Form S-1DRS
Table of Contents

As confidentially submitted to the Securities and Exchange Commission on February 14, 2014. This draft registration statement has not been publicly filed with the Securities and Exchange Commission and all information herein remains strictly confidential.

Registration No. 333-             

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

FORM S-1

REGISTRATION STATEMENT

UNDER

THE SECURITIES ACT OF 1933

 

 

HISTOGENICS CORPORATION

(Exact Name of Registrant as Specified in its Charter)

 

 

 

Delaware   3842   04-3522315

(State or Other Jurisdiction

of Incorporation or Organization)

 

(Primary Standard Industrial

Classification Code Number)

 

(I.R.S. Employer

Identification Number)

830 Winter Street, 3rd Floor

Waltham, Massachusetts 02451

(781) 547-7900

(Address, including zip code, and telephone number, including area code, of registrant’s principal executive offices)

 

 

Kevin McArdle

Chief Financial Officer

Histogenics Corporation

830 Winter Street, 3rd Floor

Waltham, Massachusetts 02451

(781) 547-7900

(Name, address, including zip code, and telephone number, including area code, of agent for service)

 

 

Copies to:

Marc F. Dupré

Richard C. Blake

Keith J. Scherer

Gunderson Dettmer Stough

Villeneuve Franklin & Hachigian, LLP

850 Winter Street

Waltham, Massachusetts 02451

Telephone: (781) 890-8800

Telecopy: (781) 622-1622

 

Michael A. Hedge

Mark L. Johnson

Damien A. Grierson

K&L Gates LLP

State Street Financial Center

One Lincoln Street

Boston, Massachusetts 02111

Telephone: (617) 261-3100

Telecopy: (617) 261-3175

 

 

Approximate date of commencement of proposed sale to the public: As soon as practicable after the effective date of this Registration Statement.

If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, check the following box.  ¨

If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

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

 

Large accelerated filer   ¨    Accelerated filer   ¨
Non-accelerated filer   ¨  (Do not check if a smaller reporting company)    Smaller reporting company   x

CALCULATION OF REGISTRATION FEE

 

 

Title of Each Class of

Securities to be Registered

 

Proposed Maximum

Aggregate Offering

Price(1)

 

Amount of

Registration Fee(2)

Common Stock, $0.001 par value

       

 

 

(1) 

Estimated pursuant to Rule 457(o) under the Securities Act of 1933, as amended. Includes the offering price attributable to additional shares that the underwriters have the option to purchase to cover over-allotments, if any.

(2) 

Calculated pursuant to Rule 457(o) based on an estimate of the proposed maximum aggregate offering price.

 

 

The Registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until the Registration Statement shall become effective on such date as the Commission, acting pursuant to such Section 8(a), may determine.

 

 

 


Table of Contents

The information in this prospectus is not complete and may be changed. We may not sell these securities until the Securities and Exchange Commission declares our registration statement effective. This prospectus is not an offer to sell these securities and is not soliciting an offer to buy these securities in any state where the offer or sale is not permitted.

 

Subject to completion, dated February 14, 2014

 

                 Shares

 

LOGO

Common Stock

 

$         per share

 

 

 

 

• Histogenics Corporation is offering shares.

 

• We anticipate that the initial public offering price will be between $        .         and $        .         per share.

 

• This is our initial public offering and no public market currently exists for our shares.

 

• Proposed trading symbol: NASDAQ Global Market—HSGX

 

 

 

 

This investment involves risk. See ‘‘Risk Factors” beginning on page 8.

We are an “emerging growth company” as defined by the Jumpstart Our Business Startups Act of 2012 and, as such, we have elected to comply with certain reduced public company reporting requirements for this prospectus and future filings.

 

 

 

 

     Per Share    Total  

Public offering price

   $                $                

Underwriting discount(1)

   $                $                

Proceeds, before expenses, to Histogenics Corporation

   $                $                

 

 

 

(1) See “Underwriting” for additional information regarding underwriter compensation.

The underwriters have a 30-day option to purchase up to                 additional shares of common stock from us to cover over-allotments, if any.

Neither the Securities and Exchange Commission nor any state securities commission has approved of anyone’s investment in these securities or determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.

 

Cowen and Company

 

 

Roth Capital Partners

 

The date of this prospectus is                 , 2014.


Table of Contents

TABLE OF CONTENTS

 

     Page  

Prospectus Summary

     1   

Risk Factors

     8   

Special Note Regarding Forward-Looking Statements

     45   

Use of Proceeds

     47   

Dividend Policy

     47   

Capitalization

     48   

Dilution

     50   

Selected Consolidated Financial Information

     52   

Unaudited Pro Forma Consolidated Statement of Operations

     54   

Management’s Discussion and Analysis of Financial Condition and Results of Operations

     55   

Business

     76   

Management

     104   

Director Compensation

     112   

Executive Compensation

     113   

Certain Relationships and Related Party Transactions

     124   

Principal Stockholders

     129   

Description of Capital Stock

     132   

Shares Eligible for Future Sale

     137   

Material U.S. Federal Income Tax Considerations

     139   

Underwriting

     144   

Legal Matters

     150   

Experts

     150   

Where You Can Find Additional Information

     150   

Index to Consolidated Financial Statements

     F-1   

ProChon Biotech Ltd. Financial Statements

     F-57   

 

 

You should rely only on the information contained in this prospectus and any free writing prospectus we may authorize to be delivered to you. We have not, and the underwriters have not, authorized anyone to provide you with information different from, or in addition to, that contained in this prospectus and any related free writing prospectus. We and the underwriters take no responsibility for, and can provide no assurances as to the reliability of, any information that others may give you. This prospectus is not an offer to sell, nor is it seeking an offer to buy, these securities in any jurisdiction where the offer or sale is not permitted. The information contained in this prospectus is only accurate as of the date of this prospectus, regardless of the time of delivery of this prospectus and any sale of shares of our common stock.

 

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Until and including             , 2014 (25 days after the date of this prospectus), all dealers that buy, sell or trade our common stock, whether or not participating in this offering, may be required to deliver a prospectus. This delivery requirement is in addition to the obligation of dealers to deliver a prospectus when acting as underwriters and with respect to their unsold allotments or subscriptions.

For investors outside of the United States: Neither we nor the underwriters have done anything that would permit this offering or possession or distribution of this prospectus in any jurisdiction where action for that purpose is required, other than the United States. Persons outside of the United States who come into possession of this prospectus must inform themselves about, and observe any restrictions relating to, the offering of the shares of common stock and the distribution of this prospectus outside of the United States.

HISTOGENICS (and design), our logo design and NEOCART are our registered trademarks, and BIOCART is our trademark. This prospectus also contains trademarks, registered marks and trade names of other companies. Any other trademarks, registered marks and trade names appearing in this prospectus are the property of their respective holders.

 

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PROSPECTUS SUMMARY

The following summary highlights selected information contained elsewhere in this prospectus. Because this is only a summary, it does not contain all of the information you should consider before investing in our common stock. You should carefully read the entire prospectus, especially the risks set forth under the heading “Risk Factors” and our consolidated financial statements and related notes included elsewhere in this prospectus, before making an investment decision. References in this prospectus to “Histogenics,” “our company,” “we,” “us” and “our” and other similar references refer to Histogenics Corporation and our consolidated subsidiaries during the periods presented unless the context requires otherwise.

Overview

We are a regenerative medicine company focused on developing and commercializing products in the musculoskeletal segment of the marketplace. Our regenerative medicine platform combines expertise in cell processing, scaffolding, tissue engineering, bioadhesives and growth factors to provide solutions that can be utilized individually or in concert to treat musculoskeletal-related conditions. Our first product candidate, NeoCart, leverages our platform to provide an innovative treatment in the orthopaedic space, specifically cartilage damage in the knee. NeoCart is currently enrolling a Phase 3 clinical trial in the United States under a Special Protocol Assessment with the U.S. Food and Drug Administration. If the study is successful and NeoCart is approved for sale in the United States, we believe it would be the first product approved for the first-line treatment of severe cartilage damage to demonstrate clinical superiority over the current standard of care, microfracture.

Musculoskeletal-related conditions, including cartilage damage, are one of the most prevalent health problem in the United States. Based on recent publications, we estimate that 1,000,000 knee arthroscopies are performed each year in the United States and we believe cartilage damage is likely to be identified in over 60% of those knee arthroscopies. Cartilage damage is a leading cause of osteoarthritis, the condition most responsible for the estimated 750,000 knee replacements performed in the United States annually. We believe the current alternatives available to treat cartilage damage in the knee, including microfracture, inadequately address this condition. We believe NeoCart would represent a superior solution to treat cartilage damage in the knee because it has the potential to solve for the limitations of the current treatment alternatives and has the potential to provide improved efficacy, long-term patient benefits, accelerated patient recovery and predictable patient outcomes through a technically straightforward surgical procedure. NeoCart demonstrated a statistically significant improvement in clinical efficacy based on pain and function measures as compared to microfracture in our Phase 2 clinical trial.

We believe NeoCart has generated positive Phase 1 and Phase 2 clinical data as a result of our robust regenerative medicine platform and the elements comprising our platform. Our proprietary three-dimensional honeycomb scaffold used in the production of NeoCart enables the seeding of cell cultures throughout the scaffold similar to the cell orientation in normal cartilage as compared to other scaffolds that accommodate cells only on their surface. The collagen base of the scaffold is conducive to cell function and integration of NeoCart with native tissue. Our proprietary tissue engineering processor, used to stimulate cartilage-like functioning of NeoCart prior to implantation, is a key factor in the preliminary evidence for NeoCart’s short-term efficacy and potential for long-term durability compared to other alternatives. Our bioadhesive anchors the NeoCart implant in the defect bed and seals the implant to the surrounding native cartilage interface, eliminating the need for complicated suturing that is required in some treatment alternatives. The well-affixed implant has the potential to facilitate earlier weight-bearing and accelerated recovery, which we believe would be distinctly more advantageous than other existing therapies. We believe the combination of these and other components of our regenerative medicine platform provide us with distinct proprietary advantages versus other treatment alternatives that ultimately will lead to clinical superiority of NeoCart on measures of pain and function when compared to microfracture in our Phase 3 clinical trial.

 

 

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We expect to complete enrollment of our NeoCart Phase 3 clinical trial by the first half of 2016, and we plan to commercialize the product following approval in the United States. In anticipation of potential approval, we have begun to scale our internal current Good Manufacturing Practices manufacturing capabilities and anticipate manufacturing all of our products in-house at our facilities located in the greater Boston area.

Our regenerative medicine platform gives us the ability to develop a strong pipeline. We believe the positive clinical data we have seen in treating cartilage damage of the knee with NeoCart will be applicable to other joints such as the ankle, shoulder and hip. We also believe our regenerative medicine platform possesses the fundamental science to allow us to develop additional product candidates to treat other soft tissue damage throughout the body such as tendon, ligament and meniscus tears and complex joint degeneration. Our portfolio of proprietary fibroblast growth factor variants may be explored for their use in optimizing manufacturing yields and we believe they could have various therapeutic applications including wound healing and fracture healing. We plan to continue investing in our intellectual property portfolio in order to expand and protect our regenerative medicine platform and future product candidates.

The goal of our Phase 3 clinical trial is to demonstrate significant advantages of NeoCart over microfracture, which we believe will allow us to secure approval to sell NeoCart in the United States and will enable us to become a market leader in cartilage repair. We believe our regenerative medicine platform will facilitate our successful expansion beyond cartilage repair to address additional areas of the musculoskeletal segment of the regenerative medicine marketplace.

Risks Related to Our Business

Our business is subject to a number of risks, including risks that may prevent us from achieving our business objectives or may adversely affect our business, financial condition, results of operations, cash flows and prospects that you should consider before making a decision to invest in our common stock. These risks are discussed more fully in “Risk Factors” beginning on page 8. These risks include, but are not limited to, the following:

 

   

We have a short operating history developing clinical-stage regenerative medicine products and there is a limited amount of information about us upon which you can evaluate our product candidates and business prospects, making an investment in our common stock unsuitable for many investors.

 

   

We have incurred significant losses since our inception and anticipate that we will continue to incur substantial losses for the next several years.

 

   

We may require substantial additional funding, which may not be available to us on acceptable terms, or at all, and, if not available, may require us to delay, scale back or cease our product development activities and operations.

 

   

Failure to obtain, or any delay in obtaining, U.S. Food and Drug Administration approval regarding the comparability of critical NeoCart raw materials following our technology transfer and manufacturing location transition may have an adverse effect on our business, operating results and prospects.

 

   

If we encounter difficulties enrolling patients in our clinical trials, our clinical development activities could be delayed or otherwise adversely affected.

 

   

We are heavily dependent on the success of our lead product candidate NeoCart, which is still under development. If we are unable to commercialize NeoCart, or experience significant delays due to manufacturing or otherwise in doing so, our business will be materially harmed.

 

   

We may experience delays in commencing or conducting our clinical trials or in receiving data from third parties or in the completion of clinical testing, which could result in increased costs to us and delay our ability to generate product candidate revenue.

 

 

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If we fail to complete clinical trials and obtain regulatory approval for NeoCart, our business would be significantly harmed.

 

   

Our clinical development of NeoCart could be substantially delayed if the U.S. Food and Drug Administration requires us to conduct additional studies or trials or imposes other requirements or restrictions.

Our Corporate Information

We were originally incorporated as a Massachusetts corporation in 2000. In 2006, we underwent a corporate reorganization pursuant to which we were incorporated as a Delaware corporation. Our principal offices are located at 830 Winter Street, 3rd Floor, Waltham, Massachusetts 02451, and our telephone number is (781) 547-7900. Our website address is www.histogenics.com. Our website and the information contained on, or that can be accessed through, our website shall not be deemed to be incorporated by reference in, and are not considered part of, this prospectus. You should not rely on any such information in making your decision whether to purchase our common stock.

Implications of Being an Emerging Growth Company

As a company with less than $1.0 billion in revenue during our last fiscal year, we qualify as an “emerging growth company” as defined in the Jumpstart Our Business Startups Act. An emerging growth company may take advantage of specified reduced reporting and other reduced burdens that are otherwise applicable generally to public companies. These provisions include:

 

   

we may present only two years of audited financial statements and only two years of related Management’s Discussion and Analysis of Financial Condition and Results of Operations;

 

   

we are currently exempt from the requirement to obtain an attestation and report from our auditors on our internal control over financial reporting pursuant to the Sarbanes-Oxley Act;

 

   

we are permitted to provide less extensive disclosure about our executive compensation arrangements; and

 

   

we are not required to give our stockholders non-binding advisory votes on executive compensation or golden parachute arrangements.

We may take advantage of these provisions until December 31, 2019 (the last day of our fiscal year following the fifth anniversary of the date of the first sale of our common equity securities pursuant to this offering) or until such earlier time that we are no longer an emerging growth company. We would cease to be an emerging growth company if we have more than $1.0 billion in annual revenue, have more than $700 million in market value of our capital stock held by non-affiliates, or issue more than $1.0 billion of non-convertible debt over a three-year period. We have chosen to take advantage of some of these reduced burdens and, as such, the information that we provide stockholders may be different than you may receive from other public companies in which you hold equity interests.

 

 

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THE OFFERING

 

Shares of common stock offered by us

                 shares

 

Shares of common stock outstanding after this offering

                 shares

 

Over-allotment option

                 shares

 

Use of proceeds

We estimate that we will receive net proceeds from this offering of $         million, assuming an initial public offering price of $         per share, the midpoint of the initial public offering price range reflected on the cover page of this prospectus, and after deducting the estimated underwriting discount and offering expenses payable by us. If the underwriters’ option to purchase additional shares in this offering is exercised in full, we estimate that our net proceeds will be $         million.

 

  We intend to use the net proceeds of this offering primarily to develop and advance NeoCart through clinical trials, as well as for working capital and general corporate purposes. See “Use of Proceeds.”

 

Proposed NASDAQ Global Market symbol

HSGX

The number of shares of our common stock to be outstanding following this offering is based on 45,344,052 shares outstanding as of December 31, 2013, and excludes:

 

   

                 shares issuable upon the exercise of warrants outstanding as of December 31, 2013, at an exercise price of $0.001 per share;

 

   

5,287,144 shares issuable upon the exercise of options outstanding under our 2012 Equity Incentive Plan as of December 31, 2013, at a weighted average exercise price of $0.22 per share; and

 

   

428,671 shares reserved for future issuance under our stock-based compensation plans, including                  shares reserved for issuance under our 2013 Equity Incentive Plan and                  shares reserved for issuance under our 2013 Employee Stock Purchase Plan.

Unless otherwise indicated, this prospectus includes and assumes the following, each to occur upon completion of this offering:

 

   

the net (or cashless) exercise of warrants outstanding as of December 31, 2013, to acquire an estimated                  shares of common stock, assuming an initial public offering price of $        , which is the midpoint of the initial public offering price range reflected on the cover of this prospectus;

 

   

the exercise of warrants outstanding as of December 31, 2013, to acquire                  shares of common stock at an exercise price of $0.001 per share;

 

   

the issuance of an estimated                  shares of common stock in payment of accrued dividends on outstanding shares of convertible preferred stock, assuming an initial public offering price of $            , which is the midpoint of the initial public offering price range reflected on the cover of this prospectus;

 

 

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the automatic conversion of all outstanding shares of our convertible preferred stock into common stock;

 

   

the amendment and restatement of our certificate of incorporation and bylaws; and

 

   

no exercise by the underwriters of their over-allotment option.

The information we present in this prospectus does not reflect a reverse split of our common stock that we may effect prior to the effectiveness of the registration statement of which this prospectus forms a part.

 

 

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SUMMARY CONSOLIDATED FINANCIAL INFORMATION

The following tables summarize our consolidated financial data for the periods indicated. The consolidated statement of operations data for the years ended December 31, 2011 and 2012 has been derived from our audited consolidated financial statements included elsewhere in this prospectus. The consolidated statement of operations data for the nine months ended September 30, 2012 and 2013 and the consolidated balance sheet data as of September 30, 2013 have been derived from our unaudited consolidated financial statements included elsewhere in this prospectus. The unaudited consolidated financial statements include all adjustments, consisting of normal recurring accruals, which we consider necessary for a fair presentation of the financial position and the results of operations for these periods. Our historical results are not necessarily indicative of the results to be expected for any future period and the results in the nine months ended September 30, 2013 are not necessarily indicative of results to be expected for the full year or any other period. You should read this summary consolidated financial data in conjunction with the sections titled “Selected Consolidated Financial Information” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and related notes, included elsewhere in this prospectus.

