UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-Q

(Mark One)

☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended

March 31, 2021

☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from to

Commission File Number: 001-40034

VALLON PHARMACEUTICALS, INC.

(Exact Name of Registrant as Specified in its Charter)

Delaware		82-4369909
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

100 N. 18^th Street, Suite 300, Philadelphia, PA		19103
(Address of principal executive offices)		(Zip Code)

Registrant’s telephone number, including area code: (267)-207-3606


Title of each class	Trading Symbol(s)	Name of each exchange on which registered
Common Stock, par value $0.0001 per share	VLON	Nasdaq Capital Market

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ⌧ No ◻

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ⌧ No ◻

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.


Large accelerated filer	◻	Accelerated filer	◻
Non-accelerated filer	⌧	Smaller reporting company	⌧
Emerging growth company	⌧

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ◻ No ⌧

As of May 13, 2021, 6,812,836 shares of the Registrant’s Common Stock were outstanding.

Table of Contents

		Page

PART I.	FINANCIAL INFORMATION
Item 1.	Financial Statements (Unaudited)	3
	Balance Sheets at March 31, 2021 (unaudited) and December 31, 2020	3
	Statements of Operations (unaudited) for the three months ended March 31, 2021 and 2020	4
	Statements of Stockholders’ Equity (Deficit) (unaudited) for the three months ended March 31, 2021 and 2020	5
	Statements of Cash Flows (unaudited) for the three months ended March 31, 2021 and 2020	6
	Notes to Unaudited Financial Statements	7
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	17
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	25
Item 4.	Controls and Procedures	25
PART II.	OTHER INFORMATION
Item 1.	Legal Proceedings	25
Item 1A.	Risk Factors	26
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	27
Item 3.	Defaults Upon Senior Securities	27
Item 4.	Mine Safety Disclosures	27
Item 5.	Other Information	27
Item 6.	Exhibits	28
Signatures		29

Table of Contents

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q contains forward-looking statements that are based on management’s beliefs and assumptions and on information currently available to management. Some of the statements in the sections captioned “Part I—Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and elsewhere in this Quarterly Report contain forward-looking statements. In some cases, you can identify forward-looking statements by the following words: “may,” “will,” “could,” “would,” “should,” “expect,” “intend,” “plan,” “anticipate,” “believe,” “estimate,” “predict,” “project,” “potential,” “continue,” “ongoing” or the negative of these terms or other comparable terminology, although not all forward-looking statements contain these words. Forward-looking statements contained in this Quarterly Report include, but are not limited to, statements about:

●

the likelihood of our clinical trials and non-clinical studies demonstrating safety and efficacy of our product candidates, and other positive results;

●

the timing of initiation of our future clinical trials, and the reporting of data from our completed, current and future preclinical and clinical trials;

●

the size of the market opportunity for our product candidates;

●

our plans relating to commercializing our product candidates, if approved, including the geographic areas of focus and sales strategy;

●

the success of competing therapies that are or may become available;

●

our estimates of the number of patients in the United States who suffer from ADHD or narcolepsy and the number of patients that will enroll in our clinical trials;

●

the beneficial characteristics, safety and efficacy of our product candidates;

●

the timing or likelihood of regulatory filings and approval for our product candidates;

●

our ability to obtain and maintain regulatory approval of our product candidates;

●

our plans relating to the further development and manufacturing of our product candidates, including ADMIR;

●

the expected potential benefits of strategic collaborations with third parties, including MEDICE Arzneimittel Putter GmbH & Co. KG (“Medice”), which is affiliated with one of our principal stockholders, Salmon Pharma, and represented by one member of our board of directors, and our ability to attract collaborators with development, regulatory and commercialization expertise;

●

existing regulations and regulatory developments in the United States, the European Union, and other geographic territories;

●

our plans and ability to obtain or protect intellectual property rights, including extensions of existing patent terms where available;

●

our continued reliance on third parties to conduct additional clinical trials of our product candidates, and for the manufacture of our product candidates for preclinical studies and clinical trials;

●

the need to hire additional personnel, and our ability to attract and retain such personnel;

●

the accuracy of our estimates regarding expenses, future revenue, capital requirements and needs for additional financing;

●

our financial performance;

Table of Contents

●

the sufficiency of our existing capital resources to fund our future operating expenses and capital expenditure requirements;

●

the impacts of the COVID-19 pandemic on our operations;

●

our expectations regarding the period during which we will qualify as an emerging growth company under the JOBS Act; and

●

our ability to maintain the listing of our common stock on The Nasdaq Capital Market.

