consideration and Chronix Contingent Consideration include amounts payable to certain directors, officers and employees of Chronix, including officers and employees who are expected to continue to provide services to Chronix following the Chronix Merger. Liabilities Pursuant to the Chronix Merger Agreement, to the extent that Oncocyte or any of its subsidiaries, including Chronix, pays, performs or discharges an amount of liabilities of Chronix in excess of $8.25 million (the “Excess Liabilities”), Oncocyte may set off the Excess Liabilities against any Chronix Contingent Consideration payments that subsequently become due and payable pursuant to the Chronix Merger Agreement. Chronix had Excess Liabilities approximating $4.6 million as of the Chronix Merger Date. Prior to Chronix equity holders receiving any Chronix Contingent Consideration payments, all or a partial amount of any funds that would otherwise be payable as Chronix Contingent Consideration payments may be used to pay Excess Liabilities. Deferred Revenue - In June 2018 and subsequently amended in June 2019, Chronix and a medical diagnostic service company in Germany (“the German customer”) entered into a licensing and testing service agreement (“the German agreement”) for intellectual property related to TheraSure™-CNI Monitor and TheraSure™ Transplant Monitor. Under the terms of the agreement, Chronix received from the German customer an upfront payment of €3.7 million, less applicable VAT obligations, which Chronix recognized ratably over the contract term of 3.5 years. The German agreement contains a stipulation that requires Chronix to refund to the German customer a portion of the upfront fee on a pro rata basis if the German agreement is terminated prior to December 31, 2021. The deferred revenue of $738,000 recorded at the acquisition date represents the refund Oncocyte would pay to the German customer should it terminate the agreement prior to the agreed upon term. Oncocyte will amortize the deferred revenue and record revenue ratably over the remaining period as the German customer’s refund rights expire. Registration Rights Pursuant to the Chronix Merger Agreement, Oncocyte filed a registration statement with the SEC to register the resale of the shares of common stock under the Securities Act issued in connection with the Chronix Merger, which the SEC declared effective in July 2021. Workforce At the Chronix Merger Date, all of Chronix’s employees ceased employment with Chronix, and Oncocyte offered employment to certain of those former Chronix employees, principally in laboratory roles and certain administrative roles in Germany, and granted new equity awards to them under the Oncocyte 2018 Equity Incentive Plan. All these Oncocyte stock option awards granted have vesting terms and conditions consistent with stock options granted to most other Oncocyte employees. Aggregate Chronix Merger Consideration and Purchase Price Allocation Measurement period adjustments reflect new information obtained about facts and circumstances that existed as of the acquisition date. Final determination of the fair values may result in further adjustments to the values presented. To the extent that significant changes occur in the future, Oncocyte will disclose such changes in the reporting period in which they occur. The calculation of the aggregate merger consideration, consisting of the Closing Consideration and Chronix Contingent Consideration (the “Aggregate Chronix Merger Consideration”), at fair value, is shown in the following table (in thousands, except for share and per share amounts). In accordance with ASC 805, the Chronix Contingent Consideration, at fair value, is part of the total considered transferred on the Chronix Merger Date, as further discussed below. Schedule of Fair Value of Aggregate Merger Consideration
Cash consideration |  | $ | 3,960 |
Settlement of acquirer/acquiree activity pre-combination, net |  | $ | 550 |
Stock consideration |  |  |  |
Shares of Oncocyte common stock issued on the Merger Date |  |  | 647,911 |
Closing price per share of Oncocyte common stock on the Merger Date |  | $ | 5.09 |
Market value of Oncocyte common stock issued |  | $ | 3,298 |
Contingent Consideration |  | $ | 42,295 |
Total fair value of consideration transferred on the Merger Date |  | $ | 50,103 |