 

     Year Ended
December 31,
    Nine Months Ended
September 30,
 
     2011     2012     2012     2013  
     (in thousands, except per share amounts)  

Consolidated Statement of Operations Data:

        

Revenue

   $ 123      $ 26      $ 12      $ 8   
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses:

        

Research and development

     6,435        11,941        9,461        8,406   

Selling, general and administrative

     3,455        3,053        2,522        2,930   

Impairment of goodwill and intangible assets

     2,170        —          —          —     
  

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expense

     12,060        14,994        11,983        11,336   
  

 

 

   

 

 

   

 

 

   

 

 

 

Loss from operations

     (11,937     (14,968     (11,971     (11,328

Interest expense, net

     (902     (798     (792     —     

Other expense, net

     (30     (13     (16     (29

Gain on extinguishment of debt

     —          687        687        —     

Change in fair value of note payable to stockholder

     (20     (17     (17     —     

Change in fair value of warrant liability and other liability

     (21     (1,826     —          (196
  

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

   $ (12,910   $ (16,935   $ (12,109   $ (11,553
  

 

 

   

 

 

   

 

 

   

 

 

 

Earnings (loss) per common share(1):

        

Basic

   $ (1,137.61   $ 1.00      $ 1.62      $ (2.13
  

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

   $ (1,137.61   $ 0.26      $ 0.23      $ (2.13
  

 

 

   

 

 

   

 

 

   

 

 

 

Weighted-average shares used to compute earnings (loss) per common share(1)(2):

        

Basic

     21,815        2,818,293        1,666,041        6,257,697   
  

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

     21,815        12,898,629        14,301,439        6,257,697   
  

 

 

   

 

 

   

 

 

   

 

 

 

Pro forma earnings (loss) per common share(1):

        

Basic

        
  

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

        
  

 

 

   

 

 

   

 

 

   

 

 

 

Pro forma weighted-average common shares outstanding(1):

        

Basic

        
  

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

        
  

 

 

   

 

 

   

 

 

   

 

 

 

 

(1) 

Please see Note 3 to our consolidated financial statements included elsewhere in this prospectus for an explanation of the method used to calculate earning (loss) per common share attributable to common stockholders, including the method used to calculate the number of shares used in the computation of the per share amount.

 

 

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     As of September 30, 2013
     Actual     Pro Forma    Pro Forma
As Adjusted
     (in thousands)

Consolidated Balance Sheet Data:

       

Cash and cash equivalents

   $ 4,071        

Working capital(1)

     1,443        

Total assets

     7,853        

Other long-term liabilities

     6,589        

Convertible redeemable preferred stock

     31,396        

Total stockholders’ equity (deficit)

     (32,942     

 

(1) 

Working capital is calculated as current assets minus current liabilities.

The pro forma column in the consolidated balance sheet data table above reflects the following, which will occur upon completion of this offering: (1) the automatic conversion of all outstanding shares of our convertible preferred stock into common stock; (2) the net (or cashless) exercise of warrants to acquire an estimated                  shares of common stock, assuming an initial offering price of $         which is the midpoint of the initial public offering price range reflected on the cover page of this prospectus; (3) the exercise of warrants to acquire a total of                  shares of common stock for an aggregate exercise price of $         ; and (4) the issuance of an estimated                  shares of common stock in payment of accrued dividends on outstanding shares of convertible preferred stock. The pro forma as adjusted data further adjusts the pro forma balance sheet data to reflect our sale of                  shares of common stock in this offering at an assumed initial public offering price of $         per share, the midpoint of the initial public offering price range reflected on the cover page of this prospectus, and after deducting the estimated underwriting discount and offering expenses payable by us.

 

 

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RISK FACTORS

Investing in our common stock involves a high degree of risk. You should consider carefully the risks and uncertainties described below, together with all of the other information in this prospectus, including our consolidated financial statements and related notes, before deciding whether to purchase shares of our common stock. If any of the following risks are realized, our business, financial condition, results of operations, and prospects could be adversely affected. In that event, the price of our common stock could decline and you could lose part or all of your investment in our common stock.

Risks Related to Our Business and Commercialization of Our Product Candidates

We have a short operating history developing clinical-stage regenerative medicine products and there is a limited amount of information about us upon which you can evaluate our product candidates and business prospects, making an investment in our common stock unsuitable for many investors.

We are a clinical-stage regenerative medicine company, formed in 2000, with a limited operating history. Since inception we have devoted substantially all of our resources to the development of our regenerative medicine platform, the clinical and preclinical advancement of our product candidates, the creation, licensing and protection of related intellectual property rights and the provision of general and administrative support for these operations. We have not yet obtained regulatory approval for any product candidates in any jurisdiction or generated any significant revenues from product sales. If NeoCart or any of our future product candidates fails in clinical trials or preclinical development, or does not gain regulatory approval, or if our product candidates following regulatory approval, if any, do not achieve market acceptance, we may never become profitable or sustain profitability.

We commenced our first clinical trial in 2005, and we have a limited operating history developing clinical-stage regenerative medicine products upon which you can evaluate our business and prospects. In addition, we have never conducted clinical trials of a size required for regulatory approvals. Further, we have not yet demonstrated an ability to successfully overcome many of the risks and uncertainties frequently encountered by companies in new and rapidly evolving fields, such as regenerative medicine. For example, to execute our current business plan we will need to successfully:

 

   

execute our research and development strategies, including successfully completing our clinical trial program for NeoCart;

 

   

complete the transition of the NeoCart raw material manufacturing process to our in-house facilities and satisfy the U.S. Food and Drug Administration (FDA) as to the comparability of such raw materials to those manufactured by third parties for use in our NeoCart clinical trials;

 

   

obtain required regulatory approvals for the commercialization of NeoCart;

 

   

manage our spending as costs and expenses increase due to clinical trials, regulatory approvals, manufacturing and commercialization;

 

   

continue to build and maintain a strong intellectual property portfolio;

 

   

build and maintain appropriate research and development, clinical, sales, manufacturing, financial reporting, distribution and marketing capabilities on our own or through third parties;

 

   

secure additional funding as may be needed;

 

   

gain broad market acceptance for our product candidates; and

 

   

develop and maintain successful strategic relationships.

If we are unsuccessful in accomplishing any of these objectives, we may not be able to develop product candidates, raise capital, expand our business or continue our operations.

 

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We have incurred significant losses since our inception and anticipate that we will continue to incur substantial losses for the next several years.

We have incurred net losses in each year since our inception, including net losses of $12.9 million in 2011 and $16.9 million in 2012, as well as a net loss of $11.6 million in the nine months ended September 30, 2013. As of September 30, 2013, we had an accumulated deficit of $96.6 million. We expect to continue to incur substantial losses for the next several years, and we expect these losses to increase as we continue our development of and seek regulatory approval for, NeoCart and our future product candidates. In addition, if we receive regulatory approval to market NeoCart or any of our future product candidates, we will incur additional losses as we scale our manufacturing operations and build an internal sales and marketing organization to commercialize any approved products. In addition, we expect our expenditures to increase as we add infrastructure and personnel to support our operations as a public company. We anticipate that our net losses and accumulated deficit for the next several years will be significant as we conduct our planned operations.

Because of the numerous risks and uncertainties associated with regenerative medicine product development, we are unable to accurately predict the timing or amount of the development and clinical expenses or when, or if we will be able to achieve, or maintain, profitability. In addition, our expenses could increase if we are required by the FDA or comparable foreign regulatory authorities to perform preclinical or clinical studies or trials in addition to those currently expected, or if there are any delays in completing the technology transfer and manufacturing location transition of our NeoCart raw material manufacturing process or completing our clinical trials or the development of NeoCart or our future product candidates. The amount of our future net losses will depend, in part, on the amount and timing of our expenses, our ability to generate revenue and our ability to raise additional capital. These net losses have had, and will continue to have, an adverse effect on our stockholders’ equity and working capital.

We may require substantial additional funding, which may not be available to us on acceptable terms, or at all, and, if not available, may require us to delay, reduce or cease our product development activities and operations.

We are currently advancing our lead product candidate NeoCart through clinical development. Developing regenerative medicine products, including conducting preclinical studies and clinical trials, is expensive. In addition to the net proceeds of this offering, we may require substantial additional capital in order to complete the clinical development of, create additional manufacturing capacity and to commercialize NeoCart and to conduct the research and development and clinical and regulatory activities necessary to bring other product candidates to market. If the FDA or comparable foreign regulatory authorities require that we perform additional preclinical studies or clinical trials at any point or expand or extend our current trials, our expenses would further increase beyond what we currently expect, and the anticipated timing of any future clinical development activities and potential regulatory approvals will likely be delayed. Raising funds in the then-current economic environment may be difficult and additional funding may not be available on acceptable terms, or at all.

The amount and timing of our future near-term funding requirements will depend on many factors, including:

 

   

the scope, progress, expansion, costs and results of our NeoCart clinical trials;

 

   

the timing of and costs associated with obtaining FDA approval of the comparability of the NeoCart raw materials manufactured in our facilities with the raw materials that were manufactured by third parties for the use in our NeoCart clinical trials;

 

   

the timing of and costs involved in obtaining NeoCart regulatory approvals;

 

   

market acceptance of NeoCart following the receipt of regulatory approval, if any;

 

   

the costs of maintaining, expanding and protecting our intellectual property portfolio, including potential litigation costs and liabilities associated therewith;

 

   

the resources we devote to marketing and, if approved, commercializing NeoCart;

 

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the scope, progress, expansion and costs of manufacturing NeoCart;

 

   

our need to implement additional internal systems and infrastructure, including financial and reporting systems, as we become a public company;

 

   

the amount of funds we receive in this offering; and

 

   

the costs associated with being a public company.

Many of these factors are outside of our control. Upon the completion of this offering, based upon our currently expected level of operating expenditures, we believe that we will be able to fund our operations and sustain currently projected cash needs through at least the end of 2017. Our expectations are based on management’s current assumptions and clinical development plans, which may prove to be wrong, and we could spend our available financial resources much faster than we currently expect. This period could be shortened if there are any unanticipated increases in spending on development programs. In addition, the expected net proceeds from this offering will not be sufficient to complete the advanced clinical development of all of our product candidates that would be necessary to support an application for regulatory approval. Accordingly, we will continue to require substantial additional capital beyond the expected proceeds of this offering. In order to fund our future needs, we may seek additional funding through equity or debt financings, development partnering arrangements, lines of credit or other sources.

If we are required to secure additional financing, the fundraising efforts may divert our management from our day-to-day activities, which may adversely affect our ability to develop and commercialize our product candidates. In addition, we cannot guarantee that future financing will be available in sufficient amounts or on terms acceptable to us, if at all. If we are unable to raise additional capital when required or on acceptable terms, we may be required to significantly delay, reduce or discontinue the development or commercialization of one or more of our product candidates or curtail our operations, which will have an adverse effect on our business, operating results and prospects.

Failure to obtain, or any delay in obtaining, FDA approval regarding the comparability of critical NeoCart raw materials following our technology transfer and manufacturing location transition may have an adverse effect on our business, operating results and prospects.

We are in the process of planning a technology transfer to transition the manufacturing of certain raw materials and components in the NeoCart supply chain from outsourced contract manufacturers to in-house manufacturing facilities. We currently have enough of these raw materials and components in order to complete our Phase 3 clinical trial, but the technology transfer will need to be completed in order to commercialize NeoCart upon FDA approval, if any. This technology transfer extends to the three components of the CT3 bioadhesive—methylated collagen, curing component and activated polyethylene glycol—as well as our collagen preparation and collagen honeycomb scaffold, which are used in the production of NeoCart. Although we do not anticipate changes to the raw materials, formulations or properties, nor do we anticipate changes to the NeoCart manufacturing process or finished product specifications as a result of the transfer, we are required to demonstrate to the FDA that the raw materials manufactured in the new facility are comparable to the raw materials that were manufactured in the previous contract manufacturers’ facilities. Demonstrating comparability requires evidence that the product is consistent with that produced for the clinical trial to assure that the technology transfer does not affect safety, identity, purity or efficacy during the expansion from pilot scale to full scale production.

In order to obtain FDA approval of the comparability of the raw materials, we intend to submit an amendment to our existing Investigational New Drug (IND) application file for FDA pre-approval. Prior to submission of the amendment to the IND application, we plan to meet with the FDA to obtain input and agreement with respect to our technology transfer and comparability plans. We currently expect to provide the FDA with a briefing package that will include our technology transfer plan, comparability data that we will have generated from materials produced from pilot scale test production runs and a proposed analytical comparability protocol for materials produced from full scale production runs. This demonstration is based on various methods, as recommended in FDA and the International Conference on Harmonization regulatory guidelines, as well as other FDA recognized testing standards.

 

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The FDA may determine that such analytical data is not sufficient to prove comparability of the raw materials produced at our in-house manufacturing sites to the raw materials sourced from external vendors for earlier clinical trial work, including the Phase 3 clinical trial. If this is the case, the FDA may require that we provide additional preclinical or clinical data to provide evidence to support the comparability of the raw materials. The size, scope, length and costs of any new or supplemental clinical trials that may be required by the FDA to provide such data are not known at this time. Failure or delay in obtaining FDA approval of the comparability of our NeoCart raw materials or the FDA requiring us to provide clinical data may result in delays to our current projected timelines and could have an adverse effect on our business, operating results and prospects.

Additionally, our manufacturing sites may not receive FDA approval to operate at all, resulting in delays while we implement improvements necessary to receive approval which would lead to delays in the initiation of commercial production. In addition, we could encounter difficulties involving production yields, quality control and quality assurance, as well as shortages of qualified personnel, leading to additional delays.

If we encounter difficulties enrolling patients in our clinical trials, our clinical development activities could be delayed or otherwise adversely affected.

We will be required to identify and enroll a sufficient number of patients that meet inclusion criteria under investigation for NeoCart. At the time of our voluntary pause of our NeoCart Phase 3 clinical trial upon discovery of discrepancies in the testing procedures used to assess one of the raw materials utilized in the manufacture of NeoCart implants, we had enrolled 30 patients and we will need to enroll the remaining 215 patients in a timely manner in order to complete the trial on schedule. There is a limited patient population from which to draw participants in clinical trials. Due to the need to find patients with few or no concomitant joint disease, we may not be able to identify and enroll a sufficient number of patients, or those with required or desired characteristics and criteria, in a timely manner. In addition, there are a limited number of specialized orthopedic surgeons that perform cartilage repair implantation procedures and among physicians who perform such procedures, some may not choose to perform these procedures under conditions that fall within our protocols, which would have an adverse effect on our development of NeoCart. Our ability to enroll patients in our clinical trials is affected by a number of factors including:

 

   

the size and nature of the patient population;

 

   

the design of the trial protocol;

 

   

the eligibility and exclusion criteria for the trial in question;

 

   

the availability of competing therapies and clinical trials, and physician and patient perception of NeoCart and our other product candidates being studied in relation to these other potential options;

 

   

the efforts to facilitate timely enrollment in clinical trials;

 

   

the ability to identify, solicit and recruit a sufficient number of patients;

 

   

the ability to obtain and maintain patient consent;

 

   

the number and location of clinical sites we enroll;

 

   

the proximity and availability of clinical trial sites for prospective patients;

 

   

the availability of time and resources at the institutions where clinical trials are and will be conducted;

 

   

the presence of concomitant joint disease in patients under investigation;

 

   

the study endpoints such as pain that rely on subjective patient reported outcomes;

 

   

the ability to monitor patients adequately during and after treatment; and

 

   

the risk that enrolled subjects will drop out before study completion.

 

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If we have difficulty enrolling a sufficient number of patients to conduct our clinical trials as planned, we may need to delay or terminate ongoing or planned clinical trials, either of which would have an adverse effect on our business.

A number of companies in the regenerative medicine industry have suffered significant setbacks in later stage clinical trials even after achieving promising results in earlier stages of development. Success in preclinical testing and early clinical trials does not ensure that later clinical trials will be successful, and initial results from a clinical trial do not necessarily predict final results. Even if early stage clinical trials are successful, we may need to conduct additional clinical trials for product candidates in additional patient populations or under different treatment conditions before we are able to seek approvals from the FDA and regulatory authorities outside the United States to market and sell these product candidates. Our failure to demonstrate the required characteristics to support marketing approval for NeoCart and our product candidates in our planned and future clinical trials would substantially harm our business and prospects.

We are heavily dependent on the success of our lead product candidate NeoCart, which is still under development. If we are unable to commercialize NeoCart, or experience significant delays due to manufacturing or otherwise in doing so, our business will be materially harmed.

We have invested a significant portion of our time and financial resources in the development of NeoCart, our product candidate in clinical development. We anticipate that in the near term our ability to generate revenues will depend solely on the successful development and commercialization of NeoCart. We may not complete our registration filings in our anticipated time frame. Even after we complete our Biologics License Application filing, the FDA may not accept our submission, may request additional information from us, including data from additional clinical trials, and, ultimately, may not grant marketing approval for NeoCart. In addition, the clinical data we have to date often is susceptible to varying interpretations and many companies that have believed that their products performed satisfactorily in clinical trials have nonetheless failed to obtain FDA approval for their products.

If we are not successful in commercializing NeoCart, or are significantly delayed in doing so, our business will be materially harmed and we may need to curtail or cease operations. Our ability to successfully commercialize NeoCart will depend, among other things, on our ability to:

 

   

successfully complete our clinical trials;

 

   

produce, through a validated process, NeoCart in quantities sufficiently large to permit successful commercialization;

 

   

receive marketing approvals from the FDA and similar foreign regulatory authorities;

 

   

launch commercial sales of NeoCart; and

 

   

secure acceptance of NeoCart in the medical community and with third-party payors.

NeoCart and our future product candidates are subject to extensive regulation, compliance with which is costly and time consuming, may cause unanticipated delays or prevent the receipt of the approvals required to commercialize NeoCart and our future product candidates.

The clinical development, manufacturing, labeling, storage, record-keeping, advertising, promotion, import, export, marketing and distribution of NeoCart and our future product candidates are subject to extensive regulation by the FDA in the United States and by comparable authorities in foreign markets. In the United States, we are not permitted to market our product candidates until we receive regulatory approval from the FDA. The process of obtaining regulatory approval is expensive, often takes many years, and can vary substantially based upon the type, complexity, and novelty of the products involved, as well as the target indications. Approval policies or regulations may change and the FDA has substantial discretion in the tissue regeneration approval process, including the ability to delay, limit or deny approval of a product candidate for many reasons. Despite the time and expense invested in clinical development of product candidates, regulatory approval is never guaranteed.