Although we believe that we have a reasonable basis for each forward-looking statement contained in this Quarterly Report, we have based these forward-looking statements largely on our current expectations and projections about our business, the industry in which we operate and financial trends that we believe may affect our business, financial condition, results of operations and prospects, and these forward-looking statements are not guarantees of future performance or development. You should refer to the “Risk Factors” section of this Quarterly Report for a discussion of other important factors that may cause actual results to differ materially from those expressed or implied by the forward-looking statements.

Because forward-looking statements are inherently subject to risks and uncertainties, some of which cannot be predicted or quantified, you should not rely on these forward-looking statements as predictions of future events. If the forward-looking statements prove to be inaccurate; the inaccuracy may be material. In light of the significant uncertainties in these forward- looking statements, you should not regard these statements as a representation or warranty by us or any other person that we will achieve our objectives and plans in any specified time frame, or at all. The forward-looking statements in this Quarterly Report represents our views as of the date of this Quarterly Report. We anticipate that subsequent events and developments will cause our views to change, however, except as required by applicable law, we do not plan to publicly update or revise any forward-looking statements contained herein until after we distribute this Quarterly Report, whether as a result of any new information, future events or otherwise. You should, therefore, not rely on these forward-looking statements as representing our views as of any date subsequent to the date of this Quarterly Report.

This Quarterly Report includes trademarks and registered trademarks of Vallon Pharmaceuticals, Inc. Products or service names of other companies mentioned in this Quarterly Report may be trademarks or registered trademarks of their respective owners.

As used in this Quarterly Report, unless the context requires otherwise, the “Company,” “we,” “us” and “our” refer to Vallon Pharmaceuticals, Inc.

iii

Table of Contents

PART I—FINANCIAL INFORMATION

Item 1. Financial Statements.

Vallon Pharmaceuticals, Inc.

Balance Sheets

(in thousands, except share and per share amounts)


	March 31, 2021		December 31, 2020
Assets	(unaudited)
Current assets:
Cash and cash equivalents	$	12,980	$	109
Prepaid expenses and other current assets		1,358		565
Total current assets		14,338		674

Finance lease right-of-use asset, net		261		279
Property and equipment, net		1		2
Total assets	$	14,600	$	955

Liabilities and Stockholders' Equity (Deficit)
Current liabilities:
Accounts payable	$	1,347	$	1,226
Accrued expenses		985		847
Note payable, current		—		47
Finance lease liability, current		95		105
Total current liabilities		2,427		2,225
Note payable, non-current		—		14
Finance lease liabilities, non-current		146		170
Total liabilities		2,573		2,409

Commitments and contingencies (Note 10)

Stockholders' equity (deficit):
Common stock, $0.0001 par value; 250,000,000 shares authorized as of March 31, 2021 and December 31, 2020; 6,812,836 and 4,506,216 shares issued and outstanding as of March 31, 2021 and December 31, 2020, respectively, which gives retroactive effect to the one-for-40 reverse stock split. See Note 1 to these financial statements.		—		—
Additional paid-in-capital		27,264		11,145
Accumulated deficit		(15,237)		(12,599)
Total stockholders’ equity (deficit)		12,027		(1,454)
Total liabilities and stockholders' equity (deficit)	$	14,600	$	955

See accompanying notes to these financial statements.

Table of Contents

Vallon Pharmaceuticals, Inc.

