Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE
COMMISSION WASHINGTON, D.C. 20549
FORM 10-Q
☒
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: 001-36338
22nd Century Group, Inc.
(Exact name of registrant as specified in its charter)
Nevada
98-0468420
(State or other jurisdiction
(IRS Employer
of incorporation)
Identification No.)
500 Seneca Street, Suite 507, Buffalo, New York 14204
(Address of principal executive offices)
(716) 270-1523
(Registrant’s telephone number, including area code)
8560 Main Street, Suite 4, Williamsville, New York 14221
(Registrant’s former office)
Securities registered under Section 12(b) of the Act:
Title of each class
Ticker symbol
Name of Exchange on Which Registered
Common Stock, $0.00001 par value
XXII
NYSE American
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).
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 4, 2021, there were 152,444,163 shares of common stock issued and outstanding.
22nd CENTURY GROUP, INC.
INDEX
Page
Number
PART I.
FINANCIAL INFORMATION
Item 1.
Financial Statements
Consolidated Balance Sheets as of March 31, 2021 (unaudited) and December 31, 2020
3
Consolidated Statements of Operations and Comprehensive Loss for the Three Months Ended March 31, 2021 and 2020 (unaudited)
4
Consolidated Statements of Changes in Shareholders’ Equity for the Three Months ended March 31, 2021 and 2020 (unaudited)
5
Consolidated Statements of Cash Flows for the Three Months ended March 31, 2021 and 2020 (unaudited)
6
Notes to Consolidated Financial Statements (unaudited)
7
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
21
Item 4.
Controls and Procedures
30
PART II.
OTHER INFORMATION
32
Legal Proceedings
Item 1A.
Risk Factors
Unregistered Sales of Equity Securities and Use of Proceeds
Item 3.
Default Upon Senior Securities
Mine Safety Disclosures
Item 5.
Other Information
Item 6.
Exhibits
33
SIGNATURES
34
2
22nd CENTURY GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Unaudited)
($ in thousands)
March 31,
December 31,
2021
2020
ASSETS
Current Assets:
Cash and cash equivalents
$
1,272
1,029
Short-term investment securities
29,671
21,313
Accounts receivable, net
2,023
2,159
Inventory, net
2,137
2,034
Prepaid expenses and other assets
1,280
1,806
Total current assets
36,383
28,341
Property, plant and equipment:
Machinery and equipment, net
2,487
2,483
Operating leases right-of-use assets, net
182
247
Total property, plant and equipment
2,669
2,730
Other assets:
Intangible assets, net
8,110
8,211
Investments
6,643
6,536
Convertible note
5,876
Total other assets
20,629
20,623
Total assets
59,681
51,694
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Notes payable
295
539
Operating lease obligations
Accounts payable
1,572
1,116
Accrued expenses
4,681
4,830
Accrued severance
274
339
Deferred income
—
272
Total current liabilities
7,004
7,343
Long-term liabilities:
Severance obligations
187
241
Total liabilities
7,191
7,584
Commitments and contingencies (Note 11)
Shareholders' equity
10,000,000 preferred shares, $.00001 par value
300,000,000 common shares, $.00001 par value
Capital stock issued and outstanding:
152,397,501 common shares (139,061,690 at December 31, 2020)
Common stock value
1
Capital in excess of par value
202,880
189,439
Accumulated other comprehensive (loss) income
42
74
Accumulated deficit
(150,434)
(145,404)
Total shareholders' equity
52,490
44,110
Total liabilities and shareholders’ equity
See accompanying notes to consolidated financial statements.
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
($ in thousands except per-share data)
Three Months Ended
Revenue:
Sale of products, net
6,806
7,058
Cost of goods sold (exclusive of depreciation shown separately below):
Products
6,159
6,771
Gross profit (loss)
647
287
Operating expenses:
Research and development
689
811
Research and development - MRTP
12
149
Sales, general and administrative
4,829
3,141
Depreciation
138
156
Amortization
150
172
Total operating expenses
5,818
4,429
Operating loss
(5,171)
(4,142)
Other income (expense):
Unrealized gain (loss) on investments
36
(445)
Realized gain (loss) on short-term investment securities
(3)
Interest income, net
112
612
Interest expense
(7)
(12)
Total other income (expense)
141
152
Loss before income taxes
(5,030)
(3,990)
Income taxes
38
Net loss
(4,028)
Other comprehensive income (loss):
Unrealized gain (loss) on short-term investment securities
(32)
(196)
Reclassification of (gain) loss to net loss
Other comprehensive income (loss)
(193)
Comprehensive loss
(5,062)
(4,221)
Net loss per common share - basic and diluted
(0.03)
Weighted average common shares outstanding - basic and diluted (in thousands)
144,258
138,610
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
($ in thousands except share data)
Three Months Ended March 31, 2021
Accumulated
Common
Par Value
Capital in
Other
Total
Shares
of Common
Excess of
Comprehensive
Shareholders’
Outstanding
Income
Deficit
Equity
Balance at December 31, 2020
139,061,690
Stock issued in connection with RSU vesting
1,196,258
Stock issued in connection with option exercises
846,342
1,153
Stock issued in connection with warrant exercises
11,293,211
11,781
11,782
Equity-based compensation
507
Balance at March 31, 2021
152,397,501
Three Months Ended March 31, 2020
Balance at December 31, 2019
138,362,809
187,735
(125,693)
62,050
491,384
481
Reclassification of losses (gains) to net loss
Balance at March 31, 2020
138,854,193
188,216
(186)
(129,721)
58,310
CONSOLIDATED STATEMENTS OF CASH FLOWS
Cash flows from operating activities:
Adjustments to reconcile net loss to cash used in operating activities:
Amortization and depreciation
226
266
Amortization of license fees
62
Amortization of ROU Asset
65
71
Unrealized (gain) loss on investment
(36)
445
Realized (gain) loss on short-term investment securities
Accretion of non cash interest expense
Accretion of non cash interest income
(45)
(209)
Equity-based employee compensation expense
(Increase) decrease in assets:
Accounts receivable
135
(266)
Inventory
(103)
(182)
526
(273)
Increase (decrease) in liabilities:
(66)
(70)
381
(639)
(148)
(188)
(119)
(213)
(272)
66
Net cash provided by (used in) operating activities
(3,911)
(4,662)
Cash flows from investing activities:
Acquisition of patents, trademarks, and licenses
(20)
Acquisition of machinery and equipment
(100)
(8)
Sales and maturities of short-term investment securities
4,950
11,613
Purchase of short-term investment securities
(13,365)
(6,606)
Net cash provided by (used in) investing activities
(8,535)
4,896
Cash flows from financing activities:
Payment on note payable
(246)
Net proceeds from option exercise
Net proceeds from warrant exercise
Net cash provided by (used in) financing activities
12,689
Net increase (decrease) in cash and cash equivalents
243
234
Cash and cash equivalents - beginning of period
485
Cash and cash equivalents - end of period
719
Supplemental disclosures of cash flow information:
Net cash paid for:
Cash paid during the period for interest
Non-cash transactions:
Patent and trademark additions included in accounts payable
29
88
Machinery and equipment additions included in accounts payable
43
Right-of-use assets and corresponding operating lease obligations
198
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2021
Amounts in thousands, except for share and per-share data
NOTE 1. - NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation - The accompanying unaudited consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q. Accordingly, they do not include all the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments consisting of normal recurring accruals considered necessary for a fair and non-misleading presentation of the financial statements have been included.
Operating results for the three months ended March 31, 2021 are not necessarily indicative of the 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 consolidated financial statements at that date but does not include all the information and footnotes required by GAAP for complete financial statements.