 

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The FDA or comparable foreign regulatory authorities can delay, limit or deny approval of a product candidate for many reasons, including:

 

   

such authorities may disagree with the design or implementation of our or any of our future development partners’ clinical trials;

 

   

we or any of our future development partners may be unable to demonstrate to the satisfaction of the FDA or other regulatory authorities that a product candidate is safe and effective for any indication;

 

   

such authorities may not accept clinical data from trials which are conducted at clinical facilities or in countries where the standard of care is potentially different from the United States;

 

   

the results of clinical trials may not demonstrate the safety or efficacy required by such authorities for approval;

 

   

we or any of our future development partners may be unable to demonstrate that a product candidate’s clinical and other benefits outweigh its safety risks;

 

   

such authorities may disagree with our interpretation of data from preclinical studies or clinical trials or the use of results from studies that served as precursors to our current or future product candidates;

 

   

such authorities may find deficiencies in our manufacturing processes or facilities or those of third-party manufacturers with which we or any of our future development partners contract for clinical and commercial supplies; or

 

   

the approval policies or regulations of such authorities may significantly change in a manner rendering our or any of our future development partners’ clinical data insufficient for approval.

With respect to foreign markets, approval procedures vary among countries and, in addition to the risks described above, can involve additional product testing, administrative review periods, and agreements with pricing authorities. In addition, events raising questions about the safety of certain marketed pharmaceuticals or biologics may result in increased cautiousness by the FDA and comparable foreign regulatory authorities in reviewing new tissue regeneration products based on safety, efficacy or other regulatory considerations and may result in significant delays in obtaining regulatory approvals. Any delay in obtaining, or inability to obtain, applicable regulatory approvals would prevent us or any of our future development partners from commercializing our product candidates.

NeoCart or any future product candidate we or any of our future development partners advance into clinical trials may cause unacceptable adverse events or have other properties that may delay or prevent its regulatory approval or limit its commercial potential.

Unacceptable adverse events caused by any of our product candidates that we advance into clinical trials could cause us or regulatory authorities to interrupt, delay or halt clinical trials and could result in the denial of regulatory approval by the FDA or other regulatory authorities for any or all targeted indications and markets. This in turn could prevent us from completing development or commercializing the affected product candidate and generating revenue from its sale.

We have not yet completed testing of any of our product candidates for the treatment of the indications for which we intend to seek approval, and we currently do not know the extent of adverse events, if any, that will be observed in individuals who receive any of our product candidates. If any of our product candidates cause unacceptable adverse events in clinical trials, we may not be able to obtain regulatory approval or commercialize such product candidate.

 

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The results of preclinical studies and early clinical trials are not always predictive of future results. Any product candidate we or any of our future development partners advance into clinical trials may not have favorable results in later clinical trials, if any, or receive regulatory approval.

Regenerative medicine product development has inherent risk. We or any of our future development partners will be required to demonstrate through adequate and well-controlled clinical trials that our product candidates are effective, with a favorable benefit-risk profile, for use in their target indications before we can seek regulatory approvals for their commercial sale. Regenerative medicine product development is a long, expensive and uncertain process, and delay or failure can occur at any stage of development, including after commencement of any of our clinical trials. In addition, success in early clinical trials does not mean that later clinical trials will be successful because product candidates in later-stage clinical trials may fail to demonstrate sufficient safety or efficacy despite having progressed through initial clinical testing. Furthermore, our future trials will need to demonstrate sufficient safety and efficacy for approval by regulatory authorities in larger patient populations. Companies frequently suffer significant setbacks in advanced clinical trials, even after earlier clinical trials have shown promising results. In addition, only a small percentage of biologics under development result in the submission of a New Drug Application or Biologic Licensing Application to the FDA and even fewer are approved for commercialization.

We are subject to a multitude of manufacturing risks, any of which could substantially increase our costs and limit supply of our products.

The process of manufacturing NeoCart is complex, highly regulated and subject to several risks, including:

 

   

The process of manufacturing NeoCart, including the use of autologous cells, is susceptible to product loss due to contamination, equipment failure or improper installation or operation of equipment, or surgeon or laboratory technician error. Even minor deviations from normal manufacturing processes could result in lost NeoCart production runs, product defects and other supply disruptions. If microbial, viral or other contaminations are discovered in our products or in the manufacturing process or facilities in which our products are made, such manufacturing facilities may need to be closed for an extended period of time to investigate and remedy the contamination.

 

   

The manufacturing facilities in which NeoCart is made could be adversely affected by equipment failures, labor shortages, natural disasters, power failures and numerous other factors. For instance, in 2012, we voluntarily suspended manufacturing operations and paused enrollment of the NeoCart Phase 3 clinical trial upon discovery of discrepancies in the testing procedures used to assess one of the raw materials utilized in the manufacture of NeoCart implants and we could be required in the future to suspend manufacturing due to circumstances out of our control.

 

   

We and our contract manufacturers, if any, must comply with the current Good Manufacturing Practices (cGMP) regulations and guidelines. We and our contract manufacturers, if any, may encounter difficulties in achieving quality control and quality assurance and may experience shortages in qualified personnel. We and our contract manufacturers, if any, are subject to inspections by the FDA and comparable agencies in other jurisdictions to confirm compliance with applicable regulatory requirements. Any failure to follow cGMP or other regulatory requirements or delay, interruption or other issues that arise in the manufacture, packaging, storage or shipping of our products as a result of a failure of our facilities or operations, or the facilities or operations of third parties, to comply with regulatory requirements or pass any regulatory authority inspection could significantly impair our ability to develop and commercialize our products, including leading to significant delays in the availability of products for our clinical studies or the termination or hold on a clinical study, or the delay or prevention of a filing or approval of marketing applications for our product candidates. Significant noncompliance could also result in the imposition of sanctions, including fines, injunctions, civil penalties, failure of regulatory authorities to grant marketing approvals for our product candidates, delays, suspension or withdrawal of approvals, license revocation, seizures or recalls of products, operating restrictions and criminal prosecutions, any of which could damage our

 

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reputation. If we are not able to maintain regulatory compliance, we may not be permitted to market our products or may be subject to product recalls, seizures, injunctions, or criminal prosecution.

 

   

Any adverse developments affecting manufacturing operations for our products may result in shipment delays, inventory shortages, lot failures, product withdrawals or recalls, or other interruptions in the supply of our products. We may also have to take inventory write-offs and incur other charges and expenses for products that fail to meet specifications, undertake costly remediation efforts or seek more costly manufacturing alternatives.

In order to manufacture NeoCart, we operate our own cGMP manufacturing facility in Waltham, Massachusetts for production of NeoCart. We are in the process of locating and subsequently developing a facility for our cGMP manufacturing in the Waltham, Massachusetts area which we plan to build out to produce key NeoCart raw materials, including CT3 components, collagen and scaffold. While we own the manufacturing process, unforeseen issues or outside influences could impact potential supply. For example:

 

   

Our facility in Waltham may not meet FDA cGMP standards during the pre-approval inspection necessary for Biologic Licensing Application approval, delaying Biologic Licensing Application approval and resulting in added cost to mitigate issues identified during inspection.

 

   

The anticipated site that we plan to build out for production of key raw materials may not be completed on our current schedule and once completed may not receive FDA approval to operate, resulting in delays while we implement improvements necessary to receive approval, leading to delays in the initiation of commercial production. We plan to meet with FDA during the course of 2014 to obtain the FDA’s input and agreement with respect to our technology transfer and comparability plans.

 

   

The raw material to be produced at the new facility site may not be comparable to the raw materials sourced from external vendors for earlier clinical trial work, including the ongoing NeoCart Phase 3 clinical trial, according to our current projected timelines, and the FDA may delay approval of the new raw material source or require additional studies to show comparability.

 

   

We may not achieve our anticipated production throughput targets, resulting in lower than anticipated capacity, limiting supply of our products, lowering revenue and increasing costs. We may not hit our production cost target for a variety of reasons including increased raw material cost, underestimate of labor requirements, underestimate of capital requirement and other facility, personnel or materials issues that we have not anticipated. Increased costs will adversely impact gross margin achieved by our products.

 

   

The FDA may not approve implementation of the multi-unit NeoCart reactor or approval may be delayed, which could result in capacity limitation or high unit costs, depending upon the length of the delay.

We may fail to comply with any of our obligations under existing agreements pursuant to which we license rights or technology, which could result in the loss of rights or technology that are material to our business.

We are a party to technology licenses that are important to our business and we may enter into additional licenses in the future. We currently hold material licenses from Purpose Co., Ltd., Angiotech Pharmaceuticals (US), Inc., Angiodevice International GmbH, the Board of Trustees of The Leland Stanford Junior University, Yeda Research and Development Co., Ltd. and Koken Co., Ltd. The rights licensed under these agreements, including rights relating to our scaffolds, tissue processor, bioadhesives and growth factors, are material to our regenerative medicine platform and the continued development of NeoCart and our future product candidates. These licenses impose various commercial, contingent payment, royalty, insurance, indemnification and other obligations on us. If we fail to comply with these obligations, the licensor may have the right to terminate the license, in which event we would lose valuable rights under our license agreements and our ability to develop or commercialize product candidates. Any termination or reversion of our rights to under the foregoing agreements may have a material adverse effect on our business, prospects and results of operations.

 

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Development of regenerative medicine products is inherently expensive and risky and may not be understood by or accepted in the marketplace, which could adversely affect our future value.

The clinical development, commercialization and marketing of regenerative medicine products are at an early-stage, substantially research-oriented, and financially speculative. To date, very few companies have been successful in their efforts to develop and commercialize regenerative medicine products. In general, regenerative medicine products may be susceptible to various risks, including undesirable and unintended side effects, unintended immune system responses, inadequate therapeutic efficacy, potentially prohibitive costs or other characteristics that may prevent or limit their approval or commercial use. Furthermore, the number of people who may use cell- or tissue-based regenerative medicine therapies is difficult to forecast with accuracy. Our future success is dependent on the establishment of a large global market for regenerative medicine products and our ability to capture a share of this market with NeoCart and our future product candidates.

Our development efforts with our regenerative medicine platform are susceptible to the same risks of failure inherent in the development and commercialization of product candidates based on new technologies. The novel nature of regenerative medicine products creates significant challenges in the areas of product development and optimization, manufacturing, government regulation, third-party reimbursement and market acceptance. For example, the FDA has relatively limited experience regulating cell- or tissue-based regenerative medicine therapies, and there are few approved treatments utilizing regenerative medicine products.

Even if we successfully develop and obtain regulatory approval for NeoCart and our future product candidates, the market may not understand or accept them. NeoCart and our future product candidates represent novel treatments and are expected to compete with a number of surgical options and more conventional products and therapies manufactured and marketed by others, including major pharmaceutical and biotechnology companies. The degree of market acceptance of any of our developed and potential product candidates will depend on a number of factors, including:

 

   

the clinical safety and effectiveness of NeoCart and our future product candidates and their perceived advantage over alternative treatment methods, if any;

 

   

adverse events involving NeoCart and our future product candidates or the products or product candidates of others; and

 

   

the cost of our products and the reimbursement policies of government and private third-party payors.

If the health care community does not accept NeoCart or our future product candidates for any of the foregoing reasons, or for any other reason, it could affect our sales, having an adverse effect on our business, financial condition and results of operations.

We will need additional capital to develop and commercialize our product candidates including NeoCart, and we may be unable to raise additional capital when needed at all, which could force us to reduce or discontinue such product candidates.

The amount and timing of our future, long-term funding requirements will depend on many factors, including:

 

   

the type, number, costs and results of the product candidate development programs which we are pursuing or may choose to pursue in the future;

 

   

the scope, progress, expansion, costs and results of our clinical trials;

 

   

the timing of and costs involved in obtaining regulatory approvals;

 

   

market acceptance of any products for which we receive approval;

 

   

our ability to establish and maintain development partnering arrangements;

 

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the timing, receipt and amount of contingent, royalty and other payments from our future development partners, if any;

 

   

the emergence of competing technologies and other adverse market developments;

 

   

the costs of maintaining, expanding and protecting our intellectual property portfolio, including potential litigation costs and liabilities;

 

   

the resources we devote to marketing and, if approved, commercializing our product candidates;

 

   

the scope, progress, expansion and costs of manufacturing our product candidates; and

 

   

the costs of financing the purchases of additional capital equipment and development technologies.

If we are unable to raise additional funding for our product candidates, including NeoCart, when needed, we may be required to delay, reduce or terminate some or all of our development programs and clinical trials. We may be required to sell or license to others our technologies, product candidates or development programs that we would have preferred to develop and commercialize ourselves.

If our competitors develop treatments for the target indications of NeoCart or our future product candidates that are approved more quickly, marketed more successfully or demonstrated to be safer or more effective than our product candidates, our commercial opportunity will be reduced or eliminated.

The regenerative medicine industry is intensely competitive and subject to rapid and significant technological change. We face competition from major multinational companies, established and early-stage biotechnology companies, and universities and other research institutions. Many of our competitors have greater financial and other resources, such as larger research and development staff and more experienced marketing and manufacturing organizations. Large pharmaceutical companies, in particular, have extensive experience in clinical testing, obtaining regulatory approvals, recruiting patients and manufacturing products. These companies also have significantly greater research, sales and marketing capabilities and collaborative arrangements in our target markets with leading companies and research institutions. Established companies may also invest heavily to accelerate discovery and development of novel therapeutics or to in-license novel therapeutics that could make the product candidates that we develop obsolete. As a result of all of these factors, our competitors may succeed in obtaining patent protection or FDA approval or discovering, developing and commercializing treatments in the regenerative medicine indications that we are targeting before we do. Smaller or early-stage companies may also prove to be significant competitors, particularly through collaborative arrangements with large, established companies.

There are several clinical-stage development programs in various stages of development that seek to regenerate soft tissue and repair cartilage. In addition, many universities and private and public research institutes may develop technologies that are relevant to our product candidates, but license them to our competitors. Our competitors may succeed in developing, acquiring or licensing on an exclusive basis, technologies and products that are more effective, including a one-step alternative to NeoCart, or less costly than NeoCart or any future product candidates that we may develop, which could render our products obsolete and noncompetitive.

We believe that our ability to successfully compete will depend on, among other things:

 

   

the results of our preclinical studies and clinical trials;

 

   

our ability to recruit and enroll patients for our clinical trials;

 

   

the efficacy, safety and reliability of our product candidates;

 

   

the speed at which we develop our product candidates;

 

   

our ability to design and successfully execute appropriate clinical trials;

 

   

our ability to protect and develop intellectual property rights related to our products;

 

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our ability to maintain a good relationship with regulatory authorities;

 

   

the timing and scope of regulatory approvals, if any;

 

   

our ability to commercialize and market any of our product candidates that receive regulatory approval;

 

   

market perception and acceptance of regenerative medicine products;

 

   

acceptance of our product candidates by physicians, patients and institutions;

 

   

the price of our products;

 

   

adequate levels of reimbursement under private and governmental health insurance plans, including Medicare; and

 

   

our ability to manufacture and sell commercial quantities of any approved products to the market.

If our competitors market products that are more effective, safer or less expensive than our future products or that reach the market sooner than our future products, we may not achieve commercial success. Any inability to compete effectively will adversely impact our business and financial prospects.

We have a limited manufacturing capacity for NeoCart and our future product candidates, which could inhibit the long-term growth prospects of this business.

We currently produce materials for clinical trials, including production of NeoCart, at our existing manufacturing facilities in Waltham, Massachusetts, which we have designed and operated to be compliant with FDA, cGMP and the current Good Tissue Practice as and if applicable, requirements. We estimate that we can produce approximately 500 NeoCart units per year in our existing facility. While we believe these facilities provide us with sufficient capacity to meet our expected clinical demand and possibly our commercial launch demand, it is possible that the demand for products could exceed our existing manufacturing capacity. It will become necessary or desirable for us to expand our manufacturing capabilities for our regenerative medicine platform in the future, which may require us to invest significant amounts of capital and to obtain regulatory approvals. If we are unable to meet rising demand for products on a timely basis or unable to maintain cGMP compliance standards, then it is likely that our clients and potential clients will elect to obtain the products from competitors, which could materially and adversely affect the level of our revenues and our prospects for growth.

The current tissue engineering processor (TEP) in our Waltham facility is resource dependent due to the single-unit capacity. We are developing a multi-unit NeoCart reactor design which would alleviate the capacity restraints currently resulting from our single-unit processors and will increase capacity to 2,500 units per year at the existing Waltham, Massachusetts facility. We currently expect to begin implementation of a multi-reactor unit during the first year of product commercialization, thus providing adequate capacity to meet expected demand through the first two years of commercialization from our Waltham facility. The FDA may not, however, approve implementation of the multi-unit NeoCart reactor or approval may be delayed which could result in capacity limitation or high unit costs depending upon the length of the delay. We are collaborating with ST3 Development Corporation to design the multi-unit reactor.

Components of regenerative medicine products approved for commercial sale or used in late-stage clinical trials must be manufactured in accordance with cGMP. In addition, the manufacturing process of regenerative medicine products may be required to be modified from time to time in response to FDA requests. Manufacture of cell- or tissue-based regenerative medicine products is complex and subjects companies to significant regulatory burdens that may change over time. We may encounter difficulties in the production of our product candidates due to our limited manufacturing experience.

 

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If we are not successful in discovering, developing, acquiring and commercializing additional product candidates, our ability to expand our business will be limited.

A substantial amount of our effort is focused on the continued clinical testing and potential approval of NeoCart and our future product candidates and expanding our product candidates to serve other indications of high unmet medical needs. Research programs to identify other indications require substantial technical, financial and human resources, whether or not any product candidates for other indications are ultimately identified. Our research programs may initially show promise in identifying potential product candidates, yet fail to yield product candidates for clinical development for many reasons, including the following:

 

   

the research methodology used may not be successful in identifying potential product candidates;

 

   

competitors may develop alternatives that render our product candidates obsolete or less attractive;

 

   

product candidates we develop may nevertheless be covered by third parties’ patents or other exclusive rights;

 

   

a product candidate may on further study be shown to have harmful side effects or other characteristics that indicate it is unlikely to be effective or otherwise does not meet applicable regulatory criteria;

 

   

a product candidate may not be capable of being produced in commercial quantities at an acceptable cost, or at all; and

 

   

a product candidate may not be accepted as safe and effective by patients, the medical community or third-party payors, if applicable.

If we do not successfully develop and commercialize product candidates for other indications, our business and future prospects may be limited and our business will be more vulnerable to problems that we encounter in developing and commercializing our current product candidates.

We may experience delays in commencing or conducting our clinical trials or in receiving data from third parties or in the completion of clinical testing, which could result in increased costs to us and delay our ability to generate product candidate revenue.

