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Stock-Based Compensation
 9 Months Ended
Sep. 30, 2016
Disclosure of Compensation Related Costs, Share-based Payments [Abstract]  
Stock-Based Compensation

NOTE 8 — STOCK-BASED COMPENSATION

 

Terms of the Company’s share-based compensation are governed by the Company’s 2015 Equity Incentive Plan (the “2015 Plan”), 2009 Stock Plan and 2008 Stock Plan (collectively the “Plans”). The Plans permit the Company to grant non-statutory stock options, incentive stock options and other equity awards to the Company’s employees, outside directors and consultants; however, incentive stock options may only be granted to the Company’s employees. Beginning June 29, 2015, no further awards may be granted under the 2009 Stock Plan or 2008 Stock Plan. However, to the extent awards under the 2008 Plan or 2009 Plan are forfeited or lapse unexercised or are settled in cash, the common stock subject to such awards will be available for future issuance under the 2015 Plan.

 

On June 3, 2016, the stockholders of the Company approved an amendment to the 2015 Plan at the 2016 Annual Meeting of Stockholders, which among other things, increased the number of shares that may be issued pursuant to awards under the 2015 Plan by 475,000 shares of common stock. As of September 30, 2016, the aggregate number of shares of common stock available for issuance under the 2015 Plan, as amended, was 389,448.

 

The exercise price for options issued under the Plans is determined by the board of directors, but will be (i) in the case of an incentive stock option (A) granted to an employee who, at the time of grant of such option, is a 10% stockholder, no less than 110% of the fair market value per share on the date of grant; or (B) granted to any other employee, no less than 100% of the fair market value per share on the date of grant; and (ii) in the case of a nonstatutory stock option, no less than 100% of the fair market value per share on the date of grant. The options awarded under the 2015 Plan, as amended, will vest as determined by the board of directors but will not exceed a ten-year period.

 

Options Issued to Directors and Employees as Compensation

 

Pursuant to the terms of the Plans, from inception to December 31, 2015, the Company issued options to purchase an aggregate of 2,026,712 shares to its executive officers and employees and non-employee directors for their services on the board of directors and its committees. Of these, 124,064 options were expired or exercised and 1,902,648 options remain outstanding as of December 31, 2015. The exercise prices of these option grants, as determined by the Company’s board of directors, range from $0.79 to $13.23 per share, and a portion of these vest subject to certain performance conditions.

 

During the nine months ended September 30, 2016, the Company granted an aggregate of 246,000 non-qualified 10-year term options to purchase shares of the Company’s common stock to its employees. Of these, 10,000 options were forfeited and a total of 2,158,648 options issued to executive officers, non-executive employees and non-employee directors remain outstanding as of September 30, 2016. The exercise prices of these option grants, as determined by the Company’s board of directors, range from $0.79 to $13.23 per share, and a portion of these vest subject to certain performance conditions.

 

The Company recognized stock-based compensation expense related to these options for these services within general and administrative expense in the accompanying unaudited condensed statements of operations of approximately $333,000 and $752,000 for the three months ended September 30, 2016 and 2015, respectively, and $1.0 and $2.4 million for the nine months ended September 30, 2016 and 2015, respectively. As of September 30, 2016, there was approximately $2.0 million of total unrecognized compensation cost related to unvested stock-based compensation arrangements. This cost is expected to be recognized over a weighted average period of 1.2 years.

 

On October 25, 2016, the Company’s board of directors granted 280,088 shares of common stock issuable upon exercise of options, consisting of 140,044 options to each of Andrew J. Ritter, our Founder and President, and Ira E. Ritter, our Executive Chairman and Chief Strategic Officer. The exercise price of these options is $2.60 per share, which reflects the Company’s closing price per share on October 25, 2016 (the date of grant). The options vest ratably over 48 months beginning on the date that the Company discloses top-line data of its current phase 2b/3 clinical trial.

 

Options Issued to Nonemployees for Services Received

 

The Company has issued options to purchase an aggregate of 110,573 shares of the Company’s common stock since inception to December 31, 2015 to non-employee consultants under the Plans. Of these, 74,687 options have been forfeited or exercised, and 35,886 options remain outstanding as of December 31, 2015.

