NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS
1. Basis of Preparation:
The accompanying unaudited
condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the
United States (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 8 of Regulation
S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements.
The preparation of our financial statements requires us to make estimates and assumptions that affect, among other areas, the reported
amounts of assets, long-lived assets, impairment of long-lived assets, and accrued liabilities. These estimates and assumptions
also impact expenses and the disclosures in our condensed consolidated financial statements and the accompanying notes. Although
these estimates are based on our knowledge of current events and actions we may undertake in the future, actual results may ultimately
differ from these estimates and assumptions. In the opinion of management, all adjustments (consisting of normal recurring
accruals) considered necessary for a fair presentation of the results of operations for the periods presented have been included.
Operating results for the six months ended June 30, 2016 and 2015 are not necessarily indicative of the results that may be expected
for the fiscal year. The condensed consolidated balance sheet at December 31, 2015 has been derived from the audited consolidated
financial statements at that date, but does not include all of the information and footnotes required by GAAP for complete financial
statements.
Certain amounts from
prior periods have been reclassified to conform to the current period’s presentation due to the adoption of ASU 2015-03.
The effect of these reclassifications on our previously reported condensed consolidated financial statements was not material.
You should read these
condensed consolidated financial statements together with the historical consolidated financial statements of the Company for the
years ended December 31, 2015 and 2014, included in the Company’s Annual Report on Form 10-K for the year ended December
31, 2015, filed with the Securities and Exchange Commission, or SEC, on March 22, 2016 (the “Annual Report”).
Adopted Accounting Pronouncements
In March 2015, the
FASB issued ASU No. 2015-03, “Interest-Imputation of Interest” (“ASU 2015-03”), which provides guidance
on the presentation of debt issuance costs. To simplify the presentation of debt issuance costs, the amendments in this ASU require
that debt issuance costs be presented in the balance sheet as a direct deduction from the carrying amount of the related debt,
consistent with the manner in which debt discounts or premiums are presented. The ASU is effective for fiscal years, and interim
periods within those years, beginning after December 15, 2015, which for Rock Creek was the first quarter of 2016. Accordingly
we have included $418 and $478 of debt issuance costs as a direct deduction from the carrying amount of the related debt on our
Consolidated Balance Sheets as of June 30, 2016 and December 31, 2015, respectively.
Recently Issued Accounting Pronouncements
From time to time,
new accounting pronouncements are issued by the Financial Accounting Standards Board, or FASB, or other standard setting bodies
that may have an impact on the Company’s accounting and reporting.
In June 2016, the
FASB issued ASU 2016-12, “Revenue from Contracts with Customers (Topic 606)”, which provided narrow scope improvements
and practical expedients affecting transactions included within the scope of Topic 606, but does not change the core principal
nor the effective date.
In April 2016, the
FASB issued ASU 2016-10, “Revenue from Contracts with Customers (Topic 606). Identifying Performance Obligations and Licensing.
ASU 2016-10 does not change the core principal of ASU 2014-09, ASU 2015-14 (Topic 606), but clarifies the following two aspects
of Topic 606: identifying performance obligations and licensing implementation guidance. Early adoption is not permitted. We are
required to adopt this standard in the first quarter of 2017. The initial application of the standard is not expected to significantly
impact the Company.
In March 2016, the
FASB issued ASU 2016-09, “Compensation - Stock Compensation (topic 718): Improvements to Employee Share-Based Payment Accounting.”
ASU 2016-09 was issued as part of the FASB simplification initiative. The area for simplification involves several aspects of the
accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity
or liabilities and classification on the statements of cash flows. For public reporting entities, the amendments are effective
for annual periods beginning after December 15, 2016 and for interim periods within those annual periods. Early adoption is permitted
for any entity during an interim or annual period. The initial application of the standard is not expected to significantly impact
our Company.
In February 2016,
the FASB issued ASU 2016-02, “Leases” (Topic 842). The guidance in ASU 2016-02 supersedes the lease recognition requirements
in ASC Topic 842, Leases. ASU 2016-02 requires an entity to recognize assets and liabilities arising from a lease for both financing
and operating leases, along with additional qualitative and quantitative disclosures. ASU 2016-02 is effective for fiscal years
beginning after December 15, 2018, with early adoption permitted. We are required to adopt this standard in the first quarter of
2019. The Company is currently evaluating the effect this standard will have on its Consolidated Financial Statements.
In August 2015, the
FASB issued ASU No. 2015-14, which defers the effective date of ASU No. 2014-09, “Revenue from Contracts with Customers (Topic
606)” by one year. As a result, the ASU is now effective for fiscal years, and interim periods within those years, beginning
after December 15, 2017. ASU No. 2014-09 provides comprehensive guidance on the recognition of revenue from customers arising from
the transfer of goods and services. The ASU also provides guidance on accounting for certain contract costs, and requires new disclosures.