These interim consolidated financial statements should be read in conjunction with the December 31, 2020 audited consolidated financial statements and the notes thereto contained in our Annual Report on Form 10-K for the year ended December 31, 2020, as filed with the Securities and Exchange Commission on March 11, 2021.
Principles of Consolidation - The accompanying consolidated financial statements include the accounts of 22nd Century Group, Inc. (“22nd Century Group”), its three wholly-owned subsidiaries, 22nd Century Limited, LLC (“22nd Century Ltd”), NASCO Products, LLC (“NASCO”), and Botanical Genetics, LLC (“Botanical Genetics”), and two wholly-owned subsidiaries of 22nd Century Ltd, Goodrich Tobacco Company, LLC (“Goodrich Tobacco”) and Heracles Pharmaceuticals, LLC (“Heracles Pharma”) (collectively, “the Company”). All intercompany accounts and transactions have been eliminated.
Nature of Business - 22nd Century Group is a leading biotechnology company developing disruptive plant-based solutions for the life science, consumer product, and pharmaceutical markets. The Company is focused on technology that allows it to alter the level of nicotine and other nicotinic alkaloids in tobacco plants and the levels of cannabinoids and terpenes in hemp/cannabis plants through genetic engineering and modern plant breeding techniques. Goodrich Tobacco and Heracles Pharma are business units for the Company’s potential modified risk tobacco products. NASCO is a federally licensed tobacco products manufacturer, a subsequent participating member under the tobacco Master Settlement Agreement (“MSA”) between the tobacco industry and the settling states under the MSA and operates the Company’s tobacco products manufacturing business in North Carolina. Botanical Genetics is a wholly-owned subsidiary of 22nd Century Group that performs research and development related to the Company’s hemp/cannabis business.
COVID-19 Pandemic – The COVID-19 pandemic has adversely impacted the U.S. economy and supply chains and created volatility in U.S. financial markets. The COVID-19 pandemic has had a minimal impact on the Company’s operations in 2020 and thus far in 2021, but there is a risk that state and federal authorities’ responses to the COVID-19 pandemic or another pandemic may disrupt our business in the future. Our executive leadership team and staff are monitoring this evolving situation and its impacts on our business. We will continue to monitor the local, state and federal guidance regarding our business practices.
During April 2021, the Company relocated its corporate headquarters into downtown Buffalo, NY. The new office, as well as all of our facilities, continue to operate under state and federal protocols which include physical distancing, mandatory face coverings, and disinfection of surfaces. We also continue to encourage remote work arrangements by our employees where job duties permit.
Our executive leadership team and staff are monitoring this evolving situation and its impacts on our business. We will continue to monitor the local, state and federal guidance regarding our business practices.
Use of Estimates - The preparation of financial statements in conformity with accounting principles generally accepted in the U.S. requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure
of contingent assets and liabilities at the date of the financial statements and the reported amounts of income and expenses during the reporting period. Actual results could differ from those estimates.
Intangible Assets – Intangible assets are recorded at cost and consist primarily of (1) expenditures incurred with third-parties related to the processing of patent claims and trademarks with government authorities, as well as costs to acquire patent rights from third-parties, (2) license fees paid for third-party intellectual property, (3) costs to become a signatory under the tobacco MSA, and (4) license fees paid to acquire a predicate cigarette brand. The amounts capitalized relate to intellectual property that the Company owns or to which it has rights to use.
The Company’s capitalized intellectual property costs are amortized using the straight-line method over the remaining statutory life of the granted patent assets in each of the Company’s patent families, which have estimated expiration dates ranging from 2026 to 2041. Periodic maintenance or renewal fees are expensed as incurred. Annual minimum license fees are charged to expense. License fees paid for third-party intellectual property are amortized on a straight-line basis over the last to expire patents, which have expected expiration dates ranging from 2028 through 2036. The Company believes costs associated with becoming a signatory to the MSA and acquiring a predicate cigarette brand have an indefinite life and as such, no amortization is taken. At each reporting period, the Company evaluates whether events and circumstances continue to support the indefinite-lived classification.
Impairment of Long-Lived Assets – The Company reviews the carrying value of its amortizing long-lived assets whenever events or changes in circumstances indicate that the historical cost-carrying value of an asset may no longer be recoverable. On at least an annual basis, the Company assesses whether events or changes in circumstances indicate that the carrying amount may not be recoverable. If any such indicators are present, the Company will test for recoverability in accordance with ASC 360-Property, plant, and equipment or ASC 350- Intangibles, Goodwill, and Other.
Intangible assets subject to amortization are reviewed for strategic importance and commercialization opportunity prior to expiration. If it is determined that the asset no longer supports the Company’s strategic objectives and/or will not be commercially viable prior to expiration, the asset is impaired. In addition, the Company will assess the expected future undiscounted cash flows for its intellectual property based on consideration of future market and economic conditions, competition, federal and state regulations, and licensing opportunities. If the carrying value of such assets are not recoverable, the carrying value will be reduced to fair value.
Indefinite-lived intangible asset carrying values are reviewed at least annually or more frequently if events or changes in circumstances indicate that it is more likely than not that an impairment exists. The Company first performs a qualitative assessment and considers its current strategic objectives, future market and economic conditions, competition, and federal and state regulations to determine if an impairment is more likely than not. If it is determined that an impairment is more likely than not, a quantitative assessment is performed to compare the asset carrying value to fair value.
Fair Value of Financial Instruments - The Company’s financial instruments include cash and cash equivalents, short-term investment securities, accounts receivable, investments, a convertible note receivable, accounts payable, accrued expenses, and notes payable. Other than for cash equivalents, short-term investment securities, certain investments, and the convertible note receivable, fair value is assumed to approximate carrying values for these financial instruments, since they are short term in nature, they are receivable or payable on demand, or had stated interest rates that approximate the interest rates available to the Company as of the reporting date. The determination of the fair value of cash equivalents, short-term investment securities, investments, and convertible note receivable are discussed in Note 6.
Investments - Under ASU 2016-01, equity securities are recorded at fair value, with changes in fair value recorded through the statement of operations. Equity securities without a readily determinable market value are carried at cost less impairment, adjusted for observable price changes in orderly transactions for an identical or similar investment of the same issuer. The Company considers its debt instruments as available-for-sale securities, and accordingly, all unrealized gains and losses incurred on the short-term investment securities (the adjustment to fair value) are recorded in other comprehensive income or loss on the Company’s Consolidated Statements of Operations and Comprehensive Loss.
Stock Based Compensation - The Company uses a fair-value based method to determine compensation for all arrangements under which Company employees and others receive shares, restricted stock units or options, to purchase common shares of the Company. Stock based compensation expense is recorded over the requisite service period based on estimates of probability and time of achieving milestones and vesting. Forfeitures are accounted for when they occur.
8
Income Taxes - For interim income tax reporting, due to a full valuation allowance on net deferred tax assets, no income tax expense or benefit is recorded unless it is an unusual or infrequently occurring item. The tax effects of unusual or infrequently occurring items, including changes in judgment about valuation allowances and effects of changes in tax laws or rates, are reported in the interim period in which they occur.
NOTE 2. - INVENTORY
Inventories are valued at the lower of historical cost or net realizable value. Cost is determined using an average cost method for tobacco leaf inventory and raw materials inventory. Standard cost is primarily used for finished goods inventory. Inventories are evaluated to determine whether any amounts are not recoverable based on slow moving or obsolete condition and are written off or reserved as appropriate.