Statements of Operations

(unaudited)

(in thousands, except share and per share amounts)


	For the Three		For the Three
	Months Ended		Months Ended
	March 31,		March 31,
	2021		2020
License revenue-related party	$	—	$	100
Operating expenses:
Research and development		1,772		883
General and administrative		830		375
Total operating expenses		2,602		1,258
Loss from operations		(2,602)		(1,158)
Other income		61		—
Revaluation of derivative liability		(89)		—
Interest expense, net		(8)		(2)
Net loss attributable to common stockholders	$	(2,638)	$	(1,160)
Net loss per share attributable to common stockholders, basic and diluted	$	(0.46)	$	(0.26)
Weighted-average common shares outstanding basic and diluted		5,710,270		4,506,216

See accompanying notes to these financial statements.

Table of Contents

Vallon Pharmaceuticals, Inc.

Statements of Stockholders’ Equity (Deficit)

(unaudited)

(in thousands, except shares)


	Common Stock			Additional Paid-In		Accumulated		Stockholders’
	Shares (1)	Amount		Capital		Deficit		Equity (Deficit)
Balance, December 31, 2019	4,506,216	$	—	$	10,991	$	(7,777)	$	(3,214)
Stock-based compensation expense	—		—		35		—		35
Net loss	—		—		—		(1,160)		(1,160)
Balance, March 31, 2020	4,506,216	$	—	$	11,026	$	(8,937)	$	(2,089)


	Common Stock			Additional Paid-In		Accumulated		Stockholders’
	Shares (1)	Amount		Capital		Deficit		Equity (Deficit)
Balance, December 31, 2020	4,506,216	$	—	$	11,145	$	(12,599)	$	(1,454)
Issuance of common stock for convertible notes	54,906		—		439		—		439
Issuance of common stock for IPO, net of issuance expenses	2,250,000		—		15,104		—		15,104
Issuance of common stock for services	1,714		—		9		—		9
Issuance of Underwriters Warrants	—		—		399		—		399
Stock-based compensation	—		—		168		—		168
Net loss	—		—		—		(2,638)		(2,638)
Balance, March 31, 2021	6,812,836	$	—	$	27,264	$	(15,237)	$	12,027

(1) The number of shares above give retroactive effect to the one-for-40 reverse stock split. See Note 1 to these financial statements.

See accompanying notes to these financial statements.

Table of Contents

Vallon Pharmaceuticals, Inc.

Statements of Cash Flows

(unaudited)

(in thousands)


	Three Months Ended		Three Months Ended
	March 31,		March 31,
	2021		2020
Cash flows from operating activities:
Net loss	$	(2,638)	$	(1,160)
Adjustments to reconcile net loss to cash used in operating activities:
Amortization of finance lease right-of-use asset		18		18
Stock-based compensation expense		168		35
Revaluation of derivative liability		89		—
Forgiveness of PPP note		(61)		—
Non-cash interest, depreciation and other expense		10		—
Change in operating assets and liabilities:
Prepaid expenses and other current assets		(793)		(87)
Accounts payable		121		200
Accrued expenses		138		226
Net cash used in operating activities		(2,948)		(766)

Cash flows from investing activities:
Purchase of property and equipment		—		(2)
Net cash used in investing activities		—		(2)

Cash flows from financing activities:
Proceeds from common stock, net of offering expenses		15,503		—
Proceeds from convertible notes		350		—
Payment of finance lease liability		(34)		(29)
Net cash provided by (used in) financing activities		15,819		(29)

Net increase (decrease) increase in cash and cash equivalents		12,871		(797)
Cash and cash equivalents, at beginning of period		109		3,821
Cash and cash equivalents, at end of period	$	12,980	$	3,024
Supplemental disclosure of cash flows information:
Interest paid	$	—	$	—
Noncash financing activities:
Conversion of convertible notes to common stock	$	350	$	—

See accompanying notes to these financial statements.

Table of Contents

Vallon Pharmaceuticals, Inc.