Early adoption is not permitted. We are required to adopt this standard in the first quarter of 2018. The initial application of
the standard is not expected to significantly impact the Company.
The Company believes
that all recently issued accounting pronouncements and other authoritative guidance for which the effective date is in the future
either will not have an impact on its accounting or reporting or that such impact will not be material to its financial position,
results of operations, and cash flows when implemented.
2. Liquidity and Management’s
Plans:
Liquidity
Since
the Company’s transition to a pharmaceutical development company, all of the its resources have been dedicated to
research and development, and together with the Company’s general and administrative expenses, are expected to result
in continuing losses until the commercialization or the licensing of the Company’s products. The Company’s focus
is being a pharmaceutical development company dedicated to the discovery, development and commercialization of therapies
for chronic inflammatory diseases and neurologic disorders, with an initial emphasis on developing anatabine-based compounds
and analogs of anatabine as potential drug product candidates. Its future prospects will depend on its ability to
successfully pursue this strategy of pharmaceutical drug product development, manage overall operating expenses, and obtain
additional capital necessary to support its operations. The primary source of the Company’s liquidity comes from an
October 2015 private placement of $20 million in principal amount of Senior Secured Convertible Notes (the
“Notes”).
As of the date
of this filing, the aggregate remaining principal balance of the Notes was approximately $15.1 million, and the Company had
cash in the amount of approximately $10.4 million in deposit control accounts securing obligations under the Notes.
The Notes, as
amended on February 4, 2016, waived certain covenant failures and provided for releases to the Company’s unrestricted
bank accounts from amounts held in the Control Accounts transferred to its unrestricted bank accounts, subject to
satisfaction or waiver of certain Equity Conditions (as defined in the Notes). These Equity Conditions (as defined in
the Notes), include, without limitation, the existence of an effective registration statement covering the resale of the
shares issued in payment (or, in the alternative, the eligibility of the shares issuable pursuant to the Notes for sale
without restriction under Rule 144 and without the need for registration), and a certain minimum trading volume and trading
price in the stock to be issued. The Company filed its registration on February 4, 2016 which was declared effective with the
SEC on February 11, 2016. On February 8 and April 26, 2016, the lenders transferred $1,000,000 and $750,000, respectively, to
the Company’s unrestricted bank account. The Company received additional funding of $250,000 in May and $275,000 in
June, but was not in compliance with its Equity Conditions and negotiated the interim agreement noted below.
Through the
date of this filing, the Company had issued to the Holders an aggregate of 157,428,887 shares of common stock in conversion
of the Notes, whether through conversions by the Holders or conversions by the Company to make installment payments under the
Notes. The decline in the Company’s trading price since the issuance of the Notes has resulted in the issuance
of substantially more shares than was anticipated, and if the Company’s trading price does not increase from the
closing price on July 1, 2016 of $0.01 per share, at least 1,786,323,490 additional shares would be needed in order to
complete the repayment of the Notes. In addition, the Company is required by the Notes to all times keep reserved at least
300% of the number of shares of common stock necessary to effect the conversion of the remaining balance of the Notes in
full.
On July 7, 2016,
the Company entered into an interim agreement with the Note holders under which the lenders agreed to refrain from selling
shares of the Company’s common stock at a price less than $0.02 per share and when the aggregate composite daily dollar trading volume of the Common Stock on such Trading Day fails
to be equal to or exceed $225,000, subject to certain conditions, and the
Company agreed to seek approval for a reverse split at the annual stockholders meeting to be held on August 12, 2016. As part
of the agreement, the Company issued 16,830,000 shares of its common stock to settle approximately $97 thousand of interest
expense, and the lenders released $500,000 from the control account on July 25, 2016.
Future funding from the Notes will be dependent upon the Company continuing to issue shares of its
common stock.
As of June
30, 2016, approximately $1.1 million of principal payments due on the Notes through June 30, 2016 has been deferred until
August, 2017 per agreement with the lenders.
On March 30, 2016,
the Company entered into a private placement with six accredited investors, pursuant to which the Company sold and issued a total
of 1,428,570 shares of the Company’s common stock at a purchase price of $0.35 per share, and issued seven (7) year warrants
to purchase up to a total of 2,857,140 shares of common stock at an exercise price of $1.12 per share, Rock Creek raised an aggregate
of $500,000 in the private placement.
As of June 30, 2016,
the Company was in arrears in paying $312,500 to a former employee. This amount is included in the Company’s Condensed Consolidated
Balance Sheets in accrued liabilities, as of June 30, 2016 and December 31, 2015, respectively.
If the Company continues
to issues shares of its common stock in order to provide funding under the Notes, the stockholders may continue to see significant
dilution in their investment.
As a result of the
uncertainty of its funding options, there is substantial doubt about the Company’s ability to continue to be a going concern.