Inventories at March 31, 2021 and December 31, 2020 consisted of the following:
Inventory - tobacco leaf
703
821
Inventory - finished goods
Cigarettes and filtered cigars
229
171
Inventory - raw materials
Cigarette and filtered cigar components
1,305
1,142
Less: inventory reserve
NOTE 3. - MACHINERY AND EQUIPMENT
Machinery and equipment at March 31, 2021 and December 31, 2020 consisted of the following:
Useful Life
Cigarette manufacturing equipment
3 or 10 years
4,924
4,893
Office furniture, fixtures and equipment
5 Years
26
20
Laboratory equipment
117
Leasehold improvements
6 Years
123
Construction in progress
105
Less: accumulated depreciation
(2,808)
(2,670)
Depreciation expense was $138 for the three months ended March 31, 2021 ($156 for the three months ended March 31, 2020).
NOTE 4. - RIGHT-OF-USE ASSETS, LEASE OBLIGATIONS, AND OTHER LEASES
The Company leases a manufacturing facility and warehouse in North Carolina, a corporate headquarters in Buffalo, New York, and a laboratory space in Buffalo, New York. The tables outlined below represent information regarding the Company’s manufacturing facility lease and laboratory lease which are both classified as operating leases and are currently reflected within the Consolidated Balance Sheets.
The following table summarizes the Company’s discount rate and remaining lease terms:
Weighted average remaining lease term in years
0.8
Weighted average discount rate
4.4
%
9
Future minimum lease payments as of March 31, 2021 are as follows:
176
2022
Total lease payments
185
Less: imputed interest
On January 15, 2021, the Company signed a lease agreement to relocate its corporate headquarters to the Larkinville District in downtown Buffalo, New York. The Company moved into the new office location in April 2021 and signed an amended lease agreement which revised the original lease commencement date to April 1, 2021. During the second quarter of 2021, the Company will recognize the respective right of use (“ROU”) asset and lease liability for the new corporate headquarters on its Consolidated Balance Sheets. The lease has a monthly base rent of $6, which escalates 2.5% annually after the first year, and an initial term of 36 months—with two twenty-four-month optional renewal options at the Company’s discretion.
NOTE 5. – INVESTMENTS & CONVERTIBLE NOTE RECEIVABLE
Investment in Panacea Life Sciences, Inc.
The Company has an investment in Panacea Life Sciences (“Panacea”) that consists of three instruments: (i) shares of Series B preferred stock (“preferred stock”); (ii) a convertible note receivable with a $7,000 face value; and (iii) a warrant (“stock warrant”) to purchase additional shares of Series B preferred stock, to obtain 51% ownership of Panacea, at an exercise price of $2.344 per share. The convertible note receivable and the preferred stock investment are considered available for sale debt securities with a private company that is not traded in active markets. Since observable price quotations were not available at acquisition, fair value was estimated based on cost less an appropriate discount upon acquisition. The discount on the convertible note receivable and preferred stock is being amortized into interest income over the respective term. See Note 6 for additional information on the fair value measurements.
The Company entered into a non-binding agreement with Panacea to potentially restructure the investment and business relationship. The non-binding agreement with Panacea generally provides for (i) the transfer of $7,170 in operational assets, including an agricultural facility and various extraction and distillation equipment, from Panacea to the Company in exchange for the cancellation of the $7,000 convertible note receivable plus accrued interest; (ii) an amendment of transaction documents to remove any future investment rights and obligations of the Company in Panacea, (iii) cancellation of the stock warrant to purchase additional Series B preferred stock; and (iv) various other amendments to Panacea’s charter to amend various investors rights therein. As a result of the expected outcome of this non-binding agreement, the discount on the convertible note receivable is no longer amortized into interest income as the Company’s total carrying value of its stock warrant, convertible note receivable, and accrued interest equals the fair value outlined in the non-binding agreement. However, the agreement to restructure the investment with Panacea is preliminary, non-binding, subject to change, and may not occur.
As of March 31, 2021, the total carrying value of the Company’s investment in Panacea is outlined below:
Panacea preferred stock
5,244
5,173
Panacea stock warrant
1,124
Accrued interest on convertible note receivable (included within prepaid expenses and other assets)
170
Convertible note receivable
12,414
12,343
Investment in Aurora Cannabis, Inc.
The Company has an investment in Aurora Cannabis Inc. (“Aurora”) stock warrants that are considered equity securities under ASC 321 – Investments – Equity Securities and a derivative instrument under ASC 815 – Derivatives and Hedging. The stock
10
warrants are not designated as a hedging instrument, and in accordance with ASC 815, the Company’s investment in stock warrants are recorded at fair value with changes in fair value recorded to unrealized gain/loss as shown within the Company’s Consolidated Statements of Operations and Comprehensive Loss. See Note 6 for additional information on the fair value measurements.
The total carrying value of the Company’s investments at March 31, 2021 and December 31, 2020 consisted of the following:
Aurora stock warrants
275
239
Total Investments
Convertible Note Receivable
NOTE 6. – FAIR VALUE MEASUREMENTS AND SHORT-TERM INVESTMENTS
FASB ASC 820 - “Fair Value Measurements and Disclosures” establishes a valuation hierarchy for disclosure of the inputs to valuation used to measure fair value. This hierarchy prioritizes the inputs into three broad levels as follows:
A financial asset’s or a financial liability’s classification within the hierarchy is determined based on the lowest level input that is significant to the fair value measurement.
The following table presents information about our assets and liabilities measured at fair value as of March 31, 2021 and December 31, 2020, and indicates the fair value hierarchy of the valuation techniques the Company utilized to determine such fair value:
Fair Value
Level 1
Level 2
Level 3
Assets
Short-term investment securities:
Money market funds
22,001
Corporate bonds
7,670
Total short-term investment securities
Investment - Aurora stock warrants
Investment - Panacea preferred stock
11
December 31, 2020
8,636
12,677
Money market mutual funds are valued at their daily closing price as reported by the fund. Money market mutual funds held by the Company are open-end mutual funds that are registered with the SEC that generally transact at a stable $1.00 Net Asset Value (“NAV”) representing its estimated fair value. On a daily basis the fund’s NAV is determined by the fund based on the amortized cost of the funds underlying investments.
Corporate bonds are valued using pricing models maximizing the use of observable inputs for similar securities.
The investment in the Aurora stock (ACB) warrants is measured at fair value using the Black-Scholes pricing model and is classified within Level 3 of the valuation hierarchy. The unobservable input is an estimated volatility factor of 143% and 137% as of March 31, 2021 and December 31, 2020, respectively. Therefore, changes in market volatility will impact the fair value measurement of our ACB investment.
A 20% increase or decrease in the volatility factor used as of March 31, 2021 would have the impact of increasing or decreasing the fair value measurement of the stock warrants by approximately $128. A 20% increase or decrease in the volatility factor used at December 31, 2020 would have the impact of increasing or decreasing the fair value measurement of the stock warrants by approximately $115.
The Panacea convertible note receivable and the preferred stock investment are considered available-for-sale debt securities with a private company that is not traded in active markets. Since observable price quotations were not available, fair value was estimated based on cost less an appropriate discount upon acquisition.
The following table sets forth a summary of the changes in fair value of the Company’s Level 3 investments for the three months ended March 31, 2021:
Fair Value at December 31, 2020
11,288
Unrealized gain as a result of change in fair value
Accretion of interest on Panacea preferred stock
Fair Value at March 31, 2021
11,395
The following tables set forth a summary of the Company’s available-for-sale debt securities from amortized cost basis to fair value as of March 31, 2021 and December 31, 2020:
Available for Sale Debt Securities
Amortized
Gross
Cost
Unrealized
Fair
Basis
Gains
Losses
Value
7,628
18,748
18,790
12,603
23,652
23,726
The following table sets forth a summary of the Company’s available-for-sale securities from amortized cost basis and fair value by contractual maturity as of March 31, 2021 and December 31, 2020:
Cost Basis
Due in one year or less
11,692
11,753
Due after one year through five years
11,120
11,960
11,973
Due in five years
NOTE 7. - INTANGIBLE ASSETS
Total intangible assets at March 31, 2021 and December 31, 2020 consisted of the following:
Patent and trademark costs
5,717
5,667
Less: accumulated amortization
(3,025)
(2,936)
Patent and trademark costs, net
2,692
2,731
License fees
3,876
(1,010)
(948)
License fees, net
2,866
2,928
MSA signatory costs
2,202
License fee for predicate cigarette brand
350
Amortization expense relating to the above intangible assets for the three months ended March 31, 2021 amounted to $150 ($172 for the three months ended March 31, 2020).