Before we can initiate clinical trials in the United States for our product candidates, we need to submit the results of preclinical testing to the FDA as part of an IND application, along with other information including information about product candidate chemistry, manufacturing and controls and our proposed clinical trial protocol. We may rely in part on preclinical, clinical and quality data generated by contract research organization and other third parties for regulatory submissions for our product candidates. If these third parties do not make timely regulatory submissions for our product candidates, it will delay our plans for our clinical trials. If those third parties do not make this data available to us, we will likely have to develop all necessary preclinical and clinical data on our own, which will lead to significant delays and increase development costs of the product candidate. In addition, the FDA may require us to conduct additional preclinical testing for any product candidate before it allows us to initiate clinical testing under any IND application, which may lead to additional delays and increase the costs of our preclinical development. Despite the presence of an active IND application for a product candidate, clinical trials can be delayed for a variety of reasons including delays in:

 

   

identifying, recruiting and training suitable clinical investigators;

 

   

reaching agreement on acceptable terms with prospective contract research organizations and trial sites, the terms of which can be subject to extensive negotiation, may be subject to modification from time to time, and may vary significantly among different contract research organizations and trial sites;

 

   

obtaining sufficient quantities of a product candidate for use in clinical trials, including as a result of transferring the manufacturing of a product candidate to another site or manufacturer;

 

   

obtaining and maintaining institutional review board or ethics committee approval to conduct a clinical trial at an existing or prospective site;

 

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identifying, recruiting and enrolling subjects to participate in a clinical trial; and

 

   

retaining or replacing participants who have initiated a clinical trial but may withdraw due to adverse events from the therapy, insufficient efficacy, fatigue with the clinical trial process, or personal issues.

The FDA may also put a clinical trial on clinical hold at any time during product candidate development. In addition, we may voluntarily pause a clinical trial for a variety of reasons. For instance, in 2012 we voluntarily suspended manufacturing operations and paused enrollment of the NeoCart Phase 3 clinical trial upon discovery of discrepancies in the testing procedures used to assess one of the raw materials utilized in the manufacture of NeoCart implants and we could be required in the future to suspend manufacturing due to circumstances out of our control.

Once a clinical trial has begun, it may also be delayed as a result of ambiguous or negative interim results. Further, a clinical trial may be suspended or terminated by us, an institutional review board, an ethics committee or a data safety monitoring committee overseeing the clinical trial, any of our clinical trial sites with respect to that site or the FDA or other regulatory authorities due to a number of factors, including:

 

   

failure to conduct the clinical trial in accordance with regulatory requirements or our clinical protocols;

 

   

inspection of the clinical trial operations or clinical trial site by the FDA or other regulatory authorities;

 

   

unforeseen safety issues, known safety issues that occur at a greater frequency or severity than we anticipate, or any determination that the clinical trial presents unacceptable health risks; or

 

   

lack of adequate funding to continue the clinical trial.

Any delays in the commencement of our clinical trials will delay our ability to pursue regulatory approval for our product candidates. Changes in U.S. and foreign regulatory requirements and guidance also may occur and we may need to amend clinical trial protocols to reflect these changes. Amendments may require us to resubmit our clinical trial protocols to institutional review boards for re-examination, which may affect the costs, timing and likelihood of a successful completion of a clinical trial. If we or any of our future development partners experience delays in the completion of, or if we or any of our future development partners must terminate, any clinical trial of any product candidate our ability to obtain regulatory approval for that product candidate will be delayed and the commercial prospects, if any, for the product candidate may suffer as a result. In addition, many of these factors may also ultimately lead to the denial of regulatory approval of a product candidate.

Regulatory authorities, including the FDA and the European Medicines Agency, may disagree with our interpretations of data from pre-clinical studies and clinical trials. Regulatory authorities also may approve a product for narrower indications than requested or may grant approval subject to the performance of post-marketing studies for a product. There can be no guarantee that such post-approval studies, if required, will corroborate the results of earlier trials. Furthermore, the market use of such products may show different safety and efficacy profiles to those demonstrated in the trials on which marketing approval was based. Such circumstances could lead to the withdrawal or suspension of marketing approval for the product, which could have a material adverse effect on our business, financial condition, operating results or cash flows. In addition, regulatory authorities may not approve or agree with the labeling claims that are necessary or desirable for the successful commercialization of our products.

If NeoCart or any future product candidate that we successfully develop does not achieve broad market acceptance among physicians, patients, healthcare payors and the medical community, the revenue that it generates may be limited.

Even if NeoCart or our future product candidates receive regulatory approval, they may not gain market acceptance among physicians, patients, healthcare payors and the medical community. Coverage and

 

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reimbursement of our product candidates by third-party payors, including government payors, generally is also necessary for commercial success. The degree of market acceptance of any approved product candidates will depend on a number of factors, including:

 

   

the efficacy and safety as demonstrated in clinical trials;

 

   

the clinical indications for which the product candidate is approved;

 

   

acceptance by physicians, major operators of hospitals and clinics and patients of the product candidate as a safe and effective treatment;

 

   

the potential and perceived advantages of product candidates over alternative treatments;

 

   

the safety of product candidates seen in a broader patient group, including their use outside the approved indications;

 

   

the cost of treatment in relation to alternative treatments;

 

   

the availability of adequate reimbursement and pricing by third parties and government authorities;

 

   

relative convenience and ease of administration;

 

   

the prevalence and severity of adverse events;

 

   

the effectiveness of our sales and marketing efforts; and

 

   

unfavorable publicity relating to the product candidate or regenerative medicine products, in general.

If any product candidate is approved but does not achieve an adequate level of acceptance by physicians, hospitals, healthcare payors and patients, we may not generate sufficient revenue from that product candidate and may not become or remain profitable. Ethical, social and legal concerns about regenerative medicine products could result in additional regulations restricting or prohibiting the use of our product candidates.

Insurance coverage and reimbursement may be limited or unavailable in certain market segments for our product candidates, which could make it difficult for us to sell our product candidates profitably.

Market acceptance and sales of NeoCart and our future product candidates will depend significantly on the availability of adequate insurance coverage and reimbursement from third-party payors for any of our product candidates and may be affected by existing and future health care reform measures. Government authorities and third-party payors, such as private health insurers and health maintenance organizations, decide which medical treatments they will pay for and establish reimbursement levels. Reimbursement by a third-party payor may depend upon a number of factors including the third-party payor’s determination that use of a product candidate is:

 

   

a covered benefit under its health plan;

 

   

safe, effective and medically necessary;

 

   

appropriate for the specific patient;

 

   

cost effective; and

 

   

neither experimental nor investigational.

Obtaining coverage and reimbursement approval for a product candidate from a government or other third-party payor is a time-consuming and costly process that could require us to provide supporting scientific, clinical and cost effectiveness data for the use of our product candidates to the payor. We may not be able to provide data sufficient to gain acceptance with respect to coverage and reimbursement. We cannot be sure that coverage or adequate reimbursement will be available for any of our product candidates. Also, we cannot be sure that reimbursement amounts will not reduce the demand for, or the price of, NeoCart or our future product

 

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candidates. If reimbursement is not available or is available only to limited levels, we may not be able to commercialize certain of our product candidates profitably, or at all, even if approved.

In the United States and certain foreign jurisdictions, there have been a number of legislative and regulatory changes to health care systems that could affect our ability to sell our product candidates profitably. In particular, in 2003 the Medicare Modernization Act revised the payment methods for many product candidates under Medicare. This has resulted in lower rates of reimbursement. There have been numerous other federal and state initiatives designed to reduce payment for products.

As a result of legislative proposals and the trend toward managed health care in the United States, third-party payors are increasingly attempting to contain healthcare costs by limiting both coverage and the level of reimbursement of new tissue regenerative medicine products. They may also refuse to provide coverage of approved product candidates for medical indications other than those for which the FDA has granted market approvals. As a result, significant uncertainty exists as to whether and how much third-party payors will reimburse patients for their use of newly approved regenerative medicine products, which in turn will put pressure on the pricing of such products. We expect to experience pricing pressures in connection with the sale of our product candidates due to the trend toward managed health care, the increasing influence of health maintenance organizations, and additional legislative proposals as well as country, regional, or local healthcare budget limitations.

In addition, reimbursement agencies in foreign jurisdictions may be more conservative than those in the United States. Accordingly, in markets outside the United States, the reimbursement for our products may be more limited than in the United States and may be insufficient to generate commercially reasonable revenues and profits.

Failure to obtain or maintain adequate reimbursement for any products for which we receive marketing approval will adversely impact our ability to achieve commercial success.

We may face product liability claims and, if successful claims are brought against us, we may incur substantial liability and costs. If the use of our product candidates harms patients, or is perceived to harm patients even when such harm is unrelated to our product candidates, our regulatory approvals could be revoked or otherwise negatively impacted and we could be subject to costly and damaging product liability claims.

The use of NeoCart and our future product candidates in clinical trials and the sale of any products for which we obtain marketing approval exposes us to the risk of product liability claims. Product liability claims might be brought against us by participants in clinical trials, consumers, healthcare providers, pharmaceutical companies or others selling or otherwise coming into contact with our product candidates and any products for which we obtain marketing approval. There is a risk that our product candidates may induce adverse events, and that such adverse events may not be detected for a long period of time. If we cannot successfully defend against product liability claims, we could incur substantial liability and costs. In addition, regardless of merit or eventual outcome, product liability claims may result in:

 

   

impairment of our business reputation;

 

   

withdrawal of clinical trial participants;

 

   

termination of clinical trial sites or entire trial programs;

 

   

increased costs due to related litigation;

 

   

distraction of management’s attention from our primary business;

 

   

substantial monetary awards to patients or other claimants;

 

   

the inability to commercialize our product candidates; and

 

   

decreased demand for our product candidates, if approved for commercial sale.

 

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We carry product liability insurance that we believe is sufficient in light of our current clinical programs; however, we may not be able to maintain insurance coverage at a reasonable cost or in sufficient amounts to protect us against losses due to liability. If and when we obtain marketing approval for product candidates, we intend to expand our insurance coverage to include the sale of commercial products; however, we may be unable to obtain product liability insurance on commercially reasonable terms or in adequate amounts. On occasion, large judgments have been awarded in class action lawsuits based on regenerative medicine products or medical treatments that had unanticipated adverse effects. In addition, under some of our agreements with clinical trial sites, we are required to indemnify the sites and their personnel against product liability and other claims. A successful product liability claim or series of claims brought against us or any third parties whom we are required to indemnify could cause our stock price to decline and, if judgments exceed our insurance coverage, could adversely affect our results of operations and business.

During the course of treatment, patients may suffer adverse events for reasons that may be related to our product candidates. Such events could subject us to costly litigation, require us to pay substantial amounts of money to injured patients, delay, negatively impact or end our opportunity to receive or maintain regulatory approval to market our products, or require us to suspend or abandon our commercialization efforts. Even in a circumstance in which we do not believe that an adverse event is related to our products, the investigation into the circumstance may be time-consuming or inconclusive. These investigations may interrupt our development and commercialization efforts, delay our regulatory approval process, or impact and limit the type of regulatory approvals our product candidates receive or maintain. As a result of these factors, a product liability claim, even if successfully defended, could have a material adverse effect on our business, financial condition or results of operations.

We do not carry insurance for all categories of risk that our business may encounter and we may not be able to maintain insurance with adequate levels of coverage. Any significant uninsured liability may require us to pay substantial amounts, which would adversely affect our financial position and results of operations.

If we are unable to establish sales and marketing capabilities or fail to enter into agreements with third parties to market and sell any product candidates we may successfully develop, we may not be able to effectively market and sell any such product candidates.

We have no experience selling and marketing any products. We do not currently have any infrastructure for the sale, marketing and distribution of any of our product candidates once approved, if at all, and we must build this infrastructure in order to commercialize any product candidates for which we may obtain approval in the United States or make arrangements with third parties to perform these functions for us outside of the United States. To successfully commercialize any products that may result from our development programs, we will need to develop these capabilities, either on our own or with others. The establishment and development of a sales force, either by us or jointly with a development partner, or the establishment of a contract sales force to market any product candidates we may develop will be expensive and time consuming and could delay any commercial launch. If we or any of our future development partners are unable to establish sales and marketing capabilities or any other nontechnical capabilities necessary to commercialize any product candidates we may successfully develop, we will need to contract with third parties to market and sell such product candidates. We may not be able to establish arrangements with third parties on acceptable terms, if at all.

Legislative or regulatory healthcare reforms in the United States and abroad may make it more difficult and costly for us to obtain regulatory approval of our product candidates and to produce, market and distribute our products after approval is obtained.

From time to time, legislation is drafted and introduced in Congress that could significantly change the statutory provisions governing the regulatory approval, manufacture and marketing of regulated products or the reimbursement thereof. In addition, FDA regulations and guidance are often revised or reinterpreted by the FDA in ways that may significantly affect our business and our products. Any new regulations or revisions or reinterpretations of existing regulations may impose additional costs or lengthen review times of NeoCart or any

 

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future product candidates. We cannot determine what effect changes in regulations, statutes, legal interpretation or policies, when and if promulgated, enacted or adopted may have on our business in the future. Such changes could, among other things, require:

 

   

changes to manufacturing methods;

 

   

additional studies, including clinical studies;

 

   

recall, replacement, or discontinuance of one or more of our products;

 

   

the payment of additional taxes; or

 

   

additional record keeping.

Each of these requirements would likely entail substantial time and cost and could adversely harm our business and our financial results. In addition, delays in receipt of or failure to receive regulatory approvals for any future products would harm our business, financial condition and results of operations. We intend to seek approval to market our product candidates in both the United States and in foreign jurisdictions. If we obtain approval in one or more foreign jurisdictions, we will be subject to rules and regulations in those jurisdictions relating to such product candidate. If reimbursement of our future products is unavailable or limited in scope or amount, or if pricing is set at unsatisfactory levels, we may be unable to achieve or sustain profitability.

We currently rely on third parties in order to perform certain aspects of our business, including to support certain aspects of our clinical trials and to supply the NeoCart tissue engineering processor. If these third parties do not successfully carry out their contractual duties or meet expected deadlines, we may not be able to obtain regulatory approval for or commercialize our product candidates and our business could be substantially harmed.

We have relied upon and plan to continue to rely upon third parties to monitor and manage data for our ongoing clinical programs. We rely on these parties for execution of our clinical trials, and control only certain aspects of their activities. Nevertheless, we are responsible for ensuring that each of our studies is conducted in accordance with the applicable protocol and legal, regulatory and scientific standards, and our reliance on third parties does not relieve us of our regulatory responsibilities. We also rely on third parties to assist in conducting our nonclinical studies in accordance with good laboratory practices. We and our third-party service providers are required to comply with good clinical practices, which are regulations and guidelines enforced by the FDA, as well as comparable foreign regulations and guidelines, for all of our product candidates in clinical development. Regulatory authorities enforce these good clinical practices through periodic inspections of trial sponsors, principal investigators and trial sites. If we or any of our third-party service providers or clinical trial sites fail to comply with applicable good clinical practices, the clinical data generated in our clinical trials may be deemed unreliable and the FDA or comparable foreign regulatory authorities may require us to perform additional clinical trials before approving our marketing applications. We cannot assure you that upon inspection by a given regulatory authority, such regulatory authority will determine that any of our clinical trials comply with good clinical practices requirements. In addition, our clinical trials must be conducted with product produced under applicable good manufacturing practices requirements. Failure to comply with these regulations may require us to repeat nonclinical and clinical trials, which would delay the regulatory approval process.

Our third-party service providers are not our employees, and except for remedies available to us under our agreements with such third parties, we cannot control whether or not they devote sufficient time and resources to our on-going clinical and nonclinical programs. If third-party service providers do not successfully carry out their contractual duties or obligations or meet expected deadlines or if the quality or accuracy of the clinical data they obtain is compromised due to the failure to adhere to our clinical protocols, regulatory requirements or for other reasons, our clinical trials may be extended, delayed or terminated and we may not be able to obtain regulatory approval for or successfully commercialize our product candidates. As a result, our results of operations and the commercial prospects for our product candidates would be harmed, our costs could increase and our ability to generate revenues could be delayed.

 

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Because we have relied on third parties, our internal capacity to perform these functions is limited. Outsourcing these functions involves risk that third parties may not perform to our standards, may not produce results in a timely manner or may fail to perform at all. In addition, the use of third-party service providers requires us to disclose our proprietary information to these parties, which could increase the risk that this information will be misappropriated. We currently have a small number of employees, which limits the internal resources we have available to identify and monitor our third-party service providers. To the extent we are unable to identify and successfully manage the performance of third-party service providers in the future, our business may be adversely affected. Although we carefully manage our relationships with our third-party service providers, there can be no assurance that we will not encounter similar challenges or delays in the future or that these delays or challenges will not have a material adverse impact on our business, financial condition and prospects.

We are also dependent on third-party suppliers, most of which are sole source suppliers of the components used to manufacture our TEP. If these third-party suppliers do not supply sufficient quantities to us on a timely basis and in accordance with applicable specifications and other regulatory requirements, there could be a significant interruption of our ability to supply, which would adversely affect clinical development or commercial production of the product candidate. Furthermore, if any of these third parties cannot successfully supply TEPs that we require for our production that conforms to our specifications and with regulatory requirements, we will not be able to meet demand, for our product candidates.

We do not expect to have the resources or capacity to commercially manufacture TEPs required to manufacture our proposed product candidates if approved, and will likely continue to be dependent on third-party suppliers. Our dependence on third parties to manufacture and supply us with these TEPs may adversely affect our ability to develop and commercialize our product candidates on a timely basis.

We may not be successful in establishing and maintaining development or other strategic partnerships, which could adversely affect our ability to develop and commercialize product candidates.

As part of our strategy, we intend to enter into development or other strategic partnerships in the future, including collaborations with major biotechnology or pharmaceutical companies. We face significant competition in seeking appropriate partners and the negotiation process is time consuming and complex. Moreover, we may not be successful in our efforts to establish a development partnership or other alternative arrangements for any of our other existing or future product candidates and programs because our research and development pipeline may be insufficient, our product candidates and programs may be deemed to be at too early a stage of development for collaborative effort or third parties may not view our product candidates and programs as having the requisite potential to demonstrate safety and efficacy. Even if we are successful in our efforts to establish development partnerships, the terms that we agree upon may not be favorable to us and we may not be able to maintain such development partnerships if, for example, development or approval of a product candidate is delayed or sales of an approved product candidate are disappointing. Any delay in entering into development partnership agreements related to our product candidates could delay the development and commercialization of our product candidates and reduce their competitiveness if they reach the market.

Moreover, if we fail to establish and maintain development or other strategic partnerships related to our product candidates:

 

   

the development of certain of our current or future product candidates may be terminated or delayed;

 

   

our cash expenditures related to development of certain of our current or future product candidates would increase significantly and we may need to seek additional financing;

 

   

we may be required to hire additional employees or otherwise develop expertise, such as sales and marketing expertise, for which we have not budgeted; and

 

   

we will bear all of the risk related to the development of any such product candidates.