The Company’s continuation as a going concern depends upon its ability to negotiate favorable payment terms on various obligations
and obtain additional financing to provide cash to meet its obligations as may be required, and ultimately to attain profitable
operations and positive cash flows. The Company has no commercial products on the market at this time.
As an alternate course
to funding from the Notes, the management of the Company intends to attempt to secure additional required funding through equity
or debt financings, sales or out-licensing of intellectual property assets, seeking partnerships with other pharmaceutical companies
or third parties to co-develop and fund research and development efforts, or similar transactions. However, there can be no assurance
that the Company will be able to obtain any required additional funding. If the Company unsuccessful in securing funding from
any of these sources, it will likely have to continue to defer or delay research and development of the Company’s drug compound,
reduce operating expenses and defer or delay payments to creditors. If the Company does not have sufficient funds to continue
operations, it could be required to seek bankruptcy protection or other alternatives that could result in the its stockholders
losing some or all of their investment in the Company.
Management’s
Plans:
The Company’s
research and development efforts in 2015 focused almost exclusively on the development of its lead compound, Anatabine Citrate,
and related compounds as drug candidates and has carried this focus into 2016. Subject to obtaining the necessary capital, the
Company expects its efforts will primarily focus on conducting clinical trials related to the various phases (Phase I, Phase II,
and Phase III) of the drug development process. Rock Creek will continue to leverage the underlying science and data from numerous
in vitro and in vivo preclinical studies and from clinical data generated from studies using the dietary supplement and cosmeceutical
products, along with its Phase I clinical study using multiple immediate and modified release versions of oral anatabine citrate
drug product to advance its drug development program.
As announced on
October 15, 2015, the Company successfully completed its three- part Phase I trial. The study was designed to achieve several
goals. An exploratory objective of the UK Phase I study was to evaluate pro-inflammatory mediators from stimulated peripheral
blood mononuclear cells (PBMC). The pharmacodynamics (PD) report generated as a result of this exploratory objective
highlighted that Anatabine Citrate produced significant reductions in a key marker of inflammation, STAT 3 (Signal Transducer
and Activator of Transcription 3) in two of the dosing regimens in the Company's Phase I trial when activated STAT 3 values
were appropriately normalized by the amount of a reference protein (GAPDH) that is unaffected by LPS stimulation in the blood
samples. The PD assay examined the effect of the drug on inflammatory responses induced in PBMC samples taken from human
volunteers. The PBMC samples were taken prior to ingestion of the drug and then taken at various times after ingestion. The
PBMC samples were then stimulated with a bacterial inflammatory molecule called lipopolysaccharide (LPS) and two markers of
inflammation were examined. These two inflammation markers are the transcription factors STAT 3 and NF-kB (Nuclear Factor
Kapp B). One of the oral dosing regimens within the study also showed a reduction in NF-kB activity, when data was normalized
via this newly developed PD assay, although observations for NF-kB activity were generally less consistent than the STAT
3 results. This was attributed to the novel PD assay not being optimized for NF-kB and that in future studies, the
incubation period for the NF-kB samples should be changed to account for this finding. Analyses of the remaining regimens
is ongoing.
With the successful
completion of this Phase I oral dosing clinical study and additional preclinical studies in animal models of inflammatory skin
diseases, the Company is now poised to conduct a Phase Ib proof-of-concept clinical trial to investigate the safety and efficacy
of topical formulations of its lead compound in patients suffering from mild-to-moderate psoriasis. The Company has been
since the third quarter of 2015 developing and optimizing topical cream and ointment formulations with Anatabine Citrate specifically
focused on optimizing delivery of the drug into skin of patients with inflammatory skin disorders. Psoriasis is characterized by
an increase in activity of the intracellular transcription factors NF-kB and STAT3, which are responsible for driving the inflammation
associated with this disease. The Company’s preclinical and clinical data suggests that the Company's lead compound
can attenuate the activity of these two transcription factors thus producing anti-inflammatory effects.
The
Phase Ib psoriasis study is being designed to achieve several goals. The primary goal of this study will be to determine the
safety and tolerability of the topical cream and/or ointment Anatabine Citrate formulations under the dosing regimens of the
study. The secondary goal of the Phase Ib study is to determine if there is an efficacy signal from the treatment of
psoriasis plaques with Anatabine Citrate topical drug products. The standard evaluation of efficacy is visual inspection and
scoring of the psoriatic plaques by experts. These observations will be supplemented in our study with ultrasonography and
histopathological evaluations of skin biopsies. These will allow assessment of the impact of our drug on the infiltrate
thickness of the psoriatic lesions and the degree of infiltration of inflammatory cells, among other parameters. Finally, the
Company will be collecting biomarker data from the skin biopsies. In particular, we will measure the activity of NF-kB and
STAT3 which have been previously identified as critical regulators of inflammation in psoriasis. A great deal of scientific
and clinical work performed by the Company and others suggests that the Company's drug will suppress inflammation by
inhibiting the activation of these regulators of gene activity. Verification of the relationship between reduced activation
of these transcription factors and reduced psoriatic pathology will be regarded as further evidence of anatabine’ s
mechanism of action. Further, if the overall results are positive, this study will provide the proof of concept that the
mechanism of action of our compound can potentially be therapeutic, not only in dermatological disorders, but in other
inflammation driven human diseases as well.