NOTE 8. – NOTES PAYABLE
License Fees
On June 22, 2018, the Company entered into the Second Amendment to the License Agreement (the “Second Amendment”) with North Carolina State University (“NCSU”) that amended an original License Agreement between the Company and NCSU, dated December 8, 2015, and the First Amendment, dated February 14, 2018, to the original License Agreement. Under the terms of the Second Amendment, the Company was obligated to pay NCSU milestone payments totaling $1,200, which originally amounted to a present value of $1,175. As of June 30, 2020 the Company paid the final milestone payment of $300. The cost of the of acquired
13
license amounted to $1,175 and is included in Intangible assets, net on the Company’s Consolidated Balance Sheets, and is amortized on a straight-line basis over the last-to-expire patent, which is expected to be in 2036.
On October 22, 2018, the Company entered into a License Agreement with the University of Kentucky. Under the terms of the License Agreement, the Company is obligated to pay the University of Kentucky milestone payments totaling $1,200, of which $300 was payable upon execution, and $300 will be payable annually over three years on the anniversary of the execution of the License Agreement. The Company has recorded the present value of the obligations under the License Agreement as a note payable that originally amounted to $1,151. The cost of the of acquired licenses amounted to $1,151 and is included in Intangible assets, net on the Company’s Consolidated Balance Sheets and will be amortized on a straight-line basis over the last-to-expire patent, which is expected to be in 2033.
D&O Insurance
During the second quarter of 2020, the Company renewed its Director and Officer (“D&O”) insurance for a one-year policy premium totaling $2,744. The Company paid $549 as a premium down payment and financed the remaining $2,195 of policy premiums over nine months at a 3.19% annual percentage rate.
The table below outlines our notes payable balances as of March 31, 2021 and December 31, 2020:
293
246
Total current notes payable
Accretion of non-cash interest expense amounted to $2 for the three months ended March 31, 2021 and $6 for the three months ended March 31, 2020.
NOTE 9. – SEVERANCE LIABILITY
During the second quarter of 2020, the Company recorded severance benefits of $306 related to a resignation which will be provided over a twelve-month period. During 2019, the Company recorded severance benefits of $881. Consistent with certain contractual obligations, $771 of the related benefit will be provided over a period of forty-two months.
The current and long-term accrued severance balance remaining as of March 31, 2021 was $274 and $187, respectively. The current and long-term accrued severance balance remaining as of December 31, 2020 was $339 and $241, respectively.
NOTE 10. - WARRANTS FOR COMMON STOCK
During the first quarter of 2021, the Company’s warrant holders exercised all 11,293,211 outstanding warrants for cash in exchange for common stock. In connection with these exercises, the Company received net proceeds of $11,782. No warrants remain outstanding as of March 31, 2021.
The following table summarizes the Company’s outstanding warrant activity since December 31, 2020:
Number of
Warrants
Warrants outstanding at December 31, 2020
Warrants exercised in Q1 2021
(11,293,211)
Warrants outstanding at March 31, 2021
14
NOTE 11. - COMMITMENTS AND CONTINGENCIES
License agreements and sponsored research – The Company has entered into various license, sponsored research, collaboration, and other agreements (the “Agreements”) with various counter parties in connection with the Company’s plant biotechnology business relating to tobacco and hemp/cannabis. The schedule below summarizes the Company’s commitments, both financial and other, associated with each Agreement. Costs incurred under the Agreements are generally recorded as research and development expenses on the Company’s Consolidated Statements of Operations and Comprehensive Loss.
Future Commitments
Commitment
Counter Party
Product Relationship
Commitment Type
2023
2024
2025 & After
Research Agreement
KeyGene
Hemp / Cannabis
Contract fee
900
1,200
300
4,800
(1)
License Agreement
NCSU
Tobacco
Annual royalty fee
202
225
427
(2), (3)
Minimum annual royalty
19
50
600
769
500
688
75
(4)
Sublicense Agreement
Anandia Laboratories, Inc.
Annual license fee
110
(5)
Cannametrix
200
(6)
Growing Agreement
Various
67
1,461
1,585
1,310
1,510
7,176
Investment in Panacea - On December 3, 2019, the Company entered into an agreement to obtain a 15.8% ownership in Panacea. The Company paid Panacea $12,000 in cash and issued shares of 22nd Century common stock with a fair value of $1,297. The agreement with Panacea also requires the Company to purchase 5,333,334 shares of puttable preferred stock at $1.875 when Panacea achieves certain twelve-month sales targets—payable in cash of $8,500 and the remainder in common stock of the Company. The Company recently entered into a non-binding agreement with Panacea which would include an amendment of transaction documents to remove any future investment rights and obligations of the Company. See Note 5 for further information regarding the Company’s investment in Panacea.
15
Modified Risk Tobacco Product Application (“MRTP Application”) – In connection with the Company’s MRTP Application for its Very Low Nicotine Content (“VLNC”) cigarettes with the FDA, the Company has entered in various contracts with third-party service providers to fulfill various requirements of the MRTP Application. Such contracts include services for clinical trials, perception studies, legal guidance, product testing, and consulting expertise. During the three months ended March 31, 2021, the Company incurred expenses relating to these contracts in the approximate amount of $12 and $149 for the three months ended March 31, 2020, respectively. The Company will continue to incur consulting and legal expenses as the MRTP Application continues through the FDA review process. The Company cannot currently quantify the additional expenses that the Company will incur in the FDA review process because it will involve various factors that are within the discretion and control of the FDA.
Litigation - In accordance with applicable accounting guidance, the Company establishes an accrued liability for litigation and regulatory matters when those matters present loss contingencies that are both probable and estimable. In such cases, there may be an exposure to loss in excess of any amounts accrued. When a loss contingency is not both probable and estimable, the Company does not establish an accrued liability. As a litigation or regulatory matter develops, the Company, in conjunction with any outside counsel handling the matter, evaluates on an ongoing basis whether such matter presents a loss contingency that is probable and estimable. If, at the time of evaluation, the loss contingency related to a litigation or regulatory matter is not both probable and estimable, the matter will continue to be monitored for further developments that would make such loss contingency both probable and estimable. When a loss contingency related to a litigation or regulatory matter is deemed to be both probable and estimable, the Company will establish an accrued liability with respect to such loss contingency and record a corresponding amount of related expenses. The Company will then continue to monitor the matter for further developments that could affect the amount of any such accrued liability.
Class Action
On January 21, 2019, Matthew Jackson Bull, a resident of Denver, Colorado, filed a Complaint against the Company, the Company’s then Chief Executive Officer, Henry Sicignano III, and the Company’s then Chief Financial Officer, John T. Brodfuehrer, in the United States District Court for the Eastern District of New York entitled: Matthew Bull, Individually and on behalf of all others similarly situated, v. 22nd Century Group, Inc., Henry Sicignano III, and John T. Brodfuehrer, Case No. 1:19 cv 00409.
On January 29, 2019, Ian M. Fitch, a resident of Essex County Massachusetts, filed a Complaint against the Company, the Company’s then Chief Executive Officer, Henry Sicignano III, and the Company’s then Chief Financial Officer, John T. Brodfuehrer, in the United States District Court for the Eastern District of New York entitled: Ian Fitch, Individually and on behalf of all others similarly situated, v. 22nd Century Group, Inc., Henry Sicignano III, and John T. Brodfuehrer, Case No. 2:19 cv 00553.