 

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We may need to expand our operations and increase the size of our company and we may experience difficulties in managing any such growth.

As we continue to advance NeoCart towards potential commercialization, increase the number of ongoing product development programs and advance our future product candidates through preclinical studies and clinical trials, we will need to expand our development, regulatory, manufacturing, marketing and sales capabilities and, in some cases, collaborate and contract with third parties to provide these capabilities for us. Our management, personnel and systems currently in place may not be adequate to support this future growth. Our need to effectively manage our operations, growth and various projects requires that we:

 

   

successfully attract and recruit new employees or consultants with the requisite expertise and experience;

 

   

manage our clinical programs effectively;

 

   

develop a marketing and sales infrastructure if we receive regulatory approval for any product candidate;

 

   

continue to improve our operational, financial and management controls, reporting systems and procedures, including those related to being a public company; and

 

   

construct, validate and effectively operate new and expanded manufacturing facilities.

If we are unable to successfully manage this growth and increased complexity of operations, our business may be adversely affected.

If we fail to hire and effectively integrate new executive officers into our organization, the future development and commercialization of our product candidates may suffer, harming future regulatory approvals, sales of our product candidates or our results of operations.

Our current management team has only been working together for a relatively short period of time and a majority of our current management team has been employed by us for less than a year. In addition, Peter Greenleaf recently notified us of his intention to resign, effective as of February 28, 2014, as our president and chief executive officer and as one of our directors. We will need to identify and hire a chief executive officer to succeed Mr. Greenleaf, and we expect to continue to expand our management team in the future. Our future performance will depend significantly on our ability to hire a qualified chief executive officer and successfully integrate recently and subsequently hired executive officers into our management team, and on those officers’ ability to develop and maintain an effective working relationship. Our failure to integrate recently and subsequently hired executive officers, including a new chief executive officer, with other members of management could result in inefficiencies in the development and commercialization of our product candidates, harming future regulatory approvals, sales of our product candidates and our results of operations.

We may not be able to manage our business effectively if we are unable to attract and retain key personnel and consultants, including a qualified new chief executive officer.

Given the specialized nature of regenerative cell therapy and that it is a relatively new field, there is an inherent scarcity of experienced personnel in the field. We may not be able to attract or retain qualified management (including a new chief executive officer), finance, scientific and clinical personnel and consultants due to the intense competition for qualified personnel and consultants among biotechnology, pharmaceutical and other businesses. Our board of directors will appoint a successor to our current president and chief executive officer and has initiated the search for a new president chief executive officer but we may not be able to hire a qualified new chief executive officer within the foreseeable future. If we are not able to attract and retain necessary personnel and consultants to accomplish our business objectives, we may experience constraints that will significantly impede the achievement of our development objectives, our ability to raise additional capital and our ability to implement our business strategy.

 

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Our industry has experienced high turnover of management personnel in recent years. We are highly dependent on the development, regulatory, commercialization and business development expertise of our senior management team. The loss of Mr. Greenleaf or one or more additional executive officers or key employees, could seriously harm our ability to implement our business strategy successfully. While we have entered into employment contracts with each of our executive officers, any of them could leave our employment at any time, as all of our employees are at-will employees. Replacing key personnel and consultants may be difficult and may take an extended period of time because of the limited number of individuals in our industry with the breadth of skills and experience required to develop, gain regulatory approval of and commercialize products successfully. Competition to hire and retain employees and consultants from this limited pool is intense, and we may be unable to hire, train, retain or motivate these additional key personnel and consultants. Our failure to retain key personnel or consultants could materially harm our business, and the transition to any replacement personnel, particularly at the chief executive officer position, may cause or result in:

 

   

speculation and uncertainty about our business and future direction;

 

   

distraction of our employees and management;

 

   

difficulty in recruiting, hiring, motivating and retaining talented and skilled personnel;

 

   

volatility in our stock price; and

 

   

difficulty in negotiating, maintaining or consummating business or strategic relationships or transactions.

We rely on our scientific and clinical advisors and consultants to assist us in formulating our research, development and clinical strategies. These advisors and consultants are not our employees and may have commitments to, or consulting or advisory contracts with, other entities that may limit their availability to us. In addition, these advisors and consultants typically will not enter into non-compete agreements with us. If a conflict of interest arises between their work for us and their work for another entity, we may lose their services. Furthermore, our advisors may have arrangements with other companies to assist them in developing products or technologies that may compete with ours. If we are unable to maintain consulting relationships with our key advisors or consultants or if they provide services to our competitors, our development and commercialization efforts will be impaired, and our business will be significantly harmed.

Our independent registered public accounting firm has included an explanatory paragraph relating to our ability to continue as a going concern in its report on our audited financial statements included in this prospectus.

Our audited consolidated financial statements at December 31, 2012 and for the year then ended were prepared assuming that we will continue as a going concern. However, the report of our independent registered public accounting firm included elsewhere in this prospectus contains an explanatory paragraph on our consolidated financial statements stating there is substantial doubt about our ability to continue as a going concern, meaning that we may not be able to continue in operation for the foreseeable future or be able to realize assets and discharge liabilities in the ordinary course of operations. Such an opinion could materially limit our ability to raise additional funds through the issuance of new debt or equity securities or otherwise. There is no assurance that sufficient financing will be available when needed to allow us to continue as a going concern. The perception that we may not be able to continue as a going concern may also make it more difficult to operate our business due to concerns about our ability to meet our contractual obligations.

Failure to build our finance infrastructure and improve our accounting systems and controls could impair our ability to comply with the financial reporting and internal control requirements for publicly traded companies.

As a public company, we will operate in an increasingly demanding regulatory environment, which requires us to comply with the Sarbanes-Oxley Act and the related rules and regulations of the SEC, expanded disclosure requirements, accelerated reporting requirements and more complex accounting rules. Company responsibilities

 

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required by the Sarbanes-Oxley Act include establishing corporate oversight and adequate internal control over financial reporting and disclosure controls and procedures. Effective internal controls are necessary for us to produce reliable financial reports and are important to help prevent financial fraud.

Pursuant to Section 404 of the Sarbanes-Oxley Act and related rules, our management will be required to report upon the effectiveness of our internal control over financial reporting. When and if we are a “large accelerated filer” or an “accelerated filer” and are no longer an “emerging growth company,” each as defined in the Securities Exchange Act, our independent registered public accounting firm will be required to attest to the effectiveness of our internal control over financial reporting. However, for so long as we remain an emerging growth company, we intend to take advantage of certain exemptions from various reporting requirements that are applicable to public companies that are not emerging growth companies, including not being required to comply with the auditor attestation requirements of Section 404 for a period of no more than 5 years. Once we are no longer an emerging growth company or, if prior to such date, we opt to no longer take advantage of the applicable exemption, we will be required to include an opinion from our independent registered public accounting firm on the effectiveness of our internal control over financial reporting. The rules governing the standards that must be met for management to assess our internal control over financial reporting are complex and require significant documentation, testing, and possible remediation. To comply with the requirements of being a reporting company under the Securities Exchange Act, we need to: upgrade our systems, including information technology; implement additional financial and management controls, reporting systems and procedures; and hire additional accounting and finance staff.

We have identified material weaknesses in our internal control over financial reporting and may identify additional material weaknesses in the future that may cause us to fail to meet our reporting obligations or result in material misstatements of our financial statements.

Our management team is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements in accordance with U.S. generally accepted accounting principles. A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of annual or interim financial statements will not be prevented or detected on a timely basis.

During the course of preparing for this offering, our management team determined that we had material weaknesses in our internal control over financial reporting. The material weaknesses are or were as follows:

 

   

Our controls and procedures over the accounting for and reporting of complex accounting matters were not effectively designed due to a failure to design and implement appropriate policies and procedures to ensure that the accounting and valuation of complex debt and equity transactions is in accordance with GAAP.

 

   

Adequate controls were not in place to appropriately segregate duties in areas such as journal entries, cash disbursements, impairment of intangible assets and the calculation and recording of income taxes.

 

   

Our controls were not effectively implemented in the financial statement close process to ensure that proper cut-off of accrued expenses was achieved at interim periods.

The material weakness identified in the first bullet point above resulted in restatements of our consolidated financial statements for the period from June 28, 2000 (date of inception) to December 31, 2009 that affected the carrying value of various series of preferred stock, additional paid-in capital, accumulated deficit, interest expense and change in fair value of warrant liability and other liability. We engaged in external resources to provide technical expertise to ensure that appropriate controls were in place to properly account for complex debt and equity transactions for the year ended December 31, 2012.

 

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Historically, we have not had sufficient accounting and supervisory personnel with the appropriate level of technical accounting experience and training necessary, or adequate formally documented accounting policies and procedures, to support effective internal control and appropriate segregation of duties. We have commenced the process of formally documenting, reviewing and improving our internal control over financial reporting. We have made efforts to improve our internal control and accounting policies and procedures. These efforts include hiring new accounting personnel and engaging external temporary resources to supplement our accounting function until full time accounting personnel can be hired.

We cannot assure you that we will not have material weaknesses or significant deficiencies in our internal control over financial reporting. If we are unable to successfully remediate any material weakness or significant deficiency in our internal control over financial reporting, or identify any material weaknesses or significant deficiencies that may exist, the accuracy and timing of our financial reporting may be adversely affected, we may be unable to maintain compliance with securities law requirements regarding timely filing of periodic reports in addition to applicable stock exchange listing requirements, and our stock price may decline materially as a result.

Pursuant to Section 404(a) of the Sarbanes-Oxley Act, we will be required to furnish a report by our management on our internal control over financial reporting. We have begun the process of documenting and evaluating our system of internal control over financial reporting necessary for our management to issue this report. However, we anticipate that we will need to retain additional finance capabilities and build our financial infrastructure as we transition to operating as a public company, including complying with the requirements of Section 404 of the Sarbanes-Oxley Act. As we begin operating as a public company following this offering, we will need to continue improving our financial infrastructure with the retention of additional financial and accounting capabilities, the enhancement of internal control and additional training for our financial and accounting staff.

Until we are able to expand our finance and administrative capabilities and establish necessary financial

reporting infrastructure, we may not be able to prepare and disclose, in a timely manner, our financial statements and other required disclosures or comply with the Sarbanes-Oxley Act or existing or new reporting requirements. If we cannot provide reliable financial reports or prevent fraud, our business and results of operations could be harmed and investors could lose confidence in our reported financial information.

If we engage in an acquisition, reorganization or business combination, we will incur a variety of risks that could adversely affect our business operations or our stockholders.

From time to time we have considered, and we will continue to consider in the future, strategic business initiatives intended to further the expansion and development of our business. These initiatives may include acquiring businesses, technologies or products or entering into a business combination with another company. For instance, in 2011, we acquired ProChon Biotech Ltd. Although we intend to evaluate and consider acquisitions, reorganizations and business combinations in the future, we have no agreements or understandings with respect to any acquisition, reorganization or business combination at this time. Any acquisitions we undertake, including our prior acquisition of ProChon Biotech Ltd., will likely be accompanied by business risks which may include:

 

   

the effect of the acquisition on our financial and strategic position and reputation;

 

   

the need to reprioritize our development programs and even cease development and commercialization of our product candidates;

 

   

the failure of an acquisition to result in expected benefits, which may include benefits relating to enhanced revenues, technology, human resources, costs savings, operating efficiencies, goodwill and other synergies;

 

   

the difficulty, cost and management effort required to integrate the acquired businesses, including costs and delays in implementing common systems and procedures and costs and delays caused by communication difficulties;

 

 

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the assumption of certain known or unknown liabilities of the acquired business, including litigation-related liabilities;

 

   

the reduction of our cash available for operations and other uses, the increase in amortization expense related to identifiable assets acquired, potentially dilutive issuances of equity securities or the incurrence of debt;

 

   

a lack of experience in new markets, new business culture, products or technologies or an initial dependence on unfamiliar distribution partners;

 

   

the possibility that we will pay more than the value we derive from the acquisition;

 

   

the impairment of relationships with customers, partners or suppliers of the acquired business; and

 

   

the potential loss of key employees of the acquired company.

These factors could harm our business, results of operations or financial condition.

In addition to the risks commonly encountered in the acquisition of a business or assets as described above, we may also experience risks relating to the challenges and costs of evaluating or closing a transaction, including distraction of our management team from normal business operations. The risks described above may be exacerbated as a result of managing multiple acquisitions at once.

Our ability to utilize our net operating loss carryforwards and certain other tax attributes may be limited.

We have incurred substantial losses during our history and do not expect to become profitable in the foreseeable future and may never achieve profitability. To the extent that we continue to generate taxable losses, unused losses will carry forward to offset future taxable income, if any, until such unused losses expire. We may be unable to use these losses to offset income before such unused losses expire. Under Section 382 of the Internal Revenue Code, Under Section 382 and 383 of the Internal Revenue Code (Code), utilization of net operating losses and research and development credit carryforwards may be subject to a substantial annual limitation due to ownership change limitations that have occurred or that could occur in the future. In general an “ownership change” as defined by section 382 of the Code results from a transaction or series of transactions over a three year period resulting in an ownership change of more than 50 percentage points of the outstanding stock of a company by certain stockholders. We have in the past experienced ownership changes that have resulted in limitations on the use of a portion of our net operating loss carryforwards. If we experience further ownership changes in connection with or after this offering, our ability to utilize our net operating loss carryforwards could be further limited.

Our internal computer systems, or those of our development partners, third-party clinical research organizations or other contractors or consultants, may fail or suffer security breaches, which could result in a material disruption of our product development programs.

Despite the implementation of security measures, our internal computer systems and those of our development partners, third-party clinical research organizations and other contractors and consultants are vulnerable to damage from computer viruses, unauthorized access, natural disasters, terrorism, war and telecommunication and electrical failures. While we have not experienced any such system failure, accident or security breach to date, if such an event were to occur and cause interruptions in our operations, it could result in a material disruption of our programs. For example, the loss of clinical trial data for any of our product candidates could result in delays in our regulatory approval efforts and significantly increase our costs to recover or reproduce the data. To the extent that any disruption or security breach results in a loss of or damage to our data or applications or other data or applications relating to our technology or product candidates, or inappropriate disclosure of confidential or proprietary information, we could incur liabilities and the further development of our product candidates could be delayed.

 

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We use hazardous chemicals and biological materials in our business. Any claims relating to improper handling, storage or disposal of these materials could be time consuming and costly. We may incur significant costs complying with environmental laws and regulations.

Our research and development and manufacturing processes involve the controlled use of hazardous materials, including chemicals and biological materials. Our operations produce hazardous waste products. We cannot eliminate the risk of accidental contamination or discharge and any resultant injury from these materials. We may be sued for any injury or contamination that results from our use or the use by third parties of these materials, and our liability may exceed our insurance coverage and our total assets. Federal, state and local laws and regulations govern the use, manufacture, storage, handling and disposal of these hazardous materials and specified waste products, as well as the discharge of pollutants into the environment and human health and safety matters. Compliance with environmental laws and regulations may be expensive and may impair our research, development and production efforts. If we fail to comply with these requirements, we could incur substantial costs, including civil or criminal fines and penalties, clean-up costs or capital expenditures for control equipment or operational changes necessary to achieve and maintain compliance. In addition, we cannot predict the impact on our business of new or amended environmental laws or regulations or any changes in the way existing and future laws and regulations are interpreted and enforced.

Our employees may engage in misconduct or other improper activities, including noncompliance with regulatory standards and requirements and insider trading.

We are exposed to the risk of employee fraud or other misconduct. Misconduct by employees could include intentional failures to comply with the regulations of the FDA or foreign regulators, failure to provide accurate information to regulatory authorities, failure to comply with manufacturing standards we have established, failure to comply with federal and state health care fraud and abuse laws and regulations in the United States and abroad, failure to report financial information or data accurately or disclose unauthorized activities to us. In particular, sales, marketing and business arrangements in the healthcare industry are subject to extensive laws and regulations intended to prevent fraud, misconduct, kickbacks, self-dealing and other abusive practices. These laws and regulations may restrict or prohibit a wide range of pricing, discounting, marketing and promotion, sales commission, customer incentive programs and other business arrangements. Employee misconduct could also involve the improper use of information obtained in the course of clinical trials, which could result in regulatory sanctions and cause harm to our reputation. We have adopted a code of business conduct and ethics, but it is not always possible to identify and deter employee misconduct, and the precautions we take to detect and prevent this activity may not be effective in controlling unknown or unmanaged risks or losses or in protecting us from governmental investigations or other actions or lawsuits stemming from a failure to comply with these laws or regulations. If any such actions are instituted against us, and we are not successful in defending ourselves or asserting our rights, those actions could have a significant impact on our business, including the imposition of significant fines or other sanctions.

In addition, during the course of our operations our directors, executives and employees may have access to material, nonpublic information regarding our business, our results of operations or potential transactions we are considering. We may not be able to prevent a director, executive or employee from trading in our common stock on the basis of, or while having access to, material, nonpublic information. If a director, executive or employee was to be investigated or an action was to be brought against a director, executive or employee for insider trading, it could have a negative impact on our reputation and our stock price. Such a claim, with or without merit, could also result in substantial expenditures of time and money and divert attention of our management team from other tasks important to the success of our business.

Requirements associated with being a public reporting company will increase our costs significantly, as well as divert significant company resources and management attention.

We will be subject to the reporting requirements of the Securities Exchange Act and the other rules and regulations of the SEC upon consummation of this offering. We are working with our legal, independent accounting and financial advisors to identify those areas in which changes should be made to our financial and

 

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management control systems to manage our growth and our obligations as a public reporting company. These areas include corporate governance, corporate control, disclosure controls and procedures, and financial reporting and accounting systems. We have made, and will continue to make, changes in these and other areas. Compliance with the various reporting and other requirements applicable to public reporting companies will require considerable time, attention of management and financial resources. In addition, the changes we make may not be sufficient to allow us to satisfy our obligations as a public reporting company on a timely basis.

Further, the listing requirements of NASDAQ require that we satisfy certain corporate governance requirements relating to director independence, distributing annual and interim reports, stockholder meetings, approvals and voting, soliciting proxies, conflicts of interest and a code of conduct. Our management and other personnel will need to devote a substantial amount of time to ensure that we comply with all of these requirements. Moreover, the reporting requirements, rules and regulations will increase our legal and financial compliance costs and will make some activities more time-consuming and costly. These reporting requirements, rules and regulations, coupled with the increase in potential litigation exposure associated with being a public company, could also make it more difficult for us to attract and retain qualified persons to serve as our directors or executive officers, or to obtain certain types of insurance, including directors’ and officers’ insurance, on acceptable terms.