To
support its clinical plan, the Company has undertaken a dermal toxicity program, which will allow the safe dosing of psoriasis
patients in the dermal clinical studies. By careful species selection, this dermal toxicity testing program will confirm the range
of anatabine citrate concentrations for dosing in the Phase Ib study, but will also support multiple clinical study protocols for
a follow on Phase IIa/II psoriasis trial in 2017.
In
addition to its work in psoriasis, the Company has expanded its dermatological focus to determine whether anatabine has
applicability in atopic dermatitis (AD) or "eczema". Recent forecasts suggests that this market, within a number of
major countries, will grow to in excess of $5 billion by the early part of the next decade, growing at a compound annual
growth rate of close to 4%. Accordingly, the Company has been evaluating anatabine's attributes in a chronic mouse
model of TMA-induced contact hypersensitivity, a pre-clinical model for AD, and known simply as the TMA model. This
well-studied model of chemical sensitization shows many of the features of AD, including swelling, inflammatory cell
infiltration and inflammatory marker/cytokine increase. Initial observations and early results show that swelling
associated with AT in this model is decreased with treatment by both anatabine citrate cream and anatabine citrate ointment.
Importantly, the proliferation of the epidermal keratinocytes produced by TMA is also opposed by the anatabine derived
topical therapeutics. Further detailed analyses are ongoing, however, pictorial representations of anatabine's effect through
skin section epidermal staining, and graphical data measurements of reduced ear thickness in affected mice, are also included
in the recent Investor Presentation. More detail on the Company's plans for atopic dermatitis will be conveyed later in the
year.
Part of the Company’s
drug development strategy is to leverage the previous and ongoing research and development efforts of the Company, much of which
had been undertaken in conjunction with the Roskamp Institute. In particular, in his prior position as Chief Executive Officer
of the Roskamp Institute, Dr. Mullan has been intimately involved with the research being conducted with respect to anatabine over
the last four years. This research shows that, in a number of preclinical cell based and animal models, anatabine inhibits the
activation of Nuclear Factor Kappa B (NF-kB), a critical regulatory protein complex responsible for the generation of inflammatory
molecules in a wide range of inflammatory conditions. As a result, in these preclinical models of inflammatory conditions, in the
presence of anatabine, there is reduced activation of inflammatory cells, reduced release of inflammatory molecules and reduced
tissue damage. Research conducted by the Roskamp Institute also demonstrates that anatabine is well tolerated in anti-inflammatory
doses in animal models.
3. Insurance Proceeds Receivable:
At December 31, 2015,
insurance proceeds receivable consisted of $62,000 due from an insurance claim arising from the Company’s stock delisting
from the NASDAQ Capital Markets exchange.
The receivable was
paid by the insurer in January, 2016.
4. Discontinued Operations:
In August 2014, the
Company suspended all sales of its Anatabloc® products in response to correspondence received from the FDA pertaining to the
Company’s filing on a New Dietary Ingredient Notification (NDIN) with respect to Anatabloc®. Upon further discussion
and analysis, the Company decided to permanently exit the dietary supplement market for all Anatabloc® and CigRx® products.
This included suspending manufacturing and sales of the line of Anatabloc cosmeceuticals – Anatabloc Rare Facial Crème
and Anatabloc Facial Serum Information pertaining to components of discontinued operations included in these condensed consolidated
financial statements is included below.
Assets and liabilities
of discontinued dietary supplement operations consisted of the following as of:
$ thousands
|
|
June 30, 2016
|
|
|
December 31,
2015
|
|
|
|
(Unaudited)
|
|
|
|
|
Assets:
|
|
|
|
|
|
|
|
|
Prepaid expenses
|
|
$
|
-
|
|
|
$
|
3
|
|
Machinery and equipment
|
|
|
24
|
|
|
|
24
|
|
Total assets
|
|
$
|
24
|
|
|
$
|
27
|
|
|
|
|
|
|
|
|
|
|
Liabilities:
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
$
|
324
|
|
|
$
|
326
|
|
Accrued expenses
|
|
|
41
|
|
|
|
107
|
|
Total current liabilities
|
|
$
|
365
|
|
|
$
|
433
|
|
Results of discontinued
operations were a loss of $0 (zero) and $71 thousand for the six months ended June 30, 2016 and 2015, respectively. The losses
are primarily related to insurance and disposal costs.