Notes to Financial Statements

(unaudited)

NOTE 1 – NATURE OF OPERATIONS, BUSINESS, GOING CONCERN AND LIQUIDITY

Vallon Pharmaceuticals, Inc. (“Vallon” or the “Company”), a Delaware corporation, is a biopharmaceutical company based in Philadelphia, PA, which is focused on the development and commercialization of proprietary biopharmaceutical products. The Company’s only clinical-stage product currently under development is ADAIR, a proprietary, abuse-deterrent oral formulation of immediate-release (short-acting) dextroamphetamine for the treatment of Attention-deficit/hyperactivity disorder, or ADHD, and Narcolepsy. The Company plans to develop other abuse-deterrent products which have potential for abuse in their current forms, beginning with the development of ADMIR, an abuse deterrent formulation of Ritalin, for which the Company is conducting formulation development work.

Vallon Pharmaceuticals, Inc. was incorporated in Delaware on January 11, 2018, which is the date of inception. The Company’s fiscal-year ends on December 31.

Immediately prior to the closing of the initial public offering of the Company’s common stock (the “IPO”) (Note 5), the Company effected a one-for-40 reverse stock split of its common stock. All share and per share amounts, excluding the number of authorized shares and par value, contained in these financial statements and accompanying notes, and this Quarterly Report on Form 10-Q give retroactive effect to the reverse split.

Business Formation:

On November 15, 2017, before the Company’s formation, Amiservice Development Ltd., a BVI corporation (“Amiservice”) entered into an agreement for the purchase of the ADAIR product rights for a payment of $250,000. The Asset Purchase Agreement (“the APA”), by and between Amiservice and Arcturus Therapeutics Ltd. (”Arcturus”), was subject to several closing conditions. One of the key terms and conditions of the APA was that the purchasers provide funding of at least $2.75 million towards the development of ADAIR.

On February 11, 2018, Ofir Levi, Chairman of the newly formed Vallon, purchased 196,875 common shares from the Company at par value for $788. On June 7, 2018, Vallon entered into a stock purchase agreement with several investors pursuant to which Vallon issued 1,771,881 common shares for $3.0 million (“Private Placement”). Subsequently, on June 22, 2018, the Company executed the amended APA, by and between Arcturus Therapeutics Ltd. Such APA was amended and restated from the initial agreement discussed above, dated as of November 15, 2017. In exchange for the ADAIR product rights, Vallon issued 843,750 common shares to Arcturus, valued at approximately $1.4 million based upon the price at which the common shares were issued and sold in the Private Placement, which comprised approximately 30% of the then-outstanding common stock of the Company, on a fully diluted basis. In addition, Amiservice signed a consent and release agreement to all rights to the APA in exchange for approximately $562,000 which represented a reimbursement for expenses Amiservice incurred on Vallon’s behalf in the amount of approximately $310,000, the repayment of two promissory notes totaling approximately $192,000 including interest, and approximately $60,000 of other operating expenses incurred. The assets acquired in the ADAIR acquisition are classified as in-process research and development (“IPR&D”). Accounting for IPR&D assets in an asset acquisition follows the guidance in Accounting Standards Codifications (“ASC”) 730, Research and Development, which requires that both tangible and intangible identifiable research and development assets with no alternative future use be allocated a portion of the consideration transferred and charged to expense at the acquisition date. The Company recorded $1.7 million to research and development expense on June 22, 2018, the date of acquisition, which included $1.4 million of common shares issued for the acquisition, as well as, the original $250,000 exclusivity payment and approximately $60,000 in transaction fees.

Table of Contents

Going Concern and Liquidity:

These financial statements have been prepared on the basis that the Company is a going concern, which contemplates, among other things, the realization of assets and satisfaction of liabilities in the normal course of business. The Company has not generated any significant revenues from operations since inception, and does not expect to do so in the foreseeable future. The Company has incurred operating losses since its inception, and has incurred $15.2 million in accumulated deficit through March 31, 2021. The Company has financed its working capital requirements to date through the issuance of common stock, convertible notes, short-term promissory notes, and a Paycheck Protection Program (“PPP”) promissory note, as described in Note 4.