On May 28, 2019, the plaintiff in the Fitch case voluntarily dismissed that action. On August 1, 2019, the Court in the Bull case issued an order designating Joseph Noto, Garden State Tire Corp, and Stephens Johnson as lead plaintiffs.
On September 16, 2019, pursuant to a joint motion by the parties, the Court in the Bull case transferred the class action to federal district court in the Western District of New York, where it remains pending as Case No. 1:19-cv-01285.
Plaintiffs in the Bull case filed an Amended Complaint on November 19, 2019 that alleges three counts: Count I sues the Company and Messrs. Sicignano and Brodfuehrer and alleges that the Company's quarterly and annual reports, SEC filings, press releases and other public statements and documents contained false statements in violation of Section 10(b) of the Securities Exchange Act and Rule 10b-5; Count II sues Messrs. Sicignano and Brodfuehrer pursuant to Section 10(b) of the Securities Exchange Act and Rule 10b5(a) and (c); and Count III sues Messrs. Sicignano and Brodfuehrer for the allegedly false statements pursuant to Section 20(a) of the Securities Exchange Act. The Amended Complaint seeks to certify a class, and unspecified compensatory and punitive damages, and attorney's fees and costs.
On January 29, 2020, the Company and Messrs. Sicignano and Brodfuehrer filed a Motion to Dismiss the Amended Complaint. On July 31, 2020, the Court heard oral arguments on the motion to dismiss. On January 14, 2021, the Court granted motion, dismissing all claims with prejudice. The Plaintiffs filed a notice of appeal on February 12, 2021 to the Second Circuit Court of Appeals. The Second Circuit has granted an expedited briefing schedule and Plaintiff’s/Appellant’s was filed on April 12, 2021 and the Company’s must be filed no later than May 17, 2021.
16
We believe that the claims are frivolous, meritless and that the Company and Messrs. Sicignano and Brodfuehrer have substantial legal and factual defenses to the claims. We intend to vigorously defend the Company and Messrs. Sicignano and Brodfuehrer against such claims.
Shareholder Derivative Cases
On February 6, 2019, Melvyn Klein, a resident of Nassau County New York, filed a shareholder derivative claim against the Company, the Company’s then Chief Executive Officer, Henry Sicignano III, the Company’s Chief Financial Officer, John T. Brodfuehrer, and each member of the Company’s Board of Directors in the United States District Court for the Eastern District of New York entitled: Melvyn Klein, derivatively on behalf of 22nd Century Group v. Henry Sicignano, III, Richard M. Sanders, Joseph Alexander Dunn, Nora B. Sullivan, James W. Cornell, John T. Brodfuehrer and 22nd Century Group, Inc., Case No. 1:19 cv 00748. Mr. Klein brings this action derivatively alleging that (i) the director defendants supposedly breached their fiduciary duties for allegedly allowing the Company to make false statements; (ii) the director defendants supposedly wasted corporate assets to defend this lawsuit and the other related lawsuits; (iii) the defendants allegedly violated Section 10(b) of the Securities Exchange Act and Rule 10b 5 promulgated thereunder for allegedly approving or allowing false statements regarding the Company to be made; and (iv) the director defendants allegedly violated Section 14(a) of the Securities Exchange Act and Rule 14a 9 promulgated thereunder for allegedly approving or allowing false statements regarding the Company to be made in the Company’s proxy statement.
On February 11, 2019, Stephen Mathew filed a shareholder derivative claim against the Company, the Company’s then Chief Executive Officer, Henry Sicignano III, the Company’s Chief Financial Officer, John T. Brodfuehrer, and each member of the Company’s Board of Directors in the Supreme Court of the State of New York, County of Erie, entitled: Stephen Mathew, derivatively on behalf of 22nd Century Group, Inc. v. Henry Sicignano, III, John T. Brodfuehrer, Richard M. Sanders, Joseph Alexander Dunn, James W. Cornell, Nora B. Sullivan and 22nd Century Group, Inc., Index No. 801786/2019. Mr. Mathew brings this action derivatively generally alleging the same allegations as in the Klein case. The Complaint seeks declaratory relief, unspecified monetary damages, corrective corporate governance actions, and attorney’s fees and costs. On August 15, 2019, the Court consolidated the Mathew and Klein actions pursuant to a stipulation by the parties (Western District of New York, Case No. 1-19-cv-0513). We believe that the claims are frivolous, meritless and that the Company and the individual defendants have substantial legal and factual defenses to the claims. We intend to vigorously defend the Company and the individual defendants against such claims.
On June 10, 2019, Judy Rowley filed a shareholder derivative claim against the Company, the Company’s then Chief Executive Officer, Henry Sicignano III, the Company’s Chief Financial Officer, John T. Brodfuehrer, and each member of the Company’s Board of Directors in the Supreme Court of the State of New York, County of Erie, entitled: Judy Rowley, derivatively on behalf of 22nd Century Group, Inc. v. Henry Sicignano, III, Richard M. Sanders, Joseph Alexander Dunn, Nora B. Sullivan, James W. Cornell, John T. Brodfuehrer, and 22nd Century Group, Inc., Index No. 807214/2019. Ms. Rowley brings this action derivatively alleging that the director defendants supposedly breached their fiduciary duties by allegedly allowing the Company to make false statements. The Complaint seeks declaratory relief, unspecified monetary damages, corrective corporate governance actions, and attorney’s fees and costs. We believe that the claims are frivolous, meritless and that the Company and the individual defendants have substantial legal and factual defenses to the claims. We intend to vigorously defend the Company and the individual defendants against such claims. On September 13, 2019, the Court ordered the litigation stayed pursuant to a joint stipulation by the parties.
On January 15, 2020, Kevin Broccuto filed a shareholder derivative claim against the Company, the Company's then Chief Executive Officer, Henry Sicignano III, the Company's Chief Financial Officer, John T. Brodfuehrer, and certain members of the Company's prior Board of Directors in the District Court of the State of Nevada, County of Clark, entitled: Kevin Broccuto, derivatively on behalf of 22nd Century Group, Inc. v. James W. Cornell, Richard M. Sanders, Nora B. Sullivan, Henry Sicignano, III, and John T. Brodfuehrer, Case No. A-20-808599. Mr. Broccuto brings this action derivatively alleging three counts: Count I alleges that the defendants breached their fiduciary duties; Count II alleges they committed corporate waste; and Count III that they were unjustly enriched, by allegedly allowing the Company to make false statements.
On February 11, 2020, Jerry Wayne filed a shareholder derivative claim against the Company, the Company's then Chief Executive Officer, Henry Sicignano III, the Company's Chief Financial Officer, John T. Brodfuehrer, and certain members of the Company's prior Board of Directors in the District Court of the State of Nevada, County of Clark, entitled: Jerry Wayne, derivatively on behalf of 22nd Century Group, Inc. v. James W. Cornell, Richard M. Sanders, Nora B. Sullivan, Henry Sicignano, III, and John T. Brodfuehrer, Case No. A-20-808599. Mr. Wayne brings this action derivatively alleging generally the same allegations as the Brocutto case. The Complaint seeks unspecified monetary damages, corrective corporate governance actions, disgorgement of alleged
17
profits and imposition of constructive trusts, and attorney's fees and costs. The Complaint also seeks to declare as unenforceable the Company's Bylaw requiring derivative lawsuits to be filed in Erie County, New York, where the Company is headquartered.