5. Accrued Expenses:
Accrued expenses consisted
of the follow as of:
$ thousands
|
|
June 30, 2016
|
|
|
December 31,
2015
|
|
|
|
(
Unaudited
)
|
|
|
|
|
Accrued Expenses:
|
|
|
|
|
|
|
|
|
Accrued restructuring charges
|
|
$
|
398
|
|
|
$
|
479
|
|
Accrued payroll and related expenses
|
|
|
2,713
|
|
|
|
2,559
|
|
Accrued legal expenses
|
|
|
707
|
|
|
|
340
|
|
Accrued expenses
|
|
|
372
|
|
|
|
507
|
|
Total accrued expenses
|
|
$
|
4,190
|
|
|
$
|
3,885
|
|
6. Restructure Charge:
As previously
discussed, the Company has focused the business on pharmaceutical drug development. As part of the refocused business
transformation, the Company consolidated its offices in Sarasota, Florida, exited the dietary supplement and cosmetic
business and terminated a number of personnel in 2014. The Company entered into severance agreements with the former employees
and accrued the costs of the executed severance agreements. All costs related to the closure of the
Gloucester, Massachusetts, Washington, D.C., and Glen Allen, Virginia offices have also been accrued.
The Company incurred
no restructuring charges for the six months ended June 30, 2016 or June 30, 2015.
For the six
months ended June 30, 2016 and 2015, the Company paid $45 thousand and $1.9 million, respectfully, for restructuring costs
previously accrued. These costs were primarily related to involuntary termination costs. Approximately $1.7 million of
involuntary termination costs settled for the six months ended June 30, 2015 were settled in stock.
As of June 30, 2016,
the Company was in arrears in the final severance payment to one former officer in the amount of $312,500.
7. Stockholders’ Equity:
Stock Option Plans
The Company has
adopted different option plans over the years, including a 1998 Stock Option Plan, a 2000 Equity Incentive Plan, a 2008
Incentive Award Plan and on March 30, 2016 the Company adopted the 2016 Omnibus Incentive Plan (collectively, the
“Plans”). An aggregate of six million (6,000,000) shares of the Company’s common stock have been reserved
for issuance under the 2016 Plan, all of which may be issued upon the exercise of incentive stock options. A request for
shareholders to approve the 2016 Omnibus Incentive Plan has been included in the proxy for our annual meeting scheduled
for August 12, 2016.
The Plans
provide for the award of options to purchase common stock, restricted shares of common stock and certain other equity and
equity-based awards to directors, officers, employees and consultants or advisors of the Company and certain
affiliated entities. In the aggregate, as of June 30, 2016 the Plans provide for grants of both qualified and non-qualified
stock options, as well as other equity-based awards, with respect to up to 6,808,000 shares in the aggregate of which
6,000,000 is contingent upon shareholder approval.
As of June 30, 2016,
there were 1,032,000 options issued and outstanding with a weighted average exercise price of $48.53 per share.
A summary of the status
of the Company’s unvested stock options at June 30, 2016, and changes during the six months then ended, is presented below.
Non-Vested Stock Options (unaudited)
|
|
Shares
|
|
|
Weighted
Average
Grant-Date Fair
Value
|
|
Non-Vested at December 31, 2015
|
|
|
205,000
|
|
|
$
|
22.12
|
|
Granted
|
|
|
192,000
|
|
|
|
1.12
|
|
Vested
|
|
|
(121,000
|
)
|
|
|
(1.14
|
)
|
Forfeited
|
|
|
-
|
|
|
|
-
|
|
Non-Vested at June 30, 2016
|
|
|
276,000
|
|
|
$
|
22.00
|
|
As of June 30, 2016,
there was $547 thousand of unrecognized compensation cost related to unvested share-based compensation arrangements under the Plans.
The compensation cost will be recognized over the next 30 months.
During the
six months ended June 30, 2016, 192,000 ten year stock options were granted to four board members at an exercise price of
$1.12 per share. 120,000 shares vested immediately, of the remaining 24,000 shares, 8,000 shares will vest in
each of the following months November, 2016; April, 2017 and November, 2017.
No stock options were
exercised during the six months ended June 30, 2016.
The outstanding stock
options as of June 30, 2016 had no intrinsic value.
Warrant activity
During the six
months ended June 30, 2016, 20,000 warrants were exercised resulting in gross proceeds to the Company of $11,120.
During the six months
ended June 30, 2016, 2,857,140 warrants with an exercise price of $1.12 were issued as part of a private placement
that the Company completed in March, 2016.
As of June 30, 2016,
the Company had 5,542,258 warrants outstanding with a weighted average exercise price of $4.60 per share. The intrinsic value of
the exercisable warrants at June 30, 2016 was zero.