On January 11, 2021, the Company completed a $350,000 convertible note financing and on February 12, 2021, the Company completed the IPO, raising net proceeds of $15.5 million, as described in Note 5. On March 31, 2021, the Company had cash and cash equivalents totaling approximately $13.0 million which management expects will provide funding for its ongoing business activities into the third quarter of 2022. However, the Company has based this estimate on assumptions that may prove to be wrong, and it could use capital resources sooner than it expects, therefore, there is substantial doubt about the Company’s ability to continue as a going concern within one year of the date that these financial statements are being issued.

The Company’s ability to continue as a going concern is dependent on its ability to raise additional capital to fund its business activities, including its research and development program. The Company’s objective is to develop and commercialize biopharmaceutical products that treat central nervous system disorders, but there can be no assurances that the Company will be successful in this regard. Therefore, the Company intends to raise capital through additional issuances of common stock and /or short-term notes. Furthermore, the Company may not be able to obtain additional financing on acceptable terms and in the amounts necessary to fully fund its future operating requirements. If the Company is unable to obtain sufficient cash resources to fund its operations, it may be forced to reduce or discontinue its operations entirely. These financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts or amounts and classification of liabilities that might result from this uncertainty.

NOTE 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The Company’s significant accounting policies are described in Note B, “Summary of Significant Accounting Policies,” in the Company’s Annual Report on Form 10-K filed with the U.S. Securities and Exchange Commission (“SEC”) on March 29, 2021. There have been no material changes to the significant accounting policies during the period ended March 31, 2021, except for items mentioned below.

[A] Unaudited Interim Financial Statements

The accompanying unaudited financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Rule 8-03 of Regulation S-X. Accordingly, they do not include all of the information and notes required by generally accepted accounting principles in the United States of America for complete financial statements. In the opinion of management, the unaudited interim financial statements furnished herein include all adjustments necessary for a fair presentation of the Company’s financial position at March 31, 2021 and the results of operations, stockholders’ equity (deficit) and cash flows for the three months ended March 31, 2021 and 2020. All such adjustments are of a normal and recurring nature. Interim financial statements are prepared on a basis consistent with the Company’s annual financial statements. Results of operations for the three-month period ended March 31, 2021, are not necessarily indicative of the operating results that may be expected for the year ending December 31, 2021.

The balance sheet as of December 31, 2020 has been derived from the audited financial statements at that date but does not include all of the information and notes required by GAAP for complete financial statements.

References in this Quarterly Report on Form 10-Q to “authoritative guidance” is to the Accounting Standards Codification issued by the Financial Accounting Standards Board (“FASB”).

For further information, refer to the financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2020.

Table of Contents

[B] Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of expenses during the reporting period. Estimates and assumptions are primarily made in relation to the valuation of share options, the embedded derivative of convertible notes, warrant issuance, valuation allowances relating to deferred tax assets, revenue recognition, accrued expenses and estimation of the incremental borrowing rate for the finance lease. If actual results differ from the Company’s estimates, or to the extent these estimates are adjusted in future periods, the Company’s results of operations could either benefit from, or be adversely affected by, any such change in estimate.

[C] Stock-based Compensation

The Company recognizes expense for employee and non-employee stock-based compensation in accordance with Accounting Standards Codification (“ASC”) Topic 718, Stock-Based Compensation. ASC 718 requires that such transactions be accounted for using a fair value-based method. The estimated fair value of the options is amortized over the vesting period, based on the fair value of the options on the date granted, and is calculated using the Black-Scholes option-pricing model. The Company accounts for forfeitures as incurred. In considering the fair value of the underlying stock when the Company granted options, the Company considered several factors including the fair values established by market transactions. Stock option-based compensation includes estimates and judgments of when stock options might be exercised and stock price volatility. The timing of option exercises is out of the Company's control and depends upon a number of factors including the Company's market value and the financial objectives of the option holders. These estimates can have a material impact on the stock compensation expense but will have no impact on the cash flows. The estimation of share-based awards that will ultimately vest requires judgment, and to the extent actual results or updated estimates differ from original estimates, such amounts are recorded as a cumulative adjustment in the period the estimates are revised. The stock options granted, other than the 61,250 granted to Mr. Baker described in Note 10[A], as of March 31, 2021 vest primarily upon specified performance milestones. As Mr. Baker’s stock option grant was pursuant to milestones associated with an underwritten public offering or a listing on a national stock exchange, management determined that no expense should be recognized for this grant until such time that the milestone becomes probable. The options vested on February 12, 2021, concurrent with the closing of the IPO and thus the expense for such options was recognized in the three months ended March 31, 2021. The Company elected to use the expected term, rather than the contractual term, for both employee and consultant options issued.