On March 25, 2020, the Court ordered the Brocutto and Wayne cases consolidated and stayed pursuant to a joint stipulation from the parties. We believe that the claims are frivolous, meritless and that the Company and the individual defendants have substantial legal and factual defenses to the claims. We intend to vigorously defend the Company and the individual defendants against such claims.
NOTE 12 – EQUITY- BASED COMPENSATION
On April 12, 2014, the stockholders of the Company approved the 22nd Century Group, Inc. 2014 Omnibus Incentive Plan (the “OIP”) and the authorization of 5,000,000 shares to be reserved for issuance thereunder. On April 29, 2017, the stockholders approved an amendment to the OIP to increase the number of shares available for issuance by an additional 5,000,000 shares and on May 3, 2019, the stockholders approved an additional amendment to the OIP to increase the number of shares available for issuance by an additional 5,000,000 shares. The OIP allows for the granting of equity and cash incentive awards to eligible individuals over the life of the OIP, including the issuance of up to an aggregate of 15,000,000 shares of the Company’s common stock pursuant to awards under the OIP. The OIP has a term of ten years and is administered by the Compensation Committee of the Company’s Board of Directors to determine the various types of incentive awards that may be granted to recipients under the OIP and the number of shares of common stock to underlie each such award under the OIP. As of March 31, 2021, the Company had available 1,979,059 shares remaining for future awards under the OIP. The Company is also seeking shareholder approval of the 22nd Century Group, Inc. 2021 Omnibus Incentive Plan (the “Plan”) to authorize 5,000,000 shares of our common stock for issuance under the Plan to meet our compensation goals for current and future years. Our Board of Directors has adopted the Plan contingent on stockholder approval.
Restricted Stock (“RSU”). We grant restricted stock units to employees and non-employee directors which are valued based on the Company’s stock price on the award grant date. The following table summarizes the changes in unvested restricted stock from December 31, 2020 through March 31, 2021.
Unvested RSUs
Weighted
Average
Grant-date
in thousands
$ per share
Unvested at December 31, 2020
2,938
0.85
Granted
1,995
3.20
Vested
(1,234)
Forfeited
(216)
0.67
Unvested at March 31, 2021
3,483
2.21
The fair value of RSUs that vested during the three months ended March 31, 2021 was approximately $3,600 based on the stock price at the time of vesting.
Stock Options. Our outstanding stock options were valued using the Black-Scholes option-pricing model on the date of the award. A summary of all stock option activity since December 31, 2020 is as follows:
18
Remaining
Aggregate
Exercise
Contractual
Intrinsic
Options
Price
Term
Outstanding at December 31, 2020
6,581
1.50
235
3.10
Exercised
(846)
1.36
Expired
2.76
Outstanding March 31, 2021
5,964
1.59
4.3
years
7,480
Exercisable at March 31, 2021
5,028
1.56
4.1
8,144
The intrinsic value of a stock option is the amount by which the current market value or the market value upon exercise of the underlying stock exceeds the exercise price of the option.
The weighted average of fair value assumptions used in the Black-Scholes option-pricing model for such grants were as follows:
Risk-free interest rate (1)
0.54
Expected dividend yield (2)
Expected volatility (3)
87.92
Expected term of stock options (4)
4.09
Restricted Stock and Stock Option Compensation Expense. The Company recognized the following compensation costs, net of actual forfeitures, related to restricted stock and stock options:
Sales, general, and administrative
480
440
Research and Development
27
41
Total restricted stock and stock option compensation
As of March 31, 2021, unrecognized compensation expense amounted to $7,765 which is expected to be recognized over a weighted average period of approximately 1.4 years. In addition, there is approximately $637 of unrecognized stock option compensation expense that requires the achievement of certain milestones which have yet to be obtained.
NOTE 13. – REVENUE RECOGNITION
The Company recognizes revenue when it satisfies a performance obligation by transferring control of the product to a customer. The Company’s customer contracts consist of obligations to manufacture the customer’s branded filtered cigars and cigarettes. For certain contracts, the performance obligation is satisfied over time as the Company determines, due to contract restrictions, it does not have an alternative use of the product and it has an enforceable right to payment as the product is manufactured. The Company recognizes revenue under those contracts at the unit price stated in the contract based on the units
manufactured. Revenue from the sale of the Company’s products is recognized net of cash discounts, sales returns and allowances. There was no allowance for discounts or returns and allowances at March 31, 2021 and December 31, 2020.
Contract Assets and Liabilities
Unbilled receivables (contract assets) represent revenues recognized for performance obligations that have been satisfied but have not been billed. These receivables are included as Accounts receivable, net on the Consolidated Balance Sheets. Customer payment terms vary depending on the terms of each customer contract, but payment is generally due prior to product shipment or within extended credit terms up to twenty-one (21) days after shipment. Deferred Revenue (contract liabilities) relate to down payments received from customers in advance of satisfying a performance obligation. This deferred revenue is included as Deferred income on the Consolidated Balance Sheets.
Total contract assets and contract liabilities are as follows:
Unbilled receivables
53
349
Deferred Revenue
Net contract assets
77
Disaggregation of Revenue
The Company’s net sales revenue is derived from customers located primarily in the United States of America and is disaggregated by the timing of revenue recognition—net sales transferred over time and net sales transferred at a point in time. All revenue is related to contract manufacturing.
Net sales-over time
4,512
4,357
Net sales-point in time
2,294
2,701
Total Revenue
NOTE 14. – EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings (loss) per common share for the three months ended March 31, 2021 and 2020, respectively. Outstanding warrants, options, and restricted stock units were excluded from the calculation of diluted EPS as the effect was antidilutive.
(in thousands, except for per-share data)
Weighted average common shares outstanding - basic and diluted
Anti-dilutive shares are as follows:
11,293
7,837
Restricted stock units
9,447
22,068
NOTE 15. – SUBSEQUENT EVENTS
On April 30, 2021, 22nd Century Group, Inc. (the “Company”) and KeyGene N.V. (“KeyGene”) entered into a First Amended and Restated Framework Collaborative Research Agreement (the “Amended Agreement”) which amends and restates the terms of that certain Framework Collaborative Research Agreement entered into between the two companies on April 3, 2019 (the “FCRA”), under which KeyGene agreed to work exclusively with the Company with respect to the Cannabis Sativa L. plant and all uses thereof (the “Field”). The Amended Agreement provides for certain strategic business term modifications to the FCRA, including:
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Forward Looking Statements
Except for historical information, all of the statements, expectations, and assumptions contained in this section are forward-looking statements. Forward-looking statements typically contain terms such as “anticipate,” “believe,” “consider,” “continue,” “could,” “estimate,” “expect,” “explore,” “foresee,” “goal,” “guidance,” “intend,” “likely,” “may,” “plan,” “potential,” “predict,” “preliminary,” “probable,” “project,” “promising,” “seek,” “should,” “will,” “would,” and similar expressions. Actual results might differ materially from those explicit or implicit in forward-looking statements. Important factors that could cause actual results to differ materially are set forth in “Risk Factors” in our Annual Report on Form 10-K filed on March 11, 2021. We undertake no obligation to publicly update or revise any forward-looking statement as a result of new information, future events, or otherwise, except as otherwise required by law. All information provided in this quarterly report is as of the date hereof, and we assume no obligation to and do not intend to update these forward-looking statements, except as required by law.
For purposes of this Management’s Discussion and Analysis of Financial Condition and Results of Operations, references to the “Company,” “we,” “us” or “our” refer to the operations of 22nd Century Group, Inc. and its direct and indirect subsidiaries for the periods described herein.