Our business is subject to the risks of earthquakes, fire, power outages, floods and other catastrophic events, and to interruption by manmade problems such as terrorism. If any of our manufacturing, processing or storage facilities are damaged or destroyed, our business and prospects would be adversely affected.

A significant natural disaster, such as an earthquake, fire or flood, or a significant power outage, could have a material adverse impact on our business, operating results and financial condition. If any of our manufacturing, processing or storage facilities, or any of the equipment in such facilities were to be damaged or destroyed, this would force us to delay or halt our clinical trial or commercial production processes. We currently produce materials for our clinical trials at our manufacturing facilities located in Waltham, Massachusetts. If these facilities or the equipment in them are significantly damaged or destroyed, we may not be able to quickly or inexpensively replace our manufacturing capacity. In addition, natural disasters could affect our third-party service providers’ and manufacturers ability to perform services and provide materials for us on a timely basis. If these third parties do not successfully carry out their contractual duties or meet expected deadlines, our efforts to obtain regulatory approvals for, and to commercialize, our product candidates may be delayed or prevented. For example, if a central laboratory holding all of our clinical product supply were to suffer a catastrophic loss of their facility, we would be required to delay our clinical trials. In addition, acts of terrorism could cause disruptions in our business or the business of our third-party service providers, partners, customers or the economy as a whole.

Risks Related to Regulatory Approval

If we fail to complete clinical trials and obtain regulatory approval for NeoCart, our business would be significantly harmed.

We have not completed clinical development for any of our product candidates and will only obtain regulatory approval to commercialize a product candidate if we can demonstrate to the satisfaction of the FDA or comparable foreign regulatory authorities in well-designed and conducted clinical trials that the product candidate is safe, effective, and otherwise meets the appropriate standards required for approval for a particular class of products or indication. Clinical trials are lengthy, complex and extremely expensive processes with uncertain results. A failure of one or more clinical trials may occur at any stage. Of the large number of products in development, only a small percentage successfully complete the FDA regulatory approval process and are commercialized.

We have never obtained marketing approval from the FDA or any comparable foreign regulatory authority for any product candidate. Our ability to obtain regulatory approval of our product candidates depends on, among other things, whether our clinical trials demonstrate statistically significant efficacy with safety issues that do not potentially outweigh the therapeutic benefit of the product candidates, and whether the regulatory agencies agree

 

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that the data from our future clinical trials is sufficient to support approval for any of our product candidates. The final results of our current and future clinical trials may not meet the FDA’s or other regulatory agencies’ requirements to approve a product candidate for marketing, and the regulatory agencies may otherwise determine that our manufacturing processes or facilities are insufficient to support approval. We may need to conduct more clinical trials than we currently anticipate. Even if we do receive FDA or other regulatory agency approval, we may not be successful in commercializing approved product candidates. If any of these events occur, our business could be materially harmed and the value of our common stock would likely decline.

Our clinical development of NeoCart could be substantially delayed if the FDA requires us to conduct additional studies or trials or imposes other requirements or restrictions.

We will need to generate and provide the FDA with comparability data from our new raw material production for the collagen critical raw materials used in our manufacturing process and intended for clinical use. The FDA may also require us to generate additional preclinical or clinical data to support the use of these new critical raw material suppliers in our NeoCart trial. Additionally, the FDA may impose other requirements on the protocol for our NeoCart trial. These additional requirements may cause further delays in our NeoCart trial which could require us to incur additional development costs, seek funding for these increased costs or delay or cease our clinical development activities for NeoCart. Any inability to advance NeoCart or any other product candidate through clinical development would have a material adverse effect on our business. For example, the recently enacted Food and Drug Administration Safety and Innovation Act made permanent the Pediatric Research Equity Act, which requires a sponsor to conduct pediatric studies for most tissue regeneration products for a new active ingredient, new indication, new dosage form, new dosing regimen or new route of administration. Under the Pediatric Research Equity Act, original New Drug Applications and Biologic Licensing Applications and supplements thereto must contain a pediatric assessment unless the sponsor has received a deferral or waiver. The required assessment must evaluate the safety and effectiveness of the product for the claimed indications in all relevant pediatric subpopulations and support dosing and administration for each pediatric subpopulation for which the product is safe and effective. The sponsor or FDA may request a deferral of pediatric studies for some or all of the pediatric subpopulations, and it is likely that we will request such a deferral. A deferral may be granted for several reasons, including a finding that the tissue regeneration products is ready for approval for use in adults before pediatric studies are complete or that additional safety or effectiveness data needs to be collected before the pediatric studies begin. The FDA must send a non-compliance letter to any sponsor that fails to submit the required assessment, keep a deferral current or fails to submit a request for approval of a pediatric formulation.

We are subject to numerous U.S. federal and state laws pertaining to health care fraud and abuse, including anti-kickback, self-referral, false claims and fraud laws, and any violation by us of such laws could result in fines or other penalties.

If one or more of our product candidates is approved, we will be subject to U.S. federal and state laws intended to prevent health care fraud and abuse. The federal anti-kickback statute prohibits the offer, receipt, or payment of remuneration in exchange for or to induce the referral of patients or the use of products or services that would be paid for in whole or part by Medicare, Medicaid or other federal health care programs. Remuneration has been broadly defined to include anything of value, including cash, improper discounts, and free or reduced price items and services. Many states have similar laws that apply to their state health care programs as well as private payors. Violations of the anti-kickback laws can result in exclusion from federal health care programs and substantial civil and criminal penalties.

The False Claims Act imposes liability on persons who, among other things, present or cause to be presented false or fraudulent claims for payment by a federal health care program. The False Claims Act has been used to prosecute persons submitting claims for payment that are inaccurate or fraudulent, that are for services not provided as claimed, or for services that are not medically necessary. The False Claims Act includes a whistleblower provision that allows individuals to bring actions on behalf of the federal government and share a portion of the recovery of successful claims. If our marketing or other arrangements were determined to violate

 

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the False Claims Act or anti-kickback or related laws, then our revenue could be adversely affected, which would likely harm our business, financial condition and results of operations.

State and federal authorities have aggressively targeted medical technology companies for alleged violations of these anti-fraud statutes, based on improper research or consulting contracts with doctors, certain marketing arrangements that rely on volume-based pricing, off-label marketing schemes and other improper promotional practices. Companies targeted in such prosecutions have paid substantial fines in the hundreds of millions of dollars or more, have been forced to implement extensive corrective action plans or Corporate Integrity Agreements, and have often become subject to consent decrees severely restricting the manner in which they conduct their business. If we become the target of such an investigation or prosecution based on our contractual relationships with providers or institutions, or our marketing and promotional practices, we could face similar sanctions, which would materially harm our business.

Also, the Foreign Corrupt Practices Act and similar worldwide anti-bribery laws generally prohibit companies and their intermediaries from making improper payments to non-U.S. officials for the purpose of obtaining or retaining business. We cannot assure you that our internal control policies and procedures will protect us from reckless or negligent acts committed by our employees, future distributors, partners, collaborators or agents. Violations of these laws, or allegations of such violations, could result in fines, penalties or prosecution and have a negative impact on our business, results of operations and reputation.

Our failure to comply with extensive governmental regulation may significantly affect our operating results.

Even if we obtain regulatory approval for some or all of our product candidates, we will continue to be subject to extensive ongoing requirements by the FDA, as well as by a number of foreign, national, state and local agencies. These regulations will impact many aspects of our operations, including testing, research and development, manufacturing, safety, efficacy, labeling, storage, quality control, adverse event reporting, import and export, record keeping, approval, distribution, advertising and promotion of our future products. We must also submit new or supplemental applications and obtain FDA approval for certain changes to an approved product, product labeling or manufacturing process. Application holders must also submit advertising and other promotional material to the FDA and report on ongoing clinical trials. The FDA enforces post-marketing regulatory requirements, including cGMP requirements, through periodic unannounced inspections. We do not know whether we will pass any future FDA inspections. Failure to pass an inspection could disrupt, delay or shut down our manufacturing operations. Failure to comply with applicable regulatory requirements could, among other things, result in:

 

   

administrative or judicial enforcement actions;

 

   

changes to advertising;

 

   

failure to obtain marketing approvals for our product candidates;

 

   

revocation or suspension of regulatory approvals of products;

 

   

product seizures or recalls;

 

   

court-ordered injunctions;

 

   

import detentions;

 

   

delay, interruption or suspension of product manufacturing, distribution, marketing and sales; or

 

   

civil or criminal sanctions.

The discovery of previously unknown problems with our product candidates or future products may result in restrictions of the products, including withdrawal from the market. In addition, the FDA may revisit and change its prior determinations with regard to the safety or efficacy of our future products. If the FDA’s position changes, we may be required to change our labeling or cease to manufacture and market our future products. Even prior to any formal regulatory action, we could voluntarily decide to cease the distribution and sale or recall any of our future products if concerns about their safety or efficacy develop.

 

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In their regulation of advertising and other promotion, the FDA and the U.S. Federal Trade Commission may issue correspondence alleging that some advertising or promotional practices are false, misleading or deceptive. The FDA and the U.S. Federal Trade Commission are authorized to impose a wide array of sanctions on companies for such advertising and promotion practices, which could result in any of the following:

 

   

our incurrence of substantial expenses, including fines, penalties, legal fees and costs to comply with the FDA’s requirements;

 

   

our being required to change in the methods of marketing and selling products;

 

   

our being required to take FDA mandated corrective action, which may include placing advertisements or sending letters to physicians rescinding previous advertisements or promotions; or

 

   

a disruption in the distribution of products and loss of sales until compliance with the FDA’s position is obtained.

Improper promotional activities may also lead to investigations by federal or state prosecutors, and result in criminal and civil penalties. If we become subject to any of the above requirements, it could be damaging to our reputation and restrict our ability to sell or market our future products, and our business condition could be adversely affected. We may also incur significant expenses in defending ourselves.

Physicians may prescribe pharmaceutical or biologic products for uses that are not described in a product’s labeling or differ from those tested by us and approved by the FDA. While such “off-label” uses are common and the FDA does not regulate physicians’ choice of treatments, the FDA does restrict a manufacturer’s communications on the subject of off-label use. Companies cannot promote FDA-approved pharmaceutical or biologic products for off-label uses, but under certain limited circumstances they may disseminate to practitioners’ articles published in peer-reviewed journals. To the extent allowed by the FDA, we intend to disseminate peer-reviewed articles on our future products to practitioners. If, however, our activities fail to comply with the FDA’s regulations or guidelines, we may be subject to warnings from, or enforcement action by, the FDA or other regulatory or law enforcement authorities.

Depending on the circumstances, failure to meet post-approval requirements can result in criminal prosecution, fines or other penalties, injunctions, recall or seizure of products, total or partial suspension of production, denial or withdrawal of pre-marketing product approvals, or refusal to allow us to enter into supply contracts, including government contracts. Any government investigation of alleged violations of law could require us to expend significant time and resources in response, and could generate negative publicity.

Even if we obtain regulatory approval for a product candidate, our products will remain subject to regulatory scrutiny.

Any product candidate for which we obtain marketing approval, along with the manufacturing processes, qualification testing, post-approval clinical data, labeling and promotional activities for such product, will be subject to continuing and additional requirements of the FDA and other regulatory authorities. These requirements include submissions of safety and other post-marketing information, reports, registration and listing requirements, cGMP requirements relating to quality control, quality assurance and corresponding maintenance of records and documents, and recordkeeping. Even if marketing approval of a product candidate is granted, the approval may be subject to limitations on the indicated uses for which the product may be marketed or to conditions of approval, or contain requirements for costly post-marketing testing and surveillance to monitor the safety or efficacy of the product. The FDA closely regulates the post-approval marketing and promotion of pharmaceutical and biological products to ensure such products are marketed only for the approved indications and in accordance with the provisions of the approved labeling.

 

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In addition, later discovery of previously unknown problems with our products, manufacturing processes, or failure to comply with regulatory requirements, may lead to various adverse results, including:

 

   

restrictions on such products, manufacturers or manufacturing processes;

 

   

restrictions on the labeling or marketing of a product;

 

   

restrictions on product distribution or use;

 

   

requirements to conduct post-marketing clinical trials;

 

   

requirements to institute a risk evaluation and mitigation strategy to monitor safety of the product post-approval;

 

   

warning letters issued by the FDA or other regulatory authorities;

 

   

withdrawal of the products from the market;

 

   

refusal to approve pending applications or supplements to approved applications that we submit;

 

   

recalls of products, fines, restitution or disgorgement of profits or revenue;

 

   

suspension, revocation or withdrawal of marketing approvals;

 

   

refusal to permit the import or export of our products; or

 

   

injunctions or the imposition of civil or criminal penalties.

The FDA’s policies may change and additional government regulations may be enacted that could prevent, limit or delay regulatory approval of our product candidates. If we are slow or unable to adapt to changes in existing requirements or the adoption of new requirements or policies, or if we are not able to maintain regulatory compliance, we may lose any marketing approval that we may have obtained, which would adversely affect our business, prospects and ability to achieve or sustain profitability.

Risks Related to Our Intellectual Property

Our success depends on our ability to protect our intellectual property and our proprietary technologies.

Our commercial success depends in part on our ability to obtain and maintain patent protection and trade secret protection for our product candidates, proprietary technologies and their uses as well as our ability to operate without infringing upon the proprietary rights of others. There can be no assurance that our patent applications or those of our licensors will result in additional patents being issued or that issued patents will afford sufficient protection against competitors with similar technology, nor can there be any assurance that the patents issued will not be infringed, designed around, or invalidated by third parties. Even issued patents may later be found unenforceable or may be modified or revoked in proceedings instituted by third parties before various patent offices or in courts. The degree of future protection for our proprietary rights is uncertain. Only limited protection may be available and may not adequately protect our rights or permit us to gain or keep any competitive advantage. This failure to properly protect the intellectual property rights relating to these product candidates could have a material adverse effect on our financial condition and results of operations.

Composition-of-matter patents are generally considered to be the strongest form of intellectual property protection as such patents provide protection without regard to any method of use. We cannot be certain that the claims in our patent applications covering composition-of-matter of our product candidates will be considered patentable by the U.S. Patent and Trademark Office and courts in the United States or by the patent offices and courts in foreign countries, nor can we be certain that the claims in our issued composition-of-matter patents will not be found invalid or unenforceable if challenged. Method-of-use patents protect the use of a product for the specified method. This type of patent does not prevent a competitor from making and marketing a product that is identical to our product for a use that is outside the scope of the patented method. Moreover, even if competitors do not actively promote their product for our targeted indications, physicians may prescribe these products “off-

 

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label.” Although off-label prescriptions may infringe or contribute to the infringement of method-of-use patents, the practice is common and such infringement is difficult to prevent or prosecute.

The patent application process is subject to numerous risks and uncertainties, and there can be no assurance that we or any of our future development partners will be successful in protecting our product candidates by obtaining and defending patents. These risks and uncertainties include the following:

 

   

The U.S. Patent and Trademark Office and various foreign governmental patent agencies require compliance with a number of procedural, documentary, fee payment and other provisions during the patent process. There are situations in which noncompliance can result in abandonment or lapse of a patent or patent application, resulting in partial or complete loss of patent rights in the relevant jurisdiction. In such an event, competitors might be able to enter the market earlier than would otherwise have been the case.

 

   

Patent applications may not result in any patents being issued.

 

   

Patents that may be issued or in-licensed may be challenged, invalidated, modified, revoked, circumvented, found to be unenforceable, or otherwise may not provide any competitive advantage.

 

   

Our competitors, many of whom have substantially greater resources than we do and many of whom have made significant investments in competing technologies, may seek or may have already obtained patents that will limit, interfere with, or eliminate our ability to make, use and sell our potential product candidates.

 

   

There may be significant pressure on the U.S. government and international governmental bodies to limit the scope of patent protection both inside and outside the United States for treatments that prove successful, as a matter of public policy regarding worldwide health concerns.

 

   

Countries other than the United States may have patent laws less favorable to patentees than those upheld by U.S. courts, allowing foreign competitors a better opportunity to create, develop, and market competing product candidates.

In addition, we rely on the protection of our trade secrets and proprietary know-how. Although we have taken steps to protect our trade secrets and unpatented know-how, including entering into confidentiality agreements with third parties, and confidential information and inventions agreements with employees, consultants and advisors, third parties may still obtain this information or may come upon this or similar information independently. If any of these events occurs or if we otherwise lose protection for our trade secrets or proprietary know-how, the value of this information may be greatly reduced.

If we or any of our future development partners are sued for infringing intellectual property rights of third parties, it will be costly and time consuming, and an unfavorable outcome in that litigation could have a material adverse effect on our business.

Our success also depends on our ability and the ability of our future development partners to develop, manufacture, market and sell our product candidates without infringing upon the proprietary rights of third parties. Numerous U.S.- and foreign-issued patents and pending patent applications owned by third parties exist in the fields in which we are developing product candidates, some of which may contain claims that overlap with the subject matter of our intellectual property or are directed at our product candidates. When we become aware of patents held by third parties that may implicate the manufacture, development or commercialization of our product candidates, we evaluate our need to license rights to such patents. If we need to license rights from third parties to manufacture, develop or commercialize our product candidates, there can be no assurance that we will be able to obtain a license on commercially reasonable terms or at all.

Because patent applications can take many years to issue there may be currently pending applications, unknown to us, that may later result in issued patents upon which our product candidates or proprietary technologies may infringe. Similarly, there may be issued patents relevant to our product candidates of which we are not aware.

 

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There is a substantial amount of litigation involving patent and other intellectual property rights in the biologics industry generally. If a third party claims that we or any of our licensors, suppliers or development partners infringe upon a third-party’s intellectual property rights, we may have to:

 

   

seek to obtain licenses that may not be available on commercially reasonable terms, if at all;

 

   

abandon an infringing product candidate or redesign our products or processes to avoid infringement;

 

   

pay substantial damages including, in an exceptional case, treble damages and attorneys’ fees, which we may have to pay if a court decides that the product candidate or proprietary technology at issue infringes upon or violates the third-party’s rights;

 

   

pay substantial royalties or fees or grant cross-licenses to our technology; or

 

   

defend litigation or administrative proceedings that may be costly whether we win or lose, and which could result in a substantial diversion of our financial and management resources.

We may be involved in lawsuits to protect or enforce our patents or the patents of our licensors, which could be expensive, time consuming and unsuccessful.

Competitors may infringe upon our patents or the patents of our licensors. To counter infringement or unauthorized use, we may be required to file infringement claims, which can be expensive and time consuming. An adverse result in any litigation or defense proceedings could put one or more of our patents at risk of being invalidated, found to be unenforceable or interpreted narrowly and could put our patent applications at risk of not issuing. Furthermore, because of the substantial amount of discovery required in connection with intellectual property litigation, there is a risk that some of our confidential information could be compromised by disclosure during this type of litigation.