[D] Recent Accounting Pronouncements

The Company considers the applicability and impact of all Accounting Standards Updates (“ASUs”). ASUs not discussed below were assessed and determined to be either not applicable or are expected to have minimal impact on these financial statements.

In December 2019, the FASB issued ASU 2019-12, “Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes”. ASU 2019-12 simplifies the accounting for income taxes by removing certain exceptions to the general principals in Topic 740. The amendments also improve consistent application of and simplify generally accepted accounting principles (GAAP) for other areas of Topic 740 by clarifying and amending the existing guidance. For public business entities, the guidance is effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2020. Early adoption is permitted, including adoption in any interim period. The adoption of this standard, effective January 1, 2021, did not have a material impact on these financial statements.

Table of Contents

NOTE 3 – ACCRUED EXPENSES

Accrued expenses consist of the following (in thousands):


	March 31,		December 31,
	2021		2020
Payroll and related	$	176	$	342
Clinical and preclinical trial and regulatory related		490		137
Chemistry and manufacturing		154		117
Financing related		—		97
Licensing related		76		81
Other		89		73
Total accrued expenses	$	985	$	847

NOTE 4 – PPP NOTE AND CONVERTIBLE NOTES

In May 2020, the Company issued a promissory note under the PPP totaling $61,000. As of December 31, 2020, the Company had utilized the entire proceeds from such note for payroll costs (greater than 75%), costs related to health care benefits and rent payments and in January 2021, the Company was notified that the loan along with accumulated interest had been forgiven. As the PPP note was forgiven, the Company recorded income from the extinguishment of its obligation in accordance with ASC 405-20-40-1, disclosed in the amount of $61,000 included in other income on the accompanying Statements of Operations. The Company had accounted for the note under ASC 470. The note had a stated interest rate of 1% and had a two-year maturity. Payments were required to be made over a 1.5-year period beginning November 1, 2020 unless forgiven. The Company did not impute interest on the note as the rate was determined to be a below-market rate due to the scope exception in ASC 835-30-15-3(e) for government-mandated interest rates. Amounts due under the next twelve months are presented as notes payable – current on the Company’s balance sheet as of December 31, 2020.

On January 11, 2021, the Company entered into a Convertible Promissory Note Purchase Agreement with certain existing stockholders, including SALMON Pharma GmbH (“Salmon Pharma”), an affiliate of Medice, and David Baker, the Company’s Chief Executive Officer, pursuant to which the Company issued convertible promissory notes (the “2021 Convertible Notes”), for cash proceeds of $350,000. The 2021 Convertible Notes bore an interest rate of 7.0% per annum, non-compounding, and had a maturity date of September 30, 2021. The 2021 Convertible Notes converted into 54,906 shares of the Company’s common stock upon completion of the IPO. The Company identified the mandatory conversion into shares of the Company’s common stock as a redemption feature, which requires bifurcation from the 2021 Convertible Notes and treated it as a derivative liability under ASC 815 as the redemption feature was not clearly and closely related to the debt. The Company evaluated the fair value of the derivative liability. Upon the conversion of the 2021 Convertible Notes to common stock at the closing of the IPO, the embedded derivative liability was remeasured and removed from the balance sheet.