Overview
22nd Century Group, Inc. is a biotechnology company developing disruptive, plant-based solutions for the life science, consumer product, and pharmaceutical markets. We are focused on technology that allows us to modulate the level of nicotine and other nicotinic alkaloids in tobacco plants and the levels of cannabinoids and terpenes in hemp/cannabis plants through genetic engineering and modern plant breeding techniques. Our mission in tobacco is to reduce the harm caused by smoking by introducing adult smokers to our proprietary, Very Low Nicotine Content (“VLNC”) tobacco and cigarettes, which contains 95% less nicotine than conventional tobacco and cigarettes. Our mission in hemp/cannabis is to develop proprietary varieties of hemp with valuable cannabinoid and terpene profiles and other superior agronomic traits, with potential applications in life sciences and consumer products. We have a significant intellectual property portfolio of issued patents and patent applications relating to both tobacco and hemp/cannabis plants.
In tobacco, we have developed unique and proprietary bright and burley VLNC tobaccos that grow with at least 95% less nicotine than tobacco used in conventional cigarettes. In the year 2011, we developed our SPECTRUM® research cigarettes in collaboration with independent researchers, officials from the FDA, the National Institute on Drug Abuse (“NIDA”), which is part of the National Institutes of Health (“NIH”), the National Cancer Institute (“NCI”), and the Centers for Disease Control and Prevention
(“CDC”). Since 2011, we have provided more than 31.6 million variable nicotine research cigarettes for use in numerous independent clinical studies with agencies of the United States federal government. These independent clinical studies are estimated to have been performed at a cost of more than $125 million. The results of these independent clinical studies have been published in peer-reviewed publications (including the New England Journal of Medicine, the Journal of the American Medical Association, and many others). The results of these studies indicate that our VLNC tobaccos have been associated with reductions in smoking, nicotine exposure and nicotine dependence with little to no evidence of compensatory smoking and without serious adverse events. A list of completed and published clinical studies using cigarettes made with our VLNC tobaccos is shown on our website at https://www.xxiicentury.com/vln-clinical-studies/published-clinical-studies-on-very-low-nicotine-content-vlnc-cigarettes. A list of on-going clinical studies using our SPECTRUM® research cigarettes is shown on our website at https://www.xxiicentury.com/vln-clinical-studies/on-going-clinical-studies-on-very-low-nicotine-content-vlnc-cigarettes. We do not incorporate third party studies or the information on our website into this Annual Report on Form 10-Q.
In hemp, we are developing proprietary hemp varieties with increased levels of certain cannabinoids and other desirable agronomic traits with the goal of generating new and valuable intellectual property and plant lines. Our activities in the United States involve only work with legal hemp in full compliance with U.S. federal and state laws. The hemp and the marijuana plants are both part of the same cannabis genus, except that hemp does not have more than 0.3% dry weight content of delta-9-tetrahydrocannabinol (“THC”). While 2018 Farm Bill legalized hemp and cannabinoids extracted from hemp in the U.S., such extracts remain subject to state laws and regulation by other U.S. federal agencies such as the FDA, U.S. Drug Enforcement Administration (“DEA”), and the U.S. Department of Agriculture (“USDA”). The same plant, with a higher THC content is marijuana, which is legal under certain state laws but not yet legal under U.S. federal law. The similarities between these plants can cause confusion. To reflect this difference in law, sometimes we refer to legal hemp and the legal hemp industry as hemp/cannabis to distinguish this as being separate and apart from marijuana/cannabis which is not legal under U.S. federal law. Our activities with legal hemp have sometimes been incorrectly perceived as us being involved in federally illegal marijuana/cannabis. This is not the case. In the United States, we work only with legal hemp in full compliance with federal and state laws.
Additional information about our business and operations is contained in our Annual Report on Form 10-K for the year ended December 31, 2020.
Executive Overview of First Quarter 2021 Results
Key Business and Financial Highlights
Corporate Business Highlights
22
Tobacco Franchise Highlights and Notable Accomplishments
23
Hemp/Cannabis Franchise Highlights and Notable Accomplishments
We continue to shift our focus away from the already saturated U.S. consumer market of cannabidiol (CBD) and hemp-based products and expect to gain ingredient cultivation capabilities and extraction and purification services through a non-binding agreement with Panacea, which is expected to provide us with operational assets, including a farm and various extraction and distillation equipment.
24
2021 Priorities and Areas of Focus
25
Results of Operations
Year-to-Date March, 31 2021 compared to Year-to-Date March 31, 2020.
Amounts in thousands, except for share and per-share data.
Revenue - Sale of products, net
Year-to-Date
March 31
Dollar Change from Prior Year
(252)
The decrease in sales revenue for the three months ended March 31, 2021, compared to the three months ended March 31, 2020, was primarily the result of decreased sales of contract manufactured cigarettes of $1,059. The decreased sales were primarily driven by volume decreases compared to the prior period. This was partially offset by increased contract manufactured filtered cigar sales of $127, and fulfillment of our SPECTRUM® cigarette order of $680 which did not occur in the prior period.
Cost of goods sold - Products / Gross profit (loss)
Cost of goods sold
Percent of Product Sales
90.5
95.9
(612)
9.5
360
The increase in gross margin for the three months ended March 31, 2021, compared the three months ended March 31, 2020, was primarily due to fulfillment of our SPECTRUM® cigarette order and was partially offset by lower sales volume in contract manufacturing cigarettes and filtered cigars.
Research and development expense
10.1
11.5
(122)
The decrease in R&D expense for the three months ended March 31, 2021, compared the three months ended March 31, 2020, was primarily due to lower personnel expense of $105 due to a more focused R&D headcount to accomplish our strategies. We continue to prioritize our R&D activities to achieve our strategic and investment priorities.
Research and development expense - MRTP
Research and Development - MRTP
0.2
2.1
(137)
MRTP expenses for the three months ended March 31, 2021 declined significantly, as we submitted our MRTP application to the FDA during 2019. MRTP-related expenses for 2021 are primarily related to consulting services related to our application while 2020 are primarily related to our February 14, 2020 Tobacco Products Scientific Advisory Committee (TPSAC) hearing.
Sales, general and administrative expense
71.0
44.5
1,688
The increase in SG&A expense during the three months ended March 31, 2021, as compared to the prior year respective period, was driven by a $675 increase in personnel expenses, a $604 increase in insurance expenses, a $441 increase in investor relations expenses, and a $112 increase in marketing expenses primarily related to VLN® activities. We have deployed incremental SG&A spending to support our corporate management capabilities and to evaluate and prepare for future opportunities. These increases in SG&A were partially offset by lower legal fees of $283 compared to the prior year.
Depreciation expense
2.0
2.2
(18)
The decrease in depreciation expense during the three months ended March 31, 2021, as compared to the prior year respective period, was primarily due to a lower property, plant, and equipment depreciable base primarily due to impairments taken for the Williamsville corporate office during the fourth quarter of 2020.
Amortization expense
2.4
(22)
The decrease in amortization expense during the three months ended March 31, 2021, as compared to the prior year respective period, was primarily due to a lower intangible asset depreciable base primarily due to impairments taken during 2020.
Unrealized gain (loss) on investment
0.5
(6.3)
The warrants to purchase 81,164 shares of Aurora Cannabis, Inc (“Aurora”) common stock are considered an equity security and are recorded at fair value. We recorded the fair value of the stock warrants of $275 at March 31, 2021, using the Black-Scholes pricing model, and recorded an unrealized gain on the warrants in the amount of $36 for the three months ended March 31, 2021, and an unrealized loss of $445 for the three months ended March 31, 2020.