Stock activity
On March 30, 2016,
the Company entered into a private placement with six accredited investors, pursuant to which the Company sold and issued a total
of 1,428,570 shares of the Company’s common stock at a purchase price of $0.35 per share, issued seven (7) year warrants
to purchase up to a total of 2,857,140 shares of common stock at an exercise price of $1.12 per share, the Company raised an aggregate
of $500,000 in the private placement.
During the six months
ended June 30, 2016, the Company issued 140,599,247 shares of common stock to satisfy approximately $2,565,000 of principal and
interest payments under the Notes.
8. Commitments, Contingencies and Other Matters:
Derivative Action Lawsuits
Four individuals,
David C. Inloes, William Skillman, Harold Z. Levine and Louis Lim, filed separate, but similar derivative actions naming all or
most of our then current directors, several of the Company’s officers and, in one case, one former director as defendants.
Two of the actions were filed in the United States District Court for the Eastern District of Virginia, Alexandria Division (the
“Alexandria Actions”). The first Alexandria Action, William Skillman v. Jonnie R. Williams et al., was filed on May
2, 2013. The second Alexandria Action, David C. Inloes v. Jonnie R. Williams et. al., was filed on May 3, 2013. The Alexandria
Actions have been consolidated and co-lead counsel appointed by the Court. Pursuant to a court order, plaintiffs filed a consolidated
amended complaint on January 13, 2014 and a motion to dismiss was filed on February 3, 2014 on behalf of all of the defendants.
Also, on February 3, 2014, the Company, as nominal defendant, moved to stay or dismiss this action pending a resolution a securities
class action litigation then pending in federal court in Richmond, Virginia. Separately, on January 29, 2014, the United States
moved to stay discovery in the case pending the completion or other disposition of the criminal trial of former Governor McDonnell
and his wife. That motion was granted by the Court on January 30, 2014. On February 28, 2014, the Court granted the Company’s
motion to stay the case, ruling that the case would be stayed for all purposes pending further order of the Court and ordering
the Company, within ten days of the dismissal or resolution of the Richmond securities class action or the trial court’s
verdict in the McDonnell case, whichever occurred first, to file a report indicating what action, if any, the Company intended
to take with regard to this case, including specifically, without limitation, whether the Company intended to pursue or seek dismissal
of the claims asserted against each of the named individual defendants.
The third derivative
action, Harold Z. Levine v. Jonnie R. Williams, et. al., was filed on July 8, 2013, in the Circuit Court for the City of Richmond
(the “Levine Action”), and the fourth case, Louis Lim v. Christopher C. Chapman, et. al., was filed in the Circuit
Court for Henrico County on July 11, 2013 (the “Lim Action”). In general, the complaints collectively allege that the
Company’s directors and officers breached their fiduciary duties by causing the Company to issue false and misleading statements
regarding our past and future prospects and certain scientific data relating to our products, as well as engaging in certain unspecified
private placements and related party transactions since 2006. On July 1, 2013 and August 1, 2013, stipulations were filed in each
of the state court actions that stayed the period for defendants to respond to the complaints. These stipulations were later entered
by the Courts. In May 2014, the parties to both state court derivative actions filed further stipulations subsequently endorsed
by the Courts that provided for the transfer of the Lim Action to the Circuit Court for the City of Richmond, the consolidation
of the Lim Action with the Levine Action, and a further stay of the deadline for a response to the complaint.
On or around January
27, 2015, the parties to the derivative actions concluded a stipulation of settlement and the plaintiffs filed a motion of approval
of the settlement. The proposed settlement provided for the Company’s implementation of certain corporate governance reforms
and contemplated payment by the Company of certain attorney’s fees to plaintiffs’ counsel.
On March 27, 2015,
the parties filed a joint submission setting forth additional information responsive to the Court’s order. On March 31,
2015, the Court entered orders preliminarily approving the proposed settlement and setting a further settlement hearing for July
10, 2015. On June 12, 2015, plaintiffs filed a motion for final approval of the settlement and a motion for attorney’s fees.
On June 19, 2015 the Company filed a response contending that plaintiffs’ request for attorney’s fees was excessive.
At the July 10, 2015 final approval hearing, the Court approved the settlement as fair and adequate and took under advisement
plaintiffs’ motion for attorney’s fees. On July 13, 2015 the Court entered final judgment and, on July 17, 2015, issued
an order directing the parties to schedule a settlement conference with the magistrate judge regarding plaintiffs’ motion
for attorney’s fees. The settlement conference was held on August 26, 2015, but the parties were unable to agree on a settlement
for attorney’s fees and the magistrate judge returned the matter to the Court to rule on the plaintiffs’ fee motions.
Pursuant to the stipulation of settlement, plaintiffs were required to dismiss the state court derivative actions with prejudice
and on July 13, 2015 the state court issued an unopposed final order dismissing the matter with prejudice.
On August 3, 2016,
the Court entered an order awarding plaintiffs $532,020 in attorney’s fees, reimbursement of expenses and incentive
awards. See Note 9 “Subsequent Events” for additional details. All amounts have been accrued in the accompanying
consolidated financial statements as of June 30, 2016.