 

During the nine months ended September 30, 2016, the Company granted an aggregate of 7,000 non-qualified 10-year term options to purchase shares of the Company’s common stock to its nonemployee contractors and 15,908 options were forfeited or exercised. As of September 30, 2016, a total of 26,978 options issued to nonemployees remain outstanding. The exercise prices of the outstanding options, as determined by the Company’s board of directors, range from $0.72 to $2.25 per share. These outstanding options, with the exception of an option to purchase an aggregate of 7,272 shares granted to a consultant in March 2011, vest 25% upon the first anniversary of the vesting commencement date with the remaining options vesting monthly in equal amounts over 36 months. The option granted to the consultant in March 2011, vested 25% on the date of grant with the remaining shares vesting monthly in equal installments over 36 months.

 

The Company recognized stock-based compensation expense related to these options for these services of approximately $1,800 and $100 for the three months ended September 30, 2016 and 2015, respectively, and approximately $4,500 and $700 for the nine months ended September 30, 2016 and 2015, respectively, within research and development expense in the accompanying unaudited condensed statements of operations.

 

Options Valuation

 

The Company calculates the fair value of stock-based compensation awards granted to employees and nonemployees using the Black-Scholes option-pricing method. If the Company determines that other methods are more reasonable, or other methods for calculating these assumptions are prescribed by regulators, the fair value calculated for the Company’s stock options could change significantly. Higher volatility and longer expected lives would result in an increase to stock-based compensation expense to non-employees determined at the date of grant.

 

Stock-based compensation expense to non-employees affects the Company’s research and development expenses.

 

The fair value of each stock option granted has been determined using the Black-Scholes option-pricing model. The material factors incorporated in the Black-Scholes model in estimating the fair value of the options granted for the periods presented were as follows:

 

    Three Months Ended,     Nine Months Ended  
    September 30,     September 30,  
    2016     2015     2016     2015  
Expected dividend yield     0.00 %     (1)       0.00 %     0.00 %
Expected stock price volatility     53.60% - 54.73 %     (1)       53.60% - 59.03 %     51.45% - 67.08 %
Risk-free interest rate     1.29% - 1.71 %     (1)       1.29% - 1.78 %     0.77% - 2.07 %
Term of options     10       (1)       10       10  
Stock price     $1.27 - $1.68       (1)       $1.13 - $1.68       $5.86  

 

  (1) During the three months ended September 30, 2015, the Company had no unvested options for non-employees and no new options were granted to employees or non-employees during the period.

 

  ● Expected dividend yield. The expected dividend is assumed to be zero as the Company has never paid dividends and has no current plans to pay any dividends on the Company’s common stock.
     
  ● Expected stock-price volatility. As the Company’s common stock only recently became publicly traded, the expected volatility is derived from the average historical volatilities of publicly traded companies within the Company’s industry that the Company considers to be comparable to the Company’s business over a period approximately equal to the expected term.
     
  ● Risk-free interest rate. The risk-free interest rate is based on the U.S. Treasury yield in effect at the time of grant for zero coupon U.S. Treasury notes with maturities approximately equal to the expected term.
     
  ● Expected term. The expected term represents the period that the stock-based awards are expected to be outstanding. The Company’s historical share option exercise experience does not provide a reasonable basis upon which to estimate an expected term because of a lack of sufficient data. Therefore, the Company estimates the expected term by using the simplified method provided by the SEC. The simplified method calculates the expected term as the average of the time-to-vesting and the contractual life of the options.

 

In addition to the assumptions used in the Black-Scholes option-pricing model, the Company also estimates a forfeiture rate to calculate the stock-based compensation for the Company’s equity awards. The Company will continue to use judgment in evaluating the expected volatility, expected terms and forfeiture rates utilized for the Company’s stock-based compensation calculations on a prospective basis.

 

Management estimated the implied market value of invested capital of the Company by backsolving for the purchase price of the Company’s preferred shares for one common share through the option-pricing method. The premise of this method is that the transaction implied a market price for a share which in turn implied values for the other classes of equity based on relative claims on equity value, such as liquidation preferences and conversion rights. The application of the backsolve method considering the Company’s capital structure yielded a total market value of invested capital of approximately $15.5 million, $14.4 million, and $8.9 million, of which approximately $819,000, $870,000, and $670,000 were allocated to the total value of common stock as of the Company’s three valuation dates of November 7, 2013, July 31, 2012, and December 31, 2010, respectively.

 

On the three valuation dates of November 7, 2013, July 31, 2012, and December 31, 2010, after estimating the market value of invested capital, the Company allocated it to the various equity classes comprising the subject company’s capitalization table. This process ultimately results in creating a final estimate of value for the subject company’s underlying equity interests. While there are many different value allocation methods, these various methods can be grouped into three general categories as defined by the AICPA Guide, one of which is the Option-Pricing Method (OPM).