NOTE 5 – EQUITY FINANCING

On February 12, 2021, the Company completed the IPO of 2,250,000 shares of common stock at a public offering price of $8.00 per share. The gross proceeds from the IPO, before deducting underwriting discounts, commissions and other offering expenses payable by the Company, were $18.0 million. Underwriting discounts and expenses totaled $1.6 million and the Company incurred approximately $905,000 of additional expenses related to completing the IPO, of which $494,000 were incurred as of December 31, 2020 and included prepaids and other current assets on the Company’s balance sheet; thus aggregate net proceeds were approximately $15.5 million. Immediately prior to the closing of the IPO, the Company effected a one-for-40 reverse stock split of its common stock.

Table of Contents

In connection with the IPO, the Company granted the underwriters warrants (the “Underwriters' Warrants”) to purchase an aggregate of 112,500 shares of common stock at an exercise price of $10.00 per share, which is 125% of the initial public offering price. The Underwriters’ Warrants have a five-year term and are not exercisable prior to August 12, 2021. All of the Underwriters’ Warrants were outstanding at March 31, 2021. According to ASC 480-10-25-8 and ASC 480-10-25-14, a warrant is classified as a liability if the warrant obligates the issuer to repurchase its shares by transferring an asset. A warrant can also be classified as a liability if it (conditionally or unconditionally) obligates the issuer to settle the warrant by issuing a variable number of shares if the monetary value of the obligation is based on a predetermined fixed amount, variation in something other than the issuers stock price, or variations inversely related to the issuers stock price. Any other warrant would be classified as equity. Given that these warrants do not meet the criteria of debt classification, these warrants were classified as equity and the fair value of $399,000 is reflected as additional paid-in capital. The Black-Scholes option-pricing model was used to estimate the fair value of the warrants with the following weighted-average assumptions:


Volatility	85.0	%
Expected term in years	2.5
Dividend rate	0.0	%
Risk-free interest rate	0.155	%

NOTE 6– STOCK-BASED COMPENSATION

The Company has granted stock options to purchase its common stock to employees and consultants under the 2018 Equity Incentive Plan, under which the Company may issue stock options, restricted stock and other equity-based awards. We have also granted certain stock options outside of the 2018 Equity Incentive Plan. As of March 31, 2021, all equity awards granted from the 2018 Equity Incentive Plan were in the form of stock options.

The Company measures equity-based awards granted to employees, and nonemployees based on their fair value on the date of the grant and recognize compensation expense for those awards over the requisite service period or performance-based period, which is generally the vesting period of the respective award. The measurement date for equity awards is the date of grant, and equity-based compensation costs are recognized as expense over the requisite service period, which is the vesting period or for certain performance-based awards the Company records the expense for these awards if it concludes that it is probable that the performance condition will be achieved. The fair value of each stock option grant is estimated on the date of grant using the Black-Scholes stock option-pricing model, which requires inputs based on certain subjective assumptions, including the expected stock price volatility, the expected term of the stock option, the risk-free interest rate for a period that approximates the expected term of the stock option, and the Company’s expected dividend yield. Expected volatility is calculated based on reported volatility data for a representative group of publicly traded companies for which historical information is available. The Company selects companies with comparable characteristics to it with historical share price information that approximates the expected term of the equity-based awards. The Company computes the historical volatility data using the daily closing prices for the selected companies’ shares during the equivalent period that approximates the calculated expected term of its stock options. The Company will continue to apply this method until a sufficient amount of historical information regarding the volatility of its stock price becomes available. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant commensurate with the expected term assumption. The Company uses the simplified method, under which the expected term is presumed to be the midpoint between the vesting date and the end of the contractual term. The Company utilizes this method due to lack of historical exercise data. The expected dividend yield is assumed to be zero as the Company has no current plans to pay any dividends on common stock. The fair value of each restricted common stock award is estimated on the date of grant based on the fair value of our common stock on that same date.