On August 4, 2016,
a judgment was entered in favor of the plaintiffs in the total amount of $532,019.89.
Consumer Class Action
In 2014, Howard
T. Baldwin filed a purported class action naming our company, RCP Development (our subsidiary), and GNC Holding, Inc. (“GNC”)
as defendants. The case was filed in the United States District Court for the Northern District of Illinois. Generally, the complaint
alleged that claims made for our Anatabloc
®
product have not been proven and
that individuals purchased the product based on alleged misstatements regarding characteristics, uses, benefits, quality and intended
purposes of the product. The complaint purported to allege claims for violation of state consumer protection laws, breach of express
and implied warranties and unjust enrichment. In January, 2015 the Court entered an order dismissing the complaint in its entirety
without prejudice.
In February, 2015
Mr. Baldwin filed an Amended Complaint against our company, RCP Development and GNC (collectively, “Defendants”). The
Amended Complaint also included an additional named plaintiff, Jerry Van Norman, who alleged that he is a citizen of Parkville,
Missouri. Like the original complaint, the Amended Complaint alleged that Defendants manufactured, marketed and/or sold Anatabloc
®
, a dietary supplement purportedly derived from an anatabine alkaloid, and promoted Anatabloc
®
as a “wonder drug” with a number of medical benefits and uses, from treating excessive inflammation (associated with
arthritis) to Alzheimer’s disease, traumatic brain injury (or concussions), diabetes and multiple sclerosis. Plaintiffs allege
that Defendants have never proven any of these claims in clinical trials or received FDA approval for Anatabloc
®
, and that Anatabloc
®
“was never the ‘wonder drug’ it claimed
to be.” Plaintiffs allege that they purchased Anatabloc
®
based upon claims
that it provides “anti-inflammatory support.” Mr. Baldwin alleged that he purchased Anatabloc
®
to “reduce inflammation and pain in his joints,” and Mr. Van Norman alleged that he “suffers back and knee problems,
as well as arthritis, and expected Anatabloc
®
to be effective in treating these
symptoms and purchased Anatabloc
®
to help alleviate his symptoms.” Both
plaintiffs alleged that Anatabloc
®
did not provide the relief promised by the
Defendants.
On February 2, 2016, the Court entered
a Memorandum Opinion and Order granting the motion to dismiss the Amended Complaint and dismissing all claims alleged in the Amended
Complaint. The Plaintiffs’ claims under Illinois and Missouri law for breach of express and implied warranty were dismissed
with prejudice. The remaining claims were dismissed without prejudice. The Court has allowed Plaintiffs 28 days to file a Second
Amended Complaint and upon motion granted additional time to respond.
In April 2016, the parties executed a Confidential Settlement
and Release for an amount not deemed material to the overall financial statements. Plaintiffs filed with the Court an Amended
Joint Stipulation of Voluntary Dismissal of the lawsuit with prejudice which was entered by the Court and effective April 22,
2016.
Action by Iroquois Master Fund, Ltd.
and American Capital Management, LLC
On February 19, 2015,
the Company became aware of a complaint filed on February 18, 2015, in New York Supreme Court for New York County in which the
Company and its Chief Executive Officer, Dr. Michael J. Mullan, are named as a defendants. The complaint was filed by Iroquois
Master Fund, Ltd. and American Capital Management, LLC, who were investors in a private placement of the Company’s securities
completed in March 2014 (the “Private Placement Transaction”). The complaint also names as a defendant John J. McKeon,
a shareholder of the Company. Iroquois and American Capital are seeking $4.2 million, in the aggregate, in damages or, alternatively,
rescission of the Private Placement Transaction, premised on allegations that the Company entered into a “sham” loan
agreement with Mr. McKeon to provide the Company with a $5.8 million line of credit in order to fraudulently induce Iroquois and
American Capital to acquire the Company’s securities. On April 29, 2015, the Company filed a motion to dismiss the complaint
because (i) plaintiffs did not register to do business with the New York Secretary of State, and thus lack the capacity to sue
in New York, and (ii) the court lacks personal jurisdiction over the company and Dr. Mullan because the defendants were not present
in New York in connection with the Private Placement Transaction, and the critical events relating to it did not take place in
New York. Plaintiff served its papers in opposition to that motion on June 5, 2015 and the Company served its reply papers on July
1, 2015. Oral argument on the motion was held September 8, 2015
On May 13, 2016 the
Court issued a decision which dismissed the action against Dr. Mullan, the Company’s Chief Executive Officer for lack of
personal jurisdiction, and therefore he is no longer a party to the action. The decision further directed that plaintiff
Iroquois Master Fund, Ltd. register to do business in the State of New York within 30 days or its claims would be dismissed.