Interest Income, net
1.7
8.7
(500)
Interest income, net (interest income less investment fees) for the three months ended March 31, 2021 is comprised of cash interest income of $67 and non-cash interest accretion of $45 which relates to our preferred stock investment in Panacea, and short-term investment securities purchased at a discount or premium. The decrease in interest income during the three months ended March 31, 2021, as compared to the prior year respective period, was primarily due to lower cash and non-cash interest income on our Panacea convertible note receivable ($173 and $93, respectively) as a result of a non-binding letter of intent to restructure our Panacea investment. See Note 5 to our consolidated financial statements included herein for additional information regarding our Panacea investment. Cash interest income, net on our short-term investment securities decreased $163 primarily due to lower bond interest yields and lower total short-term investment securities as of March 31, 2021, as compared to the prior year respective period.
Interest Expense
(0.1)
(0.2)
Interest expense for the three months ended March 31, 2021 was in line with the expense for the same prior year period.
Net Loss
(73.9)
(57.1)
(1,002)
The increase in net loss for the three months ended March 31, 2021, as compared to the same period during the prior year, was primarily the result of increased SG&A expense of $1,688 during the three months ended March 31, 2021, compared to the respective prior year period. This was partially offset by increased gross margin of $360, which was primarily due to fulfillment of our
28
SPECTRUM® cigarette order, decreased R&D expenses of $123, and decreased MTRP expenses of $138 compared to the respective prior year period.
Other Comprehensive Income (Loss)
(0.5)
(2.7)
161
We maintain an account for short-term investment securities that are classified as available-for-sale securities and consist of money market funds and corporate bonds with maturities greater than three months at the time of acquisition. Unrealized gains and losses on short-term investment securities (the adjustment to fair value) are recorded as other comprehensive income or loss. We recorded an unrealized loss on short-term investment securities in the amount of $32 resulting in other comprehensive loss of $32 for the three months ended March 31, 2021. For the three months ended March 31, 2020, we recorded an unrealized loss on short-term investment securities of $196 and recorded a reclassification of gains to net loss in the amount of $3, resulting in other comprehensive loss of $193.
Liquidity and Capital Resources
Working Capital
As of March 31, 2021, we had working capital of approximately $29,379 compared to working capital of approximately $20,998 at December 31, 2020, an increase of $8,381. This increase in working capital was primarily due to a $8,601 increase in cash, cash equivalents and short-term investment securities resulting from cash exercises of all of our outstanding warrants. The cash exercises eliminated all outstanding warrants and amounted to net cash proceeds of $11,782.
Net cash used in operating activities
The decrease of cash used in operations in the amount of $751 was due to a decrease in cash used for working capital components related to operations in the amount of $2,099 which was partially offset by an increase in the cash portion of the net loss in the amount of $1,348 for the three months ended March 31, 2021 as compared to the three months ended March 31, 2020.
Net cash provided by investing activities
The increase in cash used in investing activities, in the amount of $13,431, was primarily the result of an increase in the net cash used for our short-term investments in the amount of $13,422 and an increase in the cash used for acquisition of machinery and equipment in the amount of $92, as compared to the three months ended March 31, 2020. The increase in cash used in our short-term investments was primarily due to increased funds for investment, from Q1 2021 warrant exercises, while the increased cash used for acquisition of machinery and equipment was primarily due to new office furnishings and improvements at our newly relocated corporate headquarters.
During the three months ended March 31, 2021, cash provided by financing activities was $12,689 resulting from warrant exercises of $11,782 and option exercises of $1,153 which was partially offset by principal payments on our notes payable of $246.
Cash demands on operations
Our principal sources of liquidity are our cash and cash equivalents, short-term investment securities, and cash generated from our contract manufacturing business. As of March 31, 2021, we had approximately $30,943 of cash and cash equivalents and short-term investments which is an increase of $8,601 from December 31, 2020. This increase was primarily due to the cash exercise of our outstanding warrants. Our short-term investment securities along with sustained contract manufacturing sales provide sufficient resources for estimated contractual commitments, described further in Note 11, and normal cash requirements for operations for at least the next twelve months. In addition to the commitments described in Note 11 to our consolidated financial statements, we are currently in the process of securing contracts with select tobacco farmers to assist with the 2021 growing of our VLNC tobacco. These contacts, once finalized and executed, will increase the quantity of our current leaf inventory which will help support expected demand of VLN®, if MTRP authorization is granted by the FDA. The cost of such growing efforts is dependent on the final agricultural yields and leaf quality, but we expect the cost to range between $1.5 million and $1.9 million. We also believe that we have appropriate liquidity to successfully manufacture and distribute our VLN® cigarette within 90 days of MRTP authorization by the FDA, if granted in 2021.
We also have an effective S-3 shelf registration statement on file with the U.S. Securities and Exchange Commission (SEC), which provides us flexibility and optionality to raise capital, however there can be no assurance that capital will be available to us on acceptable terms or at all.
Critical Accounting Policies and Estimates
There have been no material changes to the information set forth in our Annual Report on Form 10-K for the year ended December 31, 2020.
Inflation
Inflation did not have a material effect on our operating results for the three months ended March 31, 2021 and 2020, respectively.
Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements as defined by Item 303(a)(4) of Regulation S-K.
Item 4. Controls and Procedures
(a)
Evaluation of Disclosure Controls and Procedures:
The Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in its Securities Exchange Act of 1934 (“Exchange Act”) reports are recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to the Company’s management, including the Company’s chief executive officer and chief financial officer, as appropriate, to allow timely decisions regarding required disclosure. Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures.
Our chief executive officer and chief financial officer, after evaluating the effectiveness of the Company’s “disclosure controls and procedures” (as defined in the Exchange Act Rules 13a-15(e) or 15d-15(e)) as of the end of the period covered by this quarterly report, have concluded that our disclosure controls and procedures were effective as of the end of the period covered by this
Form 10-Q to ensure information required to be disclosed is recorded, processed, summarized and reported within the time period specified by SEC rules, based on their evaluation of these controls and procedures as required by paragraph (b) of Exchange Act Rules 13a-15 or 15d-15.
(b)
Changes in Internal Control over Financial Reporting:
There were no changes in the Company’s internal controls over financial reporting during the first quarter of 2021 that have materially affected, or are reasonably likely to materially affect, the Company’s internal controls over financial reporting.
31
Part II. OTHER INFORMATION
Item 1. Legal Proceedings
See Note 11 - Commitments and Contingencies – Litigation - to our consolidated financial statements included in this Quarterly Report for information concerning our on-going litigation. In addition to the lawsuits described in Note 11, from time to time we may be involved in claims arising in the ordinary course of business. To our knowledge other than the cases described in Note 11 to our consolidated financial statements, no material legal proceedings, governmental actions, investigations or claims are currently pending against us or involve us that, in the opinion of our management, could reasonably be expected to have a material adverse effect on our business and financial condition.
Item 1A. Risk Factors
There have been no material changes from the risk factors disclosed in Item 1A of Part I of our Annual Report on Form 10-K for the year ended December 31, 2020, as filed with the SEC on March 11, 2021.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
None
Item 3. Default Upon Senior Securities.
Item 4. Mine Safety Disclosures
Item 5. Other Information
Item 6. Exhibits
Exhibit 31.1
Section 302 Certification - Chief Executive Officer
Exhibit 31.2
Section 302 Certification - Chief Financial Officer
Exhibit 32.1
Certification of Principal Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002.
101.INS
XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document.
101.SCH
XBRL Taxonomy Extension Schema Document
101.CAL
XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF
XBRL Taxonomy Extension Definition Linkbase Document
101.LAB
XBRL Taxonomy Extension Label Linkbase Document
101.PRE
XBRL Taxonomy Extension Presentation Linkbase Document
Exhibit 104
Cover Page Interactive Data File - The cover page interactive data file does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized:
Date: May 6, 2021
/s/ James A. Mish
James A. Mish
Chief Executive Officer
(Principal Executive Officer)
/s/ John Franzino
John Franzino
Chief Financial Officer
(Principal Accounting and Financial Officer)