The Company’s stock-based compensation expense was recognized in operating expense as follows (in thousands):


	For the Three Months Ended March 31,
	2021		2020
Research and development	$	20	$	35
General and administrative		148		—
Total	$	168	$	35

Table of Contents

The fair value of the options granted during the three months ended March 31, 2021 and 2020 was estimated by utilizing the following assumptions:


	For the Three Months Ended March 31,
	2021			2020
Volatility		80.0	%		85.0	%
Expected term in years		5.5-5.8			5.8
Dividend rate		0.0	%		0.0	%
Risk-free interest rate		0.63-0.81	%		2.20	%
Fair value of option on grant date	$	4.08-5.31		$	3.24

The table below represents the activity of stock options granted to employees and consultants:


	Period from December 31, 2020 through March 31, 2021
					Weighted
					average		Aggregate
			Weighted		remaining		intrinsic
	Number of		average		contractual		value
	options		exercise price		terms (years)		($ 000) (1)
Outstanding at December 31, 2020		266,250	$	2.94		4.109	$	474
Granted during the period		22,750		7.39		—		—
Outstanding at March 31, 2021		289,000	$	3.29		4.060	$	460
Exercisable at March 31, 2021		135,794	$	2.28		3.770	$	320

(1)	The aggregate intrinsic value of options is calculated as the difference between the exercise price of the underlying options and the deemed fair value of the Company’s common stock for those shares that had exercise prices lower than the deemed fair value of the Company’s common stock.

As of March 31, 2021, there was approximately $105,000 of total unrecognized compensation cost related to non-vested stock-based compensation arrangements granted to employees which is expected to be recognized over a weighted-average period of one year. As of March 31, 2021, there was approximately $118,000 of total unrecognized compensation cost related to non-vested stock-based compensation arrangements granted to non-employees. That cost is expected to be recognized over a weighted-average period of 0.7 years.

NOTE 7 – INCOME TAXES

For the three months ended March 31, 2021 and 2020, respectively, no income tax expense or benefit was recognized. The Company’s deferred tax assets are comprised primarily of net operating loss carryforwards. The Company maintains a full valuation allowance on its deferred tax assets since it has not yet achieved sustained profitable operations. As a result, the Company has not recorded any income tax benefit since its inception.

NOTE 8 - RELATED PARTY TRANSACTIONS

On January 6, 2020, the Company entered into a license agreement with Medice which grants Medice an exclusive license, with the right to grant sublicenses, to develop, use, manufacture, market and sell ADAIR throughout Europe. Medice is responsible for obtaining regulatory approval of ADAIR in the licensed territory. Under the license agreement, Medice paid Vallon a $100,000 upfront payment and is required to pay milestone payments upon first obtaining regulatory approval to market and sell ADAIR in any country, territory or region in the licensed territory and upon achieving certain annual net sales thresholds. Medice will also pay tiered royalties on annual net sales of ADAIR at rates in the low double-digits. The initial term of the license agreement will expire five years after the date on which Medice first obtains regulatory approval in any country, territory or region in the licensed territory.

Table of Contents

On January 11, 2021, the Company entered into a Convertible Promissory Note Purchase Agreement with certain existing stockholders, including Salmon Pharma, an affiliate of Medice, and David Baker, the Company’s Chief Executive Officer, pursuant to which the Company issued the 2021 Convertible Notes for cash proceeds of $350,000. The 2021 Convertible Notes bore an interest rate of 7.0% per annum, non-compounding, and had a maturity date of September 30, 2021. The 2021 Convertible Notes converted into 54,906 shares of the Company’s common stock upon completion of the IPO.

NOTE 9 - FINANCE LEASE

The Company entered into a finance lease in October 2019 in relation to equipment utilized in the commercial scale manufacturing of ADAIR ($ in thousands).


	March 31, 2021			December 31, 2020
Initial lease right-of-use asset	$	368		$	368
Accumulated amortization	$	107		$	89
Weighted-average remaining lease term - finance lease (in years)		2.50			2.75
Weighted-average discount rate - finance lease		13.50	%		13.50	%

The maturities of the finance lease liability as of March 31, 2021 (in thousands):


2021	$	95
2022		114
2023		76
Total lease payments		285
Less: Imputed interest		44
Present value of lease liability	$

Three Months Ended March 31,

Operating cash flows from finance lease amortization

Financing cash flows from finance lease payments

SEC Form 10-Q filed by Vallon Pharmaceuticals Inc.