Most of our competitors are larger than we are and have substantially greater resources. They are, therefore, likely to be able to sustain the costs of complex patent litigation longer than we could. In addition, the uncertainties associated with litigation could have a material adverse effect on our ability to raise the funds necessary to continue our clinical trials, continue our internal research programs, in-license needed technology, or enter into development partnerships that would help us bring our product candidates to market.

In addition, any future patent litigation, interference or other administrative proceedings will result in additional expense and distraction of our personnel. An adverse outcome in such litigation or proceedings may expose us, or any of our future development partners to loss of our proprietary position, expose us to significant liabilities or require us to seek licenses that may not be available on commercially acceptable terms, if at all.

Our issued patents could be found invalid or unenforceable if challenged in court which could have a material adverse effect on our business.

If we or any of our future development partners were to initiate legal proceedings against a third party to enforce a patent covering one of our product candidates or one of our future product candidates, the defendant could counterclaim that our patent is invalid or unenforceable. In patent litigation in the United States, defendant counterclaims alleging invalidity or unenforceability are commonplace. Grounds for a validity challenge could be an alleged failure to meet any of several statutory requirements, including lack of novelty, obviousness or non- enablement. Grounds for an unenforceability assertion could be an allegation that someone connected with prosecution of the patent withheld relevant information from the U.S. Patent and Trademark Office, or made a misleading statement, during prosecution. Third parties may also raise similar claims before the U.S. Patent and Trademark Office even outside the context of litigation. The outcome following legal assertions of invalidity and unenforceability is unpredictable. With respect to the validity question, for example, we cannot be certain that there is no invalidating prior art, of which we and the patent examiner were unaware during prosecution. If a defendant were to prevail on a legal assertion of invalidity or unenforceability, we would lose at least part, and perhaps all, of the patent protection on such product candidate. Such a loss of patent protection would have a material adverse impact on our business.

 

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We may be subject to claims that our consultants or independent contractors have wrongfully used or disclosed alleged trade secrets of their other clients or former employers to us, which could subject us to costly litigation.

As is common in the biotechnology industry, we engage the services of consultants to assist us in the development of our product candidates. Many of these consultants were previously employed at, or may have previously or may be currently providing consulting services to, other biotechnology or pharmaceutical companies, including our competitors or potential competitors. We may become subject to claims that our company or a consultant inadvertently or otherwise used or disclosed trade secrets or other information proprietary to their former employers or their former or current clients. Litigation may be necessary to defend against these claims. Even if we are successful in defending against these claims, litigation could result in substantial costs and be a distraction to our management team.

Changes in U.S. patent law could diminish the value of patents in general, which could materially impair our ability to protect our product candidates.

As is the case with other biotechnology companies, our success is heavily dependent on intellectual property, particularly patents. Obtaining and enforcing patents in the biotechnology industry involve technological and legal complexity. Therefore, obtaining and enforcing biotechnology patents is costly, time consuming and inherently uncertain. In addition, Congress recently passed patent reform legislation. The Supreme Court has ruled on several patent cases in recent years, either narrowing the scope of patent protection available in certain circumstances or weakening the rights of patent owners in certain situations. In addition to increasing uncertainty with regard to our ability to obtain patents in the future, this combination of events has created uncertainty with respect to the value of patents, once obtained. Depending on decisions by the U.S. Congress, the federal courts and the U.S. Patent and Trademark Office, the laws and regulations governing patents could change in unpredictable ways that would weaken our ability to obtain new patents or to enforce our existing patents and patents we might obtain in the future.

We may not be able to protect our intellectual property rights throughout the world which could materially, negatively affect our business.

Filing, prosecuting and defending patents on product candidates in all countries throughout the world would be prohibitively expensive, and our intellectual property rights in some countries outside the United States can be less extensive than those in the United States. In addition, the laws of some foreign countries do not protect intellectual property rights to the same extent as federal and state laws in the United States. Consequently, we may not be able to prevent third parties from practicing our inventions in all countries outside the United States, or from selling or importing products made using our inventions in and into the United States or other jurisdictions. Competitors may use our technologies in jurisdictions where we have not obtained patent protection to develop their own products and further, may export otherwise infringing products to territories where we have patent protection, but enforcement is not as strong as that in the United States. These products may compete with our product candidates and our patents or other intellectual property rights may not be effective or sufficient to prevent them from competing.

Many companies have encountered significant problems in protecting and defending intellectual property rights in foreign jurisdictions. The legal systems of certain countries, particularly certain developing countries, do not favor the enforcement of patents and other intellectual property protection, particularly those relating to biotechnology, which could make it difficult for us to stop the infringement of our patents or marketing of competing products in violation of our proprietary rights generally. Proceedings to enforce our patent rights in foreign jurisdictions could result in substantial costs and divert our efforts and attention from other aspects of our business, could put our patents at risk of being invalidated or interpreted narrowly and our patent applications at risk of not issuing and could provoke third parties to assert claims against us. We may not prevail in any lawsuits that we initiate and the damages or other remedies awarded, if any, may not be commercially meaningful. Accordingly, our efforts to enforce our intellectual property rights around the world may be inadequate to obtain a significant commercial advantage from the intellectual property that we develop or license and may adversely effect our business.

 

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If our trademarks and trade names are not adequately protected, then we may not be able to build name recognition in our markets of interest and our business may be adversely affected.

Our registered or unregistered trademarks or trade names may be challenged, infringed, circumvented or declared generic or determined to be infringing on other marks. We may not be able to protect our rights to these trademarks and trade names, which we need to build name recognition by potential partners or customers in our markets of interest. Over the long term, if we are unable to establish name recognition based on our trademarks and trade names, then we may not be able to compete effectively and our business may be adversely affected.

Risks Related to Our Common Stock and this Offering

The trading price of our common stock is likely to be volatile, and you might not be able to sell your shares at or above the initial public offering price.

There has been no public market for our common stock prior to this offering, and the initial public offering price of our common stock was determined by negotiations between us and the underwriters and may not be indicative of the future prices of our common stock. The market price of our common stock could be subject to wide fluctuations in response to various factors, many of which are beyond our control. These factors include those discussed elsewhere in this “Risk Factors” section and others such as:

 

   

the delay or failure in initiating or completing preclinical studies or clinical trials, or unsatisfactory results of these trials;

 

   

announcements about us or about our competitors including clinical trial results, regulatory approvals, or new product candidate introductions;

 

   

developments concerning our current or future development partner, licensors or product candidate manufacturers;

 

   

litigation and other developments relating to our patents or other proprietary rights or those of our competitors;

 

   

conditions in the pharmaceutical or biotechnology industries and the economy as a whole;

 

   

governmental regulation and legislation;

 

   

the recruitment or departure of members of our board of directors, management team or other key personnel, including recruitment of a new chief executive officer;

 

   

changes in our operating results;

 

   

any changes in the financial projections we may provide to the public, our failure to meet these projections, or changes in recommendations by any securities analysts that elect to follow our common stock;

 

   

any change in securities analysts’ estimates of our performance, or our failure to meet analysts’ expectations;

 

   

the expiration of market standoff or contractual lock-up agreements;

 

   

sales or potential sales of substantial amounts of our common stock; and

 

   

price and volume fluctuations in the overall stock market or resulting from inconsistent trading volume levels of our shares.

In recent years, the stock market in general, and the market for pharmaceutical and biotechnological companies in particular, has experienced extreme price and volume fluctuations that have often been unrelated or disproportionate to changes in the operating performance of the companies whose stock is experiencing those price and volume fluctuations. Broad market and industry factors may seriously affect the market price of our common stock, regardless of our actual operating performance. These fluctuations may be even more pronounced in the trading market for our stock shortly following this offering.

 

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As a newly public company, our stock price may be volatile, and securities class action litigation has often been instituted against companies following periods of volatility of their stock price. Any such litigation, if instituted against us, could result in substantial costs and a diversion of our management’s attention and resources.

In the past, following periods of volatility in the overall market and the market price of a particular company’s securities, securities class action litigation has often been instituted against these companies. This litigation, if instituted against us, could result in substantial costs and a diversion of our management’s attention and resources.

No public market for our common stock currently exists, and an active trading market may not develop or be sustained following this offering.

Prior to this offering, there has been no public market for our common stock. An active trading market may not develop following the closing of this offering or, if developed, may not be sustained. The lack of an active market may impair your ability to sell your shares at the time you wish to sell them or at a price that you consider reasonable. The lack of an active market may also reduce the fair market value of your shares. An inactive market may also impair our ability to raise capital to continue to fund operations by selling shares and may impair our ability to acquire other companies or technologies by using our shares as consideration.

If securities analysts do not publish research or publish unfavorable research about our business, our stock price and trading volume could decline.

The trading market for our common stock will depend in part on the research and reports that securities and industry analysts publish about us or our business. We do not currently have and may never obtain research coverage by securities analysts. If no or few securities or industry analysts commence coverage of our company, the trading price for our stock could suffer. In the event we obtain securities or industry analyst coverage, if one or more of the analysts who covers us downgrades our stock or publishes unfavorable research about our business, or if our clinical trials or operating results fail to meet the analysts’ expectations, our stock price would likely decline. If one or more of these analysts ceases coverage of our company or fails to publish reports on us regularly, demand for our stock could decrease, which could cause our stock price and trading volume to decline.

As an investor participating in this offering, you will experience substantial dilution as a result of this offering and future equity issuances.

The initial public offering price per share is substantially higher than the pro forma net tangible book value per share of our common stock outstanding prior to this offering. As a result, investors purchasing common stock in this offering will experience immediate substantial dilution of $         per share, based on the initial public offering price of $         per share the midpoint of the initial public offering price range reflected on the cover page of this prospectus. In addition, to the extent currently outstanding options or warrants are exercised, there will be further dilution to investors in this offering. In addition, we may raise additional capital through public or private equity or debt offerings, subject to market conditions. To the extent that additional capital is raised through the sale of equity or convertible debt securities, the issuance could result in further dilution to our stockholders.

Raising additional funds by issuing securities or through licensing or lending arrangements may cause dilution to our existing stockholders, restrict our operations or require us to relinquish proprietary rights.

We will need to raise additional funding in order to complete the clinical development of, create additional manufacturing capacity and to commercialize NeoCart and to conduct the research and development and clinical and regulatory activities necessary to bring other product candidates to market. To the extent that we raise additional capital by issuing equity securities, the share ownership of existing stockholders will be diluted. Any future debt financing may involve covenants that restrict our operations, including limitations on our ability to incur liens or additional debt, pay dividends, redeem our stock, make certain investments, and engage in certain

 

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merger, consolidation, or asset sale transactions. In addition, if we seek funds through arrangements with collaborative partners, these arrangements may require us to relinquish rights to some of our technologies or product candidates or otherwise agree to terms unfavorable to us.

Our management will have broad discretion over the actual amounts and timing of the expenditures of the proceeds we receive in this offering and might not apply the proceeds in ways that enhance our operating results or increase the value of your investment.

We expect to use the net proceeds from this offering primarily to develop and advance NeoCart through clinical trials, as well as for working capital and general corporate purposes. Our management will have broad discretion as to the actual amounts and timing of the expenditures of the net proceeds from this offering, and you will be relying on the judgment of our management regarding the application of these proceeds. Our management might not apply the net proceeds of this offering in ways that enhance our operating results or increase the value of your investment. Additionally, until the net proceeds we receive are used, they may be placed in investments that do not produce income or that lose value.

We have never paid and do not intend to pay cash dividends and, consequently, your ability to achieve a return on your investment will depend on appreciation in the price of our common stock.

We have never paid cash dividends on any of our capital stock, and we currently intend to retain future earnings, if any, to fund the development and growth of our business. Therefore, you are not likely to receive any dividends on our common stock for the foreseeable future or at all. Since we do not intend to pay dividends, your ability to receive a return on your investment will depend on any future appreciation in the market value of our common stock. There is no guarantee that our common stock will appreciate or even maintain the price at which you have purchased it.

Our principal stockholders and management own a significant percentage of our stock and will be able to exert significant control over matters subject to stockholder approval.

As of December 31, 2013, our executive officers, directors, holders of more than 5% of our capital stock and their respective affiliates beneficially owned 71.3% of our outstanding capital stock and, upon the closing of this offering, that same group will beneficially own     % of our outstanding capital stock (assuming no exercise of the underwriters’ over-allotment option). Therefore, these stockholders will have the ability to influence us through their ownership position after this offering. These stockholders may be able to determine all matters requiring stockholder approval. For example, these stockholders may be able to control elections of directors, amendments of our organizational documents, or approval of any merger, sale of assets, or other major corporate transaction. This may prevent or discourage unsolicited acquisition proposals or offers for our common stock that you may feel are in your best interest as one of our stockholders.

Substantial future sales of shares by existing stockholders, or the perception that such sales may occur, could cause our stock price to decline.

If our existing stockholders, particularly our directors and executive officers and the venture capital funds affiliated with our current and former directors, sell substantial amounts of our common stock in the public market, or are perceived by the public market as intending to sell substantial amounts of our common stock, the trading price of our common stock could decline below the initial public offering price. Based on shares outstanding as of December 31, 2013, upon completion of this offering, we will have                  outstanding shares of common stock. Of these shares, only the shares of common stock sold in this offering and registered shares issued pursuant to our equity plans will be freely tradable in the public market, subject to any applicable lock-up agreements or Rule 144 transfer restrictions applicable to affiliates. Our officers, directors and holders of substantially all of our equity securities have entered into contractual lock-up agreements with the underwriters pursuant to which they have agreed, subject to certain exceptions, not to sell or otherwise transfer any of their common stock or securities convertible into or exchangeable for shares of common stock for a period of 180 days after the date of the final prospectus for this offering. However, we and the lead underwriter in this offering may permit these holders to sell shares prior to the expiration of the lock-up agreements with the underwriters.

 

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Based on shares outstanding as of December 31, 2013, after the contractual lock-up agreements pertaining to this offering expire 180 days from the date of this prospectus, up to an additional 45,344,052 shares will be eligible for sale in the public market, 33,236,410 of which are held by directors, executive officers and other affiliates and will be subject to volume and other limitations under Rule 144 under the Securities Act.

The 5,287,144 shares that were subject to outstanding options as of December 31, 2013 will become eligible for sale in the public market to the extent permitted by the provisions of various vesting agreements, the contractual lock-up agreements, and Rules 144 and 701 under the Securities Act.

Some of our existing security holders have demand and piggyback rights to require us to register with the SEC up to 38,926,019 shares of our common stock, subject to expiration of the contractual lock-up agreements. If we register these shares of common stock, the stockholders would be able to sell those shares freely in the public market, subject to Rule 144 transfer restrictions applicable to affiliates.

We plan to register an additional                  shares of our common stock that we may issue under our equity plans. Once we issue these shares, they can be freely sold in the public market upon issuance, subject to any vesting restriction, contractual lock-up agreements, or Rule 144 transfer restrictions applicable to affiliates.

If any of these additional shares described are sold, or if it is perceived that they will be sold, in the public market, the trading price of our common stock could decline. For additional information, see “Shares Eligible for Future Sale.”

Provisions in our certificate of incorporation and bylaws and Delaware law might discourage, delay or prevent a change in control of our company or changes in our management and, therefore, depress the market price of our common stock.

Our certificate of incorporation and bylaws contain provisions that could depress the market price of our common stock by acting to discourage, delay or prevent a change in control of our company or changes in our management that the stockholders of our company may deem advantageous. These provisions among other things:

 

   

establish a classified board of directors so that not all members of our board are elected at one time;

 

   

permit the board of directors to establish the number of directors;

 

   

provide that directors may only be removed “for cause”;

 

   

require super-majority voting to amend some provisions in our certificate of incorporation and bylaws;

 

   

authorize the issuance of “blank check” preferred stock that our board of directors could use to implement a stockholder rights plan;

 

   

eliminate the ability of our stockholders to call special meetings of stockholders;

 

   

prohibit stockholder action by written consent, which requires all stockholder actions to be taken at a meeting of our stockholders;

 

   

provide that the board of directors is expressly authorized to make, alter or repeal our bylaws; and

 

   

establish advance notice requirements for nominations for election to our board of directors or for proposing matters that can be acted upon by stockholders at annual stockholder meetings.

In addition, Section 203 of the Delaware General Corporation Law may discourage, delay or prevent a change in control of our company. Section 203 imposes certain restrictions on merger, business combinations and other transactions between us and holders of 15% or more of our common stock.

 

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For information regarding these and other provisions, see “Description of Capital Stock.”

We are an emerging growth company and the extended transition period for complying with new or revised financial accounting standards and reduced disclosure and governance requirements applicable to emerging growth companies could make our common stock less attractive to investors.

We are an emerging growth company. Under the Jumpstart Our Business Startups Act, emerging growth companies can delay adopting new or revised accounting standards until such time as those standards apply to private companies. We plan to avail ourselves of this exemption from new or revised accounting standards and, therefore, we may not be subject to the same new or revised accounting standards as other public companies that are not emerging growth companies.

For as long as we continue to be an emerging growth company, we also intend to take advantage of certain other exemptions from various reporting requirements that are applicable to other public companies, including reduced disclosure obligations regarding executive compensation in our periodic reports and proxy statements, exemptions from the requirements of holding a nonbinding advisory stockholder vote on executive compensation and any golden parachute payments not previously approved, exemption from the requirement of auditor attestation on our internal control over financial reporting and exemption from any requirement that may be adopted by the Public Company Accounting Oversight Board regarding mandatory audit firm rotation or a supplement to the auditor’s report providing additional information about the audit and the financial statements (auditor discussion and analysis). If we do, the information that we provide stockholders may be different than what is available with respect to other public companies.

Investors could find our common stock less attractive because we will rely on these exemptions, which may make it more difficult for investors to compare our business with other companies in our industry. If some investors find our common stock less attractive as a result, there may be a less active trading market for our common stock and our stock price may be more volatile. In addition, it may be difficult for us to raise additional capital as and when we need it. If we are unable to do so, our financial condition and results of operations could be materially and adversely affected.

We will remain an emerging growth company until the earliest of (1) the end of the fiscal year in which the market value of our common stock that is held by non-affiliates exceeds $700 million as of the end of the second fiscal quarter, (2) the end of the fiscal year in which we have total annual gross revenue of $1 billion or more during such fiscal year, (3) the date on which we issue more than $1 billion in non-convertible debt in a three-year period or (4) December 31, 2019, the end of the fiscal year following the fifth anniversary of the completion of this offering.

