Summary of Significant Accounting Policies
|12 Months Ended|
Dec. 31, 2018
|Accounting Policies [Abstract]|
|SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES||
2 — SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Liquidity, Going Concern and Other Uncertainties
The financial statements have been prepared in conformity with generally accepted accounting principles, which contemplate continuation of the Company as a going concern. To date, the Company has not generated any revenues. As of December 31, 2018, the Company had an accumulated deficit of approximately $12.0 million, and has incurred net losses of approximately $11.6 million and $1.1 million for the years ended December 31, 2018 and 2017, respectively. Based on the current development plans for AD04 in both the U.S. and foreign markets and the Company's other operating requirements, management believes that the existing cash at December 31, 2018 will not be sufficient to fund operations for at least the next twelve months following the issuance of these financial statements. These factors raise substantial doubt regarding the Company's ability to continue as a going concern.
The Company's continued operations will depend on its ability to raise additional capital through equity and/or debt financings, strategic relationships, or out-licensing of its products in order to complete its ongoing research and development efforts and the planned Phase 3 clinical trial. Without additional funding, the Company would exhaust its existing cash reserves by the end of the third quarter of 2019 and would be required to delay, scale back or eliminate some or all of its research and development programs which would likely have a material adverse effect on the Company.
The financial statements do not include any adjustments relating to the recoverability and classification of asset carrying amounts or the amount and classification of liabilities that might result should the Company be unable to continue as a going concern.
Generally, the Company's operations are subject to a number of factors that can affect its operating results and financial condition. Such factors include, but are not limited to: the results of clinical testing and trial activities of the Company's product candidates; the ability to obtain regulatory approval to market the Company's products; the ability to manufacture the Company's products successfully; competition from products manufactured and sold or being developed by other companies; the price of, and demand for, Company products; the ability to negotiate favorable licensing or other manufacturing and marketing agreements for its products; and the ability to raise capital to support its operations.
Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, and disclosure of contingent liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Significant items subject to such estimates and assumptions include the valuation of equity-based compensation, intangible assets useful life, and contingent liabilities. Future events and their effects cannot be predicted with certainty; accordingly, accounting estimates require the exercise of judgment. Accounting estimates used in the preparation of these financial statements change as new events occur, as more experience is acquired, as additional information is obtained and as the operating environment changes.
Basic and Diluted Earnings (Loss) per Share
Basic and diluted earnings (loss) per share are computed based on the weighted-average outstanding shares of stock, which are all voting shares. For purposes of these statements, the conversion of units into common shares associated with the reorganization of ADial Pharmaceuticals, LLC into Adial Pharmaceuticals, Inc (see Note 9) on October 2, 2017 has been retroactively reflected for all periods presented.
Common stock equivalents consist of outstanding warrants and options. Stock equivalents of warrants to purchase approximately 5,054,759 common shares and shares to be issued upon exercise of 243,182 options outstanding, and stock equivalents of warrants to purchase approximately 482,555 common shares and shares to be issued upon exercise of 174,282 options outstanding were all excluded from the computation of diluted earnings (loss) per share for the years ended December 31, 2018 and 2017, respectively, because their effect on the loss per share is anti-dilutive.
Cash and Cash Equivalents
The Company considers all highly liquid investments with original maturities of three months or less to be cash equivalents. At times, the Company's cash balances may exceed the current insured amounts under the Federal Deposit Insurance Corporation. At December 31, 2018, the Company held a balance in a money market account that exceeded federally insured limits by approximately $3.4 million. There were no accounts that exceeded federally insured limits at December 31, 2017.
Intangible assets consist primarily of the trademarks and copyrights. The trademarks and copyrights will be amortized using the straight-line method based on an estimated useful life of 20 years.
Impairment of Long-Lived Assets
The Company's long-lived assets (consisting of the trademarks) are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to the undiscounted future net cash flows expected to be generated by that asset. If the carrying amount of an asset exceeds its estimated future undiscounted cash flows, an impairment charge is recognized by the amount by which the carrying amount of the asset exceeds the fair value of the asset.
Research and Development
Research and development costs are charged to expense as incurred. Research and development expenses includes fees associated with direct trial expenses such as fees due to contract research organizations, consultants supporting our research and development endeavors, the acquisition of technology rights, and compensation of clinical development personnel. These costs are charged to operations as incurred as research and development expense.
Embedded Derivative Liability — Convertible Notes
The Company had convertible notes outstanding at December 31, 2017 with a default payment provision (a default provision that requires payment of three times the outstanding principal amount plus accrued interest). The Company determined that the default provision is an embedded component that qualifies as a derivative which should be bifurcated from the convertible notes and separately accounted for in accordance with FASB ASC 815, "Derivatives and Hedging". ASC 815 – 15 – 25 – 42 establishes criteria to determine whether puts are closely and clearly related to a debt host should the debt contain a substantial premium or default provision (one that is greater than 10% of the principal resulting from puts that require payoff for more than 110% of principal amount outstanding). The embedded derivative is recorded at fair value on the date of issuance and marked-to-market at each balance sheet date with the change in the fair value recorded as income or expense in the statement of operations (see Note 7). At December 31, 2018, these notes had been paid in full, discharging the embedded derivative liability.
In 2018 and 2017, the Company issued equity options to certain employees, directors, and consultants. Prior to reincorporation as a Delaware corporation on October 1, 2017, these options were for the purchase of Class A equity units. All options for the purchase of Class A units outstanding at the time of reincorporation were converted to options for the purchase of shares of common stock, in the same proportion as that used to convert Class A units to shares of common stock (see Note 9). Options are accounted for under FASB ASC 718 "Compensation — Stock Compensation" ("ASC 718").
