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Fair Value
 12 Months Ended
Dec. 31, 2011
Fair Value  
Fair Value

5                    Fair Value

 

Fair value measurements

 

As defined in ASC 820, Fair Value Measurements and Disclosures (“ASC 820”), fair value is based on the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. In order to increase consistency and comparability in fair value measurements, ASC 820 establishes a fair value hierarchy that prioritizes observable and unobservable inputs used to measure fair value into three broad levels, which are described below:

 

·                  Level 1: Quoted prices (unadjusted) in active markets that are accessible at the measurement date for assets or liabilities. The fair value hierarchy gives the highest priority to Level 1 inputs.

 

·                  Level 2: Inputs other than quoted prices within Level 1 that are observable for the asset or liability, either directly or indirectly.

 

·                  Level 3: Unobservable inputs that are used when little or no market data is available. The fair value hierarchy gives the lowest priority to Level 3 inputs.

 

In determining fair value, the Company utilizes valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs to the extent possible as well as considering counterparty credit risk in its measurement of fair value.

 

The fair value of the Company’s financial assets and liabilities that are measured on a recurring basis were determined using the following inputs as of December 31, 2011:

 

 

 

Fair Value Measurements
Using Fair Value Hierarchy

 

 

 

Level 1

 

Level 2

 

Level 3

 

Total

 

 

 

$000

 

$000

 

$000

 

$000

 

Cash equivalents

 

19,894

 

—

 

—

 

19,894

 

Warrants liability

 

—

 

—

 

51

 

51

 

Other derivatives

 

—

 

—

 

20

 

20

 

Total

 

19,894

 

 

 

71

 

19,965

 

 

Warrants Liability

 

The Company issued warrants to purchase shares of common stock under the registered direct financing completed in February 2007.  These warrants are being accounted for as a liability in accordance with ASC 815. At the date of the transaction, the fair value of the warrants of $6.8 million was determined utilizing the Black-Scholes option pricing model utilizing the following assumptions: risk free interest rate — 4.68%, expected volatility — 85%, expected dividend yield — 0%, and a remaining contractual life of 7 years. The value of the warrant is being marked to market each reporting period as a derivative gain or loss on the consolidated statement of operations until exercise or expiration. The fair value of the warrants was $0.7 million and $51,000 at December 31, 2010 and 2011, respectively. The Company used the Black-Scholes option-pricing model with the following assumptions to value the warrants:

 

 

 

December 31,

 

 

 

2010

 

2011

 

Exercise price

 

$

8.44

 

$

8.44

 

Expected term

 

3.13 Yrs

 

2.13 Yrs

 

Risk free interest rate

 

1.02

%

0.25

%

Expected volatility

 

121

%

106

%

Expected dividend yield over expected term

 

—

 

—

 

 

During the year ended December 31, 2011, the Company recognized the change in the value of warrants of $0.6 million as income on the consolidated statement of operations. During each of the years ended December 31, 2010 and 2009, the Company recognized an expense of $0.3 million from the change in the value of warrants.

 

Other Derivatives

 

Scottish Enterprise Agreement

 

On June 22, 2009, the Company amended the Agreement with Scottish Enterprise (“SE”) (the “Amendment”), in order to allow the Company to implement a reduction of the Company’s research operations located in Scotland in exchange for the parties’ agreement to modify the payment terms of the Agreement in the principal amount of £5 million (approximately $8.0 million at December 31, 2009), which SE had previously entered into with the Company. The Agreement provided for repayment of up to £5 million in the event the Company significantly reduced its Scottish research operations. Pursuant to the terms of the Amendment, in association with Cyclacel’s material reduction in staff at its Scottish research facility, the parties agreed to a modified payment of £1 million (approximately $1.7 million at June 22, 2009) payable in two equal tranches. On July 1, 2009, the first installment of £0.5 million (approximately $0.8 million) was paid and the remaining amount of £0.5 million (approximately $0.8 million) was paid on January 6, 2010.  In addition, should a further reduction below current minimum staff levels be effectuated before July 2014 without SE’s prior consent, the Company may be obligated to pay up to £4 million, the amount potentially due to SE, which will be calculated as a maximum of £4 million (approximately $6.2 million at December 31, 2011) less the market value of the shares held by SE at the time staffing levels in Scotland fall below the prescribed minimum levels.  If the Company were to have reduced staffing levels below the prescribed levels as of December 31, 2011, the amount potentially payable to SE would have been approximately £3.8 million (approximately $5.9 million) based on the Company’s share price of $0.59 at December 31, 2011.

 

This arrangement is accounted for as a liability under ASC 480, Distinguishing Liabilities from Equity (“ASC 480”), and is measured at fair value. Changes in fair value are recognized in earnings.  Due to the nature of the associated contingency and the likelihood of occurrence, the Company has concluded the fair value of this liability was approximately $20,000 at December 30, 2011. The most significant inputs in estimating the fair value of this liability are the probabilities that staffing levels fall below the prescribed minimum and that the Company is unable or unwilling to replace such employees within the prescribed time period. As of December 31, 2011, the Company has concluded that the probability that the combination of these events occurring is minimal. Changes in the value of derivatives are recorded in the consolidated statement of operations.

 

The following table reconciles the beginning and ending balance of fair value measurement using Level 3 inputs for the year ended December 31, 2011:

 

 

 

Level 3

 

 

 

$000

 

Balance as of December 31, 2010

 

680

 

Change in valuation of warrants liability

 

(629

)

Change in valuation of derivative

 

20

 

Balance as of December 31, 2011

 

71