During the aforesaid 30 day period, all action was stayed. The Court also held that it has jurisdiction over the Company.
On June 13, 2016,
plaintiffs filed an Amended Complaint substituting Iroquois Capital Management LLC (“Iroquois Capital”) as the plaintiff
in place of Iroquois Master, and alleging that Iroquois Master had assigned its claims against the Company to Iroquois Capital.
Because Iroquois Capital is registered to do business in New York, and because of the purported assignment, plaintiffs have taken
the position that there is no need for Iroquois Master to register to do business in New York.
On July 1, 2016, the
Company filed another motion to dismiss, this time addressed to the Amended Complaint. The motion to dismiss alleges that the assignment
was a sham intended to evade the Court’s direction that Iroquois Master register to do business in New York. Plaintiffs have
until early August to file opposition papers to the motion, and the Company will be filing reply papers in late August, at which
time the motion will be fully submitted. Pending a ruling by the Court on the motion, all proceedings in the action are being held
in abeyance. Even though American Capital is a plaintiff whose claims were not changed by the Amended Complaint and are not affected
by the current motion to dismiss, the entire action is being held in abeyance until the Court rules on the pending motion to dismiss
Iroquois Capital’s claims.
Although the
Company believes that plaintiffs’ material allegations are without merit and intends to vigorously defend itself against
such allegations, no assurances can be given with respect to the outcome of the motion to dismiss or more generally to the litigation.
The Company has been
notified by its insurance carrier that the carrier’s position is that legal costs incurred on behalf of the Company for the
Iroquois Master Fund, Ltd. and American Capital Management, LLC action are not covered under the Company’s policy, although
any legal costs incurred on behalf of the Company’s Chief Executive Officer, Dr. Michael J. Mullan, would be covered, subject
to the policy retention. All legal costs incurred to date for this action through June 30, 2016 have been recorded in the accompanying
financial statements accordingly.
Asserted Claims by Jonnie R. Williams
under Employment Agreement
The Company has previously
disclosed that on March 25, 2015, the Company received an email from an attorney representing Jonnie R. Williams, a former director
of the Company and the Company’s former Chief Executive Officer, stating that Mr. Williams is contractually entitled to severance
compensation. At that time, the Company disclosed that it was not aware of the claimed legal or contractual basis for Mr. Williams’
severance claim.
On June 11, 2015,
the Company was informed that Mr. Williams plans to file an arbitration action against the Company under his employment agreement
to assert his alleged contractual severance entitlement. Mr. Williams alleges that the election of the Company’s Board of
Directors at the Company’s December 2013 annual stockholder meeting triggered a provision of his employment agreement that
provides for severance in the amount of $2.5 million. However, the Company disagrees that such stockholder meeting triggered the
severance entitlement and that Mr. Williams voluntarily resigned from his employment with the Company in August 2014 without any
contractual right to severance compensation. No accrual has been made in the accompanying financial statements as the Company does
not believe the claim has merit. As of the date of this filing, Mr. Williams has not filed an arbitration action against the Company.
Commitments
The Company had research
and development and other contracted commitments totaling $0.6 million as of June 30, 2016.
9. Subsequent Events:
In July
2016, the Company issued 16,830,000 shares of common stock to satisfy approximately $97 thousand of interest expense under
the Senior Secured Convertible Notes.
In July 2016, the
Company sold two trademarks relating to our discontinued tobacco operations for $174,000.
On August 3, 2016,
the Court entered an order awarding plaintiffs $532,020 for attorney’s fees, reimbursement of expenses and incentive
awards. The Company has notified its insurance carrier and requested that the total award be paid by the insurer under the
Company’s insurance policy. It is uncertain what the Company may recover from the insurance company and accordingly,
the full award has been recorded in the accompanying consolidated financial statements as an expense and liability as of June
30, 2016. As of the date of this filing, we are in arrears in paying $60 thousand in legal fees per a memorandum of
understanding with the United States District Court for the Eastern District of Virginia, Richmond Division.
On August
4, 2016, a judgment was entered in favor of the plaintiffs in the total amount of $532,019.89.
On August 9, 2016, the Company received
correspondence from the OTCMarkets advising that the Company’s bid price (ticker symbol RCPI) had closed below $0.01 for
more than 30 consecutive calendar days and no longer meets the Standards for Continued Eligibility for OTCQB continued listing,
per the OTCQB Standards, section 2.3(2). The Company has been granted a period of 180 calendar days in which to regain compliance
with Section 2.3(2). The grace period expires February 5, 2017. If the Company’s stock bid price has not closed at or above
$0.01 for any ten consecutive trading days then the security will be removed from the OTCQB marketplace. The Company is currently
evaluating options to maintain its OTCQB listing.
As of the date of this filing,
we are in arrears in paying $60 thousand in legal fees per a Memorandum of Understanding with the United States District
Court for the Eastern District of Virginia, Richmond Division.