The Company measures the cost of awards based on the grant date fair value of the awards. That cost is recognized on a straight-line basis over the period during which the employee was required to provide service in exchange for the entire award. The fair value is calculated using the Black-Scholes option pricing model, based on key assumptions such as the fair value of shares of common stock or Class A units, expected volatility, and expected term. The Company's estimates of these assumptions are primarily based on third-party valuations, historical data, peer company data and the judgment of management regarding future trends.
Prior to its reincorporation, the Company issued Profits Interest Units ("PIU") to certain employees. The Company treated the PIU's it issued in the form of Class A membership Units as compensation in a manner consistent with how stock-based compensation of a C-corporation would be treated if the membership units were shares of a C-corporation. Because the arrangement was primarily based on the price of the Company's equity instruments and there were no substantive repurchase provisions, the arrangement was accounted for under FASB ASC 718 "Compensation — Stock Compensation" ("ASC 718"). The Company measured the cost of these equity awards based on the grant date fair value of the awards. That cost was recognized on a straight-line basis over the period during which the employee was required to provide service in exchange for the entire award. The fair value of the PIU's and options to purchase Class A units outstanding on the date of grant was calculated using the Black-Scholes option pricing model, based on key assumptions such as the fair value of Class A units, expected volatility and expected term. The Company's estimates of these assumptions are primarily based on third-party valuations, historical data, peer company data and the judgment of management regarding future trends. All equity-based compensation transactions prior to October 1, 2017 have been retrospectively reflected for the conversion of units into common shares associated with the reorganization of ADial Pharmaceuticals, LLC into Adial Pharmaceuticals, Inc (see Note 9).
The Company accounts for equity-based compensation issued to non-employees and consultants in accordance with the provisions of FASB ASC 505-50 "Equity – Based Payments to Non-employees". The non-cash charge to operations for non-employee PIU's with time based vesting provisions is based on the fair value of the PIU's re-measured each reporting period and amortized to expense over the remaining vesting period.
The Company was reorganized as a C corporation in 2017. Prior to reorganization, for federal and state income tax purposes, the Company was a limited liability company treated as a partnership, in which income tax liabilities and/or benefits were passed through to the Company's unitholders. As such, the Company did not directly pay federal and state income taxes and recognition was not given to federal and state income taxes for the operations of the Company prior to reorganization.
Effective on completion of the LLC conversion on October 1, 2017, the Company accounts for income taxes using the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis and tax carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. See Note 10 for additional details of the Company's accounting for income taxes.
Fair Value of Financial Instruments and Fair Value Measurements
FASB Accounting Standards Codification ("ASC") Topic 820, "Fair Value Measurements and Disclosures," requires disclosure of the fair value of financial instruments held by the Company. ASC Topic 825, "Financial Instruments," defines fair value, and establishes a three-level valuation hierarchy for disclosures of fair value measurement that enhances disclosure requirements for fair value measures. The carrying amounts reported in the balance sheets for current liabilities, convertible notes, Senior Notes, Senior Secured Bridge Notes, and Subordinated Notes (all as defined below) are a reasonable estimate of their fair values because of the short period of time between the origination of such instruments and their expected realization and their current market rate of interest. The carrying value of all other financial liabilities at cost approximates fair value.
The three levels of valuation hierarchy are defined as follows:
Recent Accounting Pronouncements
Leases — In February 2016, the FASB issued ASU 2016-02 which amends existing lease accounting guidance, and requires recognition of most lease arrangements on the balance sheet. The adoption of this standard will result in the Company recognizing a right-of-use asset representing its rights to use the underlying asset for the lease term with an offsetting lease liability. ASU 2016-02 will be effective for fiscal years beginning after December 15, 2018. In July 2018, the FASB issued ASU 2018-10, "Codification Improvements to Topic 842, Leases." The amendments in ASU 2018-10 affect narrow aspects of the guidance issued in ASU 2016-02. The Company adopted ASU 2016-02 effective January 1, 2019. There was no material impact on its financial statements as a result of adopting this guidance.
Earnings per Share, Distinguishing Liabilities from Equity, and Derivatives and Hedging — In July 2017, the FASB issued ASU 2017-11, "Earnings Per Share (Topic 260) Distinguishing Liabilities from Equity (Topic 480) Derivatives and Hedging (Topic 815)," which addresses the complexity of accounting for certain financial instruments with down round features. Down round features are features of certain equity-linked instruments (or embedded features) that result in the strike price being reduced on the basis of the pricing of future equity offerings. Current accounting guidance creates cost and complexity for entities that issue financial instruments (such as warrants and convertible instruments) with down round features that require fair value measurement of the entire instrument or conversion option. The amendments in Part I of this Update are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018 with early adoption permitted. The Company early adopted ASU 2017-11 at the beginning of the second quarter of 2018; there was no effect on the financial statements at the time of adoption.
Fair Value — In June 2018, the FASB issued ASU No. 2018-07, Compensation-Stock Compensation (Topic 718): Improvements to Nonemployee Share-Based Payment Accounting ("ASU 2018-07"). ASU 2018-07 amends the FASB Accounting Standards Codification ("ASC") to expand the scope of FASB ASC Topic 718, Compensation-Stock Compensation, to include accounting for share-based payment transactions for acquiring goods and services from non-employees. The amendments in ASU 2018-07 are effective for all entities for annual periods, and interim periods within those annual periods, beginning after December 15, 2018. Early adoption is permitted. The Company early adopted this guidance at the beginning of the first quarter of 2019. There was no material effect on the financial statements as a result of this adoption.
The entire disclosure for all significant accounting policies of the reporting entity.
Reference 1: http://fasb.org/us-gaap/role/ref/legacyRef