Pursuant to ASC 805, Business Combinations (“ASC 805”), Oncocyte accounted for the Chronix acquisition as a business combination using the acquisition method of accounting. Identifiable assets and liabilities of Chronix, including identifiable intangible assets, were recorded based on their fair values as of the date of the closing of the acquisition. The excess of the purchase price over the fair value of the net assets acquired was recorded as goodwill. Upon further review of the assets acquired and liabilities assumed, it was determined that the amount previously reported as assumed liabilities were not properly reflected. The following has been updated to reflect the assets acquired and liabilities as of the date of acquisition. The following table sets forth the allocation of the Aggregate Chronix Merger Consideration transferred to Chronix’s tangible and identifiable intangible assets acquired and liabilities assumed (in thousands): Schedule of Intangible Assets Acquired and Liabilities Assumed
|  | April 15, 2021 |
Assets acquired: |  |  |  |
Cash and cash equivalents |  | $ | 50 |
Accounts receivable and other current assets |  |  | 25 |
Long-term assets |  |  | 12 |
Acquired in-process research and development |  |  | 46,800 |
Total identifiable assets acquired (a) |  |  | 46,887 |
Liabilities assumed: |  |  |  |
Deferred revenue |  |  | 738 |
Assumed liability |  |  | 3,489 |
Long-term deferred income tax liability |  |  | 1,795 |
Total identifiable liabilities assumed (b) |  |  | 6,022 |
Net assets acquired, excluding goodwill (a) - (b) = (c) |  |  | 40,865 |
Total cash, contingent consideration, and stock consideration transferred (d) |  |  | 50,103 |
Goodwill (d) - (c) |  | $ | 9,238 |
All tangible assets and liabilities were valued at their respective carrying amounts as management believes that these amounts approximated their acquisition date fair values. The following is a discussion of the valuation methods and significant assumptions used to determine the fair value of Chronix’s material assets and liabilities in connection with the Chronix Merger: Acquired In-Process Research and Development and Deferred Income Tax Liability – The fair value of identifiable IPR&D intangible assets consists of $46.8 million allocated to TheraSure™-CNI Monitor and TheraSure™ Transplant Monitor. Oncocyte determined the estimated aggregate fair value of the TheraSure™ test assets using the MPEEM under the income approach. MPEEM calculates the economic benefits by determining the income attributable to an intangible asset after the returns are subtracted for contributory assets such as working capital, assembled workforce, and fixed assets. The resulting after-tax net earnings are discounted at a rate commensurate with the risk inherent in the economic benefit projections of the assets. To calculate fair value of the TheraSure™ test assets under MPEEM, Oncocyte used probability-weighted, projected cash flows discounted at a rate considered appropriate given the significant inherent risks associated with similar assets. Cash flows were calculated based on projections of revenues and expenses related to the asset and were assumed to extend through a multi-year projection period. The discount rate used to value TheraSure™ test assets was approximately 12%. The projected cash flows were based on significant assumptions, including the time and resources needed to complete development of the asset, timing and reimbursement rates from CMS, regulatory approvals, if any, to commercialize the asset, estimates of the number of tests that might be performed, revenue and operating profit expected to be generated by the asset, the expected economic life of the asset, market penetration and competition, and risks associated with achieving commercialization, including delay or failure to obtain CMS and any required regulatory approval, failure of clinical trials, and intellectual property litigation. Because the IPR&D is considered an indefinite-lived asset for accounting purposes but is not recognized for tax purposes, the fair value of the IPR&D on the acquisition date generated a DTL in accordance with ASC 740, Income Taxes. This DTL is computed using the fair value of the IPR&D assets on the acquisition date multiplied by Oncocyte’s federal and state effective income tax rates. ASC 740 allows Oncocyte to treat acquired available DTAs, such as Chronix’s NOLs (subject to the annual limitation under Section 382 of the Internal Revenue Code) as available DTAs to offset against the DTLs, as the DTLs are expected to reverse within the NOL carryforward period. Any excess DTAs over those DTLs would be assessed for a valuation allowance in accordance with ASC 740. This accounting treatment is acceptable if, at the time of the acquisition, Oncocyte can both reasonably estimate a timeline to commercialization and the economic useful life of the IPR&D assets upon commercialization, which will be amortized during the carryforward period of the offsetting DTAs. Oncocyte estimated and recorded a net DTL