 

The Company used the OPM to allocate market value of invested capital to the various equity classes and debt comprising the Company’s capitalization structure. The Company chose the OPM over other acceptable methods due to the complex capital structure, the uncertainty related to market conditions, and the lack of visibility on an imminent exit event. Under the OPM, each equity class is modeled as a call option with a distinct claim on the equity of the Company. The option’s exercise price is based on the Company’s total equity value available for each participating equity holder. The characteristics of each equity class determine the equity class’ claim on the total equity value. By constructing a series of options in which the exercise price is set at incremental levels of value, which correspond to the equity value necessary for each level of equity to participate, the Company determined the incremental option value of each series. When multiplied by the percentage of ownership of each equity class participating under that series, the result is the incremental value allocated to each class under that series.

 

The OPM relies on the Black-Scholes option-pricing model to value the call options on the Company’s invested capital. The following inputs were applied in the Black-Scholes calculations of the OPM:

 

    Valuation Dates  
    November 7, 2013     July 31, 2012     December 31, 2010  
Risk-free rate     0.55 %     0.57 %     2.01 %
Maturity (years)     3.00       4.00       5.00  
Volatility     58.00 %     61.00 %     61.00 %

 

Discounts ranging from 35.8% to 40% were applied for lack of control and lack of marketability for the common stock. The calculation resulted in a fair value for the common stock of $1.17, $1.19, and $1.03 per share as of the Company’s three valuation dates of November 7, 2013, July 31, 2012, and December 31, 2010, respectively.

 

For options issued in 2014, given the Company’s distinct possible exit scenarios of an initial public offering, the Company used the probability weighted expected return method (PWERM) to estimate the fair value of the Company’s common equity. Under this method, an analysis of future values of a company is performed for several likely liquidity scenarios. The value of the common stock is determined for each scenario at the time of each future liquidity event and discounted back to the present using a risk-adjusted discount rate. The present values of the common stock under each scenario are then weighted based on the probability of each scenario occurring to determine the value for the common stock. The Company’s management determined the probability weighting of potential liquidity events to be 45% for an initial public offering and 55% for other scenarios, which represents all other likely outcomes for the Company.

 

Management estimated the implied market value of invested capital of the Company by backsolving for the purchase price of the Company’s preferred shares for one common share through the use of OPM. The application of the backsolve method considering the capital structure yielded a total market value of invested capital of approximately $25.2 million, of which approximately $1.4 million was allocated to the total value of common stock as of the Company’s valuation date of October 31, 2014.

 

Given the lack of marketability for the common stock, the Company applied a discount of 21.4% for using the average strike put option approach. This resulted in a probability weighted common share value, after adjustment, of $5.86 per share as of valuation date of October 31, 2014.

 

Stock-based Compensation Summary Tables

 

Information regarding the Company’s stock option grants to the Company’s employees and non-employees, along with the estimated fair value per share of the underlying common stock, for stock options granted since 2005 is summarized as follows:

 

Grant Date   Number of Common
Shares Underlying
Options Granted		     Exercise Price per
Common Share		     Estimated Fair
Value per Share of
Common Stock		     Intrinsic Value Per
Option		  
2005     58,321     $ 0.07     $ 1.79     $ 1.72  
2009     60,559     $ 0.72 - $0.79     $ 4.43     $ 3.71 - $3.64  
2011     33,846     $ 1.03     $ 1.00     $ 0.00  
2012     60,019     $ 1.14     $ 1.14     $ 0.00  
2013     100,000     $ 1.14 - $1.30     $ 1.14     $ 0.00  
2014     1,626,740     $ 5.86 - $13.23     $ 5.86     $ 0.00  
2015     34,000     $ 2.25     $ 2.25     $ 0.00  
2016     273,000     $ 1.39 - $1.54     $ 1.39 - $1.54     $ 1.68  

 

The following represents a summary of the options granted to employees and non-employees that are outstanding at September 30, 2016 and changes during the period then ended:

 

    Options     Weighted Average
Exercise Price		  
Outstanding at December 31, 2015     1,938,534     $ 7.081  
Granted     273,000       1.525  
Exercised/Expired/Forfeited     (25,908 )     1.131  
Outstanding at September 30, 2016     2,185,626     $ 6.457  
Exercisable at September 30, 2016     999,446     $ 5.606  
Expected to be vested     1,186,180     $ 7.175