of $1.8 million after offsetting the acquired available NOLs with the IPR&D generated DTLs (see Note 8). Contingent consideration liabilities – ASC 805 requires that contingent consideration be estimated and recorded at fair value as of the acquisition date as part of the total consideration transferred. Contingent consideration is an obligation of the acquirer to transfer additional assets or equity interests to the selling shareholders in the future if certain future events occur or conditions are met, such as the attainment of product development milestones. Contingent consideration also includes additional future payments to selling shareholders based on achievement of components of earnings, such as “earn-out” provisions or percentage of future revenues, including royalties paid to the former Chronix shareholders based on a percentage of revenues generated from TheraSure™ tests over the useful life of the assets. Accordingly, Oncocyte determined there are three types of contingent consideration in connection with the Chronix Merger: the Milestone Payments, the Royalty Payments, and Transplant Sale Payments, discussed below, which comprise the “Chronix Contingent Consideration”. The fair value of the Milestone Payments was determined using a scenario analysis valuation method which incorporates Oncocyte’s assumptions with respect to the likelihood of achievement of the milestones defined in the Chronix Merger Agreement, credit risk, timing of the Milestone Payments and a risk-adjusted discount rate to estimate the present value of the expected payments. The discount rate was estimated at approximately 8% after adjustment for the probability of achievement of the milestones. The fair value of the Royalty Payments was determined using a single scenario analysis method. The single scenario method incorporates Oncocyte’s assumptions with respect to specified future revenues generated from TheraSure™-CNI Monitor, over its estimated useful life, taking into account credit risk and a risk-adjusted discount rate to estimate the present value of the expected Royalty Payments. The credit and risk-adjusted discount rate was estimated at approximately 21%. The fair value of the Transplant Sale Payments was determined using a single scenario analysis method. The single scenario method incorporates Oncocyte’s assumptions with respect to specified future licensing revenues generated from TheraSure™-Transplant Monitor, over its estimated useful life, taking into account credit risk and a risk-adjusted discount rate to estimate the present value of the expected Transplant Sale Payments. The credit and risk-adjusted discount rate was estimated at approximately 12%. The fair value of the Chronix Contingent Consideration after the Chronix Merger Date is reassessed by Oncocyte as changes in circumstances and conditions occur, with the subsequent change in fair value recorded in Oncocyte’s condensed consolidated statements of operations. As of September 30, 2021, based on Oncocyte’s reassessment of the significant assumptions noted above, there was no change to the fair value of the Contingent Consideration. Goodwill - Goodwill is calculated as the difference between the acquisition date fair value of the Aggregate Chronix Merger Consideration transferred and the values assigned to the assets acquired and liabilities assumed. Goodwill also includes the $1.8 million of net deferred tax liabilities recorded principally related to the TheraSure™ discussed above. Oncocyte recognized approximately $9.2 million of goodwill related to the Chronix acquisition. None of the goodwill recognized is expected to be deductible for income tax purposes. Goodwill is not amortized but is tested for impairment at least annually, or more frequently if circumstances indicate potential impairment (see Notes 2 and 4). Goodwill and identifiable intangible assets are not amortizable or deductible for tax purposes since these assets are not recognized for tax purposes. Adjustments to Purchase Price Allocation - During the three months ended September 30, 2021, Oncocyte made adjustments, to reflect corrections resulting from a misinterpretation of information obtained about facts and circumstances that existed as of the acquisition date, to the allocation of the Aggregate Chronix Merger Consideration transferred to Chronix’s tangible and identifiable intangible assets acquired and liabilities assumed. As a result, assumed liabilities have been reduced by $5.8 million, as $5.8 million in merger cash and stock consideration was used to pay off such liabilities, and goodwill has also been reduced by $5.8 million.

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