 

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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

This prospectus contains forward-looking statements that involve risks and uncertainties. All statements, other than statements of historical facts, included in this prospectus regarding our strategy, future operations, future financial position, future revenue, projected costs, prospects, plans and objectives of management are forward-looking statements. The forward-looking statements are contained principally in “Prospectus Summary,” “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Business.” In some cases, you can identify forward-looking statements by terms such as “may,” “might,” “will,” “objective,” “intend,” “should,” “could,” “can,” “would,” “expect,” “believe,” “anticipate,” “project,” “target,” “design,” “estimate,” “predict,” “potential,” “plan” or the negative of these terms, and similar expressions intended to identify forward-looking statements. These statements reflect our current views with respect to future events and are based on assumptions and subject to risks and uncertainties. Given these uncertainties, you should not place undue reliance on these forward-looking statements. Forward-looking statements include statements about:

 

   

the timing and success of preclinical studies and clinical trials conducted by us and our development partners;

 

   

the ability to obtain and maintain regulatory approval of our product candidates and the labeling for any approved products;

 

   

the scope, progress, expansion and costs of developing and commercializing our product candidates;

 

   

our expectations regarding our expenses and revenue, the sufficiency of our cash resources, our future profitability and needs for additional financing;

 

   

our technology transfer and manufacturing location transition;

 

   

our ability to adequately manufacture our product candidates and the raw materials utilized therein;

 

   

our ability to obtain and maintain intellectual property protection for our product candidates;

 

   

our expectations regarding competition;

 

   

the size and growth of the potential markets for our product candidates and the ability to serve those markets;

 

   

the rate and degree of market acceptance of any of our product candidates;

 

   

our anticipated growth strategies;

 

   

the anticipated trends and challenges in our business and the market in which we operate;

 

   

our ability to establish and maintain development partnerships;

 

   

our ability to attract or retain key personnel, including a new chief executive officer;

 

   

our expectations regarding federal, state and foreign regulatory requirements;

 

   

regulatory developments in the United States and foreign countries; and

 

   

our expectations regarding the use of proceeds from this offering.

Forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from any future results, performances or achievements expressed or implied by the forward-looking statements.

Any forward-looking statement made by us in this prospectus speaks only as of the date on which it is made. Except as required by law, we assume no obligation to update these statements publicly, or to update the reasons actual results could differ materially from those anticipated in these statements, even if new information becomes available in the future.

 

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We discuss many of these risks in this prospectus in greater detail under “Risk Factors.” You should read this prospectus and the documents that we reference in this prospectus and have filed as exhibits to the registration statement, of which this prospectus is a part, completely and with the understanding that our actual future results may be materially different from what we expect. We qualify all of our forward-looking statements by these cautionary statements.

This prospectus also contains market data related to our business and industry. This market data includes projections that are based on a number of assumptions. If these assumptions turn out to be incorrect, actual results may differ from the projections based on these assumptions. As a result, our markets may not grow at the rates projected by this data, or at all. The failure of these markets to grow at these projected rates may have a material adverse effect on our business, results of operations, financial condition and the market price of our common stock.

This prospectus includes statistical data, estimates and forecasts that we obtained from industry publications and reports generated by third-party market research firms, including MedMarket Diligence. While we are not aware of any misstatements regarding any third-party data presented in this prospectus, their estimates, in particular as they relate to projections, involve numerous assumptions and are subject to risks and uncertainties as well as change based on various factors, including those discussed under “Risk Factors.”

 

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USE OF PROCEEDS

We estimate that we will receive net proceeds from this offering of $         million, assuming an initial public offering price of $         per share, the midpoint of the initial public offering price range reflected on the cover page of this prospectus, and after deducting the estimated underwriting discount and offering expenses payable by us. If the underwriters’ option to purchase additional shares in this offering is exercised in full, we estimate that our net proceeds will be $         million.

The principal purposes of this offering are to obtain additional capital, create a public market for our common stock and facilitate our future access to the public equity markets. We intend to use the net proceeds of this offering primarily to develop and advance NeoCart through clinical trials, as well as for working capital and general corporate purposes.

The expected use of net proceeds of this offering represents our current intentions based upon our present plans and business conditions. The amounts we actually expend in these areas may vary significantly from our current intentions and will depend upon a number of factors, including success of our product development and commercialization efforts, cash generated from future operations, if any, and actual expenses to operate our business. As of the date of this prospectus, we cannot specify with certainty all of the particular uses for the net proceeds to be received upon the closing of this offering. Accordingly, our management will have broad discretion in the application of the net proceeds, and investors will be relying on the judgment of our management regarding the application of the net proceeds.

Pending use of proceeds from this offering, we intend to invest the proceeds in short-term, investment-grade, interest-bearing instruments, certificates of deposit or direct or guaranteed obligations of the U.S. government, or hold as cash.

DIVIDEND POLICY

We have never declared or paid cash dividends on our capital stock. We currently intend to retain all available funds and any future earnings for use in the operation of our business and do not anticipate paying any cash dividends in the foreseeable future. Any future determination to declare cash dividends will be made at the discretion of our board of directors and will depend on our financial condition, results of operations, capital requirements, general business conditions and other factors that our board of directors may deem relevant.

 

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CAPITALIZATION

The table below sets forth our capitalization as of September 30, 2013 on:

 

   

an actual basis;

 

   

a pro forma basis to reflect the following, which will occur upon the completion of this offering: (1) the automatic conversion of all outstanding shares of our convertible preferred stock into common stock; (2) the net exercise of warrants to acquire                  shares of common stock; (3) the exercise of warrants to acquire a total of                 shares of common stock for an aggregate exercise price of $         ; (4) the issuance of an estimated                  shares of common stock in payment of accrued dividends on outstanding shares of convertible preferred stock; and (5) the amendment and restatement of our certificate of incorporation; and

 

   

a pro forma as adjusted basis to further adjust the pro forma amounts to reflect the sale of                  shares of common stock in this offering at an assumed initial public offering price of $         per share, the midpoint of the initial public offering price range reflected on the cover page of this prospectus, after deducting the estimated underwriting discounts and offering expenses payable by us.

You should read the information in this table together with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and related notes appearing elsewhere in this prospectus.

 

     As of September 30, 2013  
     Actual     Pro Forma      Pro Forma
As Adjusted
 
     (in thousands, except share and per share amounts)  
  

 

 

   

 

 

    

 

 

 

Long-term liabilities, including current portion

     7,053        
  

 

 

   

 

 

    

 

 

 

Series A convertible redeemable preferred stock, $0.001 par value: 49,250,000 shares authorized; 28,602,031 shares issued and outstanding, actual; no shares authorized, issued or outstanding, pro forma and pro forma as adjusted

     31,396        —           —     
  

 

 

   

 

 

    

 

 

 

Stockholders’ equity (deficit):

       

Preferred stock, $0.001 par value per share: no shares authorized, issued or outstanding, actual;                 shares authorized, no shares issued or outstanding, pro forma and pro forma as adjusted

     —          —           —     

Common stock, $0.001 par value: 65,000,000 shares authorized; 6,418,033 shares issued and outstanding, actual;                  shares authorized,                  shares issued and outstanding, pro forma;                 shares authorized,                  shares issued and outstanding pro forma as adjusted

     6        

Additional paid-in capital

     63,641        

Deficit accumulated during the development stage

     (96,589     
  

 

 

   

 

 

    

 

 

 

Total stockholders’ (deficit) equity

     (32,942     
  

 

 

   

 

 

    

 

 

 

Total capitalization

   $ 5,507      $         $     
  

 

 

   

 

 

    

 

 

 

The table above excludes each of the following as of September 30, 2013:

 

   

3,954,521 shares issuable upon the exercise of options outstanding under our 2012 Equity Incentive Plan as of September 30, 2013, at a weighted average exercise price of $0.07 per share; and

 

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                 shares reserved for future issuance under our stock-based compensation plans, including                 shares reserved for issuance under our 2013 Equity Incentive Plan and                  shares reserved for issuance under our 2013 Employee Stock Purchase Plan.

In December 2013, we amended the terms of the Series A Preferred Stock financing and sold 10,323,988 shares of our Series A-1 Preferred Stock for an aggregate purchase price of $10.3 million to existing investors. The shares of Series A-1 Preferred Stock will be converted into 10,323,988 shares of common stock immediately prior to the closing of this offering.

 

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DILUTION

If you invest in our common stock in this offering, your ownership interest will be diluted immediately to the extent of the difference between the initial public offering price per share you will pay in this offering and the pro forma as adjusted net tangible book value per share of our common stock immediately after this offering. As of September 30, 2013, the historical net tangible book deficit of our common stock was $(33.6) million, or $(5.23) per share. Our historical net tangible book deficit represents total tangible assets less total liabilities and convertible preferred stock, all divided by the number of shares of common stock outstanding on September 30, 2013.

As of September 30, 2013, the pro forma net tangible book value of our common stock would have been $         million, or $         per share, after giving effect to the following, which will occur upon the completion of this offering: (1) the automatic conversion of all outstanding shares of our convertible preferred stock into common stock; (2) the net exercise of warrants to acquire                  shares of common stock; (3) the exercise of warrants to acquire a total of                 shares of common stock for an aggregate exercise price of $         ; and (4) the issuance of an estimated                 shares of common stock in payment of accrued dividends on outstanding shares of convertible preferred stock.

After giving effect to the sale of             shares of common stock in this offering at an assumed initial public offering price of $         per share, the midpoint of the price range set forth on the cover page of this prospectus, and after deducting the estimated underwriting discount and offering expenses payable by us, the pro forma as adjusted net tangible book value of our common stock as of September 30, 2013 would have been $         million, or $         per share. This represents an immediate increase in pro forma as adjusted net tangible book value of $         per share to our existing stockholders and an immediate dilution of $         per share to purchasers of common stock in this offering. The following table illustrates this per share dilution:

 

Assumed initial public offering price per share

     $                

Historical net tangible book value (deficit) per share as of September 30, 2013

   $ (5.23  

Increase in net tangible book value (deficit) per share attributable to pro forma transactions described above

    
  

 

 

   

Pro forma net tangible book value per share before this offering

   $       

Increase in pro forma net tangible book value per share attributable to this offering

    
  

 

 

   

Pro forma as adjusted net tangible book value per share after this offering

    
    

 

 

 

Dilution per share to purchasers of common stock in this offering

     $     
    

 

 

 

Each $1.00 increase (decrease) in the assumed initial public offering price of $         per share, the midpoint of the price range set forth on the cover page of this prospectus, would increase (decrease) the pro forma net tangible book value by $         per share and the dilution per share to purchasers of common stock in this offering by $         per share, assuming that the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and after deducting the estimated underwriting discount and offering expenses payable by us. We may also increase (decrease) the number of shares we are offering. An increase (decrease) of 1,000,000 in the number of shares offered by us would increase (decrease) the pro forma net tangible book value by $         per share and the dilution per share to purchasers of common stock in this offering by $         per share, assuming that the assumed initial public offering price remains the same and after deducting estimated underwriting discount and offering expenses payable by us. The pro forma information discussed above is illustrative only and will adjust based on the actual initial public offering price and other terms of this offering determined at pricing.

If the underwriters exercise their over-allotment option in full, the pro forma as adjusted net tangible book value per share after this offering would be $         per share, the increase in pro forma net tangible book value per share

 

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to existing stockholders would be $         per share and the dilution to purchasers of common stock in this offering would be $         per share.

The following table summarizes, on a pro forma as adjusted basis as of September 30, 2013, the differences between existing stockholders and purchasers of common stock in this offering with respect to the number of shares of common stock purchased from us, the total consideration paid to us and the average price per share paid. The calculation below is based on the assumed initial public offering price of $         per share, the midpoint of the price range set forth on the cover page of this prospectus, before deducting the estimated underwriting discount and offering expenses payable by us.

 

     Shares Purchased     Total Consideration     Average Price
Per Share
 
    

Number

   Percent     Amount    Percent    

Existing stockholders

        %           %      $                

Purchasers of common stock in this offering

            
  

 

  

 

 

   

 

  

 

 

   

Totals

        100.0        100.0  
  

 

  

 

 

   

 

  

 

 

   

Except as otherwise indicated, the above discussion and tables assume no exercise of the underwriters’ over-allotment option. If the underwriters exercise their over-allotment option in full, our existing stockholders would own     % and purchasers of common stock in this offering would own     % of the total number of shares of our common stock outstanding upon completion of this offering. The total consideration paid by existing stockholders would be approximately $         million, or     %, and the total consideration paid by purchasers of common stock in this offering would be $         million, or     %.

The foregoing tables and calculations exclude:

 

   

3,954,521 shares issuable upon the exercise of options outstanding under our 2012 Equity Incentive Plan as of September 30, 2013, at a weighted average exercise price of $0.07 per share; and

 

   

                 shares reserved for future issuance under our stock-based compensation plans, including                 shares reserved for issuance under our 2013 Equity Incentive Plan and                  shares reserved for issuance under our 2013 Employee Stock Purchase Plan.

 

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SELECTED CONSOLIDATED FINANCIAL INFORMATION

The following tables set forth selected consolidated financial information. We derived the consolidated statement of operations data for the years ended December 31, 2011 and 2012 and the consolidated balance sheet data as of December 31, 2011 and 2012 from the audited consolidated financial statements included elsewhere in this prospectus. We derived the consolidated statement of operations data for the nine months ended September 30, 2012 and 2013 and the consolidated balance sheet data as of September 30, 2013 from our unaudited consolidated financial statements included elsewhere in this prospectus. The unaudited financial statements include all adjustments, consisting of normal recurring accruals, which we consider necessary for a fair presentation of the financial position and the results of operations for those periods. Our historical results are not necessarily indicative of the results to be expected for any future period, and the results in the nine months ended September 30, 2013 are not necessarily indicative of results to be expected for the full year or any other period. The following should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and related notes included elsewhere in this prospectus.

 

    Year Ended December 31,     Nine Months Ended
September 30,
 
    2011     2012     2012     2013  
    (in thousands, except per share amounts)  

Consolidated Statement of Operations Data:

       

Revenue

  $ 123      $ 26      $ 12      $ 8   
 

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses:

       

Research and development

    6,435        11,941        9,461        8,406   

Selling, general and administrative

    3,455        3,053        2,522        2,930   

Impairment of goodwill and intangible assets

    2,170        —          —          —     
 

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expense

    12,060        14,994        11,983        11,336   
 

 

 

   

 

 

   

 

 

   

 

 

 

Loss from operations

    (11,937     (14,968     (11,971     (11,328

Interest expense, net

    (902     (798     (792     —     

Other expense, net

    (30     (13     (16     (29

Gain on extinguishment of debt

    —          687        687        —     

Change in fair value of note payable to stockholder

    (20     (17     (17     —     

Change in fair value of warrant liability and other liability

    (21     (1,826     —          (196
 

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

  $ (12,910   $ (16,935   $ (12,109   $ (11,553
 

 

 

   

 

 

   

 

 

   

 

 

 

Earnings (loss) per common share(1)

       

Basic

  $ (1,137.61   $ 1.00      $ 1.62      $ (2.13
 

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

  $ (1,137.61   $ 0.26      $ 0.23      $ (2.13
 

 

 

   

 

 

   

 

 

   

 

 

 

Weighted-average shares used to compute earnings (loss) per common share(1)

       

Basic

    21,815        2,818,293        1,666,041        6,257,697   
 

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

    21,815        12,898,629        14,301,439        6,257,697   
 

 

 

   

 

 

   

 

 

   

 

 

 

Pro forma earnings (loss) per common share(1):

       

Basic

       
 

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

       
 

 

 

   

 

 

   

 

 

   

 

 

 

Pro forma weighted-average common shares outstanding(1):

       

Basic

       
 

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

       
 

 

 

   

 

 

   

 

 

   

 

 

 

 

(1) 

Please see Note 3 to our consolidated financial statements included elsewhere in this prospectus for an explanation of the method used to calculate earnings (loss) per common share, including the method used to calculate the number of shares used in the computation of the per share amount.

 

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In the preceding table, cost of net revenue and operating expenses include stock-based compensation as follows:

 

     Year Ended December 31,      Nine Months Ended
September 30,
 
     2011      2012      2012      2013  
     (in thousands)  

Stock-based Compensation Expense:

           

Selling, general and administrative

   $ 3       $ 14       $ 4       $ 97   

 

     As of December 31,     As of September 30,
2013
 
     2011     2012    
     (in thousands)  

Consolidated Balance Sheet Data:

      

Cash and cash equivalents

   $ 339      $ 14,716      $ 4,071   

Working capital (deficit)

     (2,038     10,675        1,443   

Total assets

     5,521        21,044        7,853   

Total liabilities

     18,396        11,136        9,399   

Convertible preferred stock

     28,169        29,619        31,396   

Stockholders’ deficit

     (41,044     (19,711     (32,942

 

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UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS

The unaudited pro forma consolidated statement of operations for 2011 gives effect to our acquisition of ProChon Biotech Ltd. (ProChon) as if it had occurred on January 1, 2011. We acquired 100% of the capital stock and the rights to outstanding convertible notes of ProChon on May 13, 2011 for total consideration of $2.2 million. ProChon was a biotechnology company focused on modulating the fibroblast growth factor system to enable it to create more effective solutions for tissue regeneration. ProChon’s products combined cell regeneration technologies with proprietary growth factors and biocompatible scaffolds to restore injured or chronically damaged tissues to normal. The acquisition of ProChon provided us with access to a significant portfolio of intellectual property, including proprietary cell growth factors, in addition to furthering opportunities for the use of biomaterials to create more effective solutions for regenerating human tissue. Following the acquisition, ProChon became our wholly owned subsidiary.

The following unaudited pro forma statement of operations presents the combined results of Histogenics and ProChon as if the acquisition of ProChon had been completed on January 1, 2011. No adjustments were required in the preparation of the pro forma statement of operations. The unaudited pro forma results do not reflect any operating efficiencies or potential cost savings which may result from the consolidation of the operations of Histogenics and ProChon. Accordingly, these unaudited pro forma results are presented for informational purposes only and are not necessarily indicative of what actual results of operations of the combined company would have been if the acquisition had occurred on January 1, 2011, nor are they indicative of future results of operations. The unaudited pro forma statement of operations should be read in conjunction with the consolidated financial statements and notes thereto and other financial information presented elsewhere in this prospectus, including “Selected Consolidated Financial Information” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

 

     Year Ended December 31, 2011  
     Histogenics     ProChon(1)     Pro Forma
Consolidation
 

Revenue

   $ 123      $ 23      $ 146   
  

 

 

   

 

 

   

 

 

 

Total revenue

     123        23        146   

Operating expenses:

      

Research and development

     6,435        2,094        8,529   

Selling, general and administrative

     3,455        1,265        4,720   

Impairment of goodwill and intangible assets

     2,170        —          2,170   
  

 

 

   

 

 

   

 

 

 

Total operating expenses

     12,060        3,359        15,419   
  

 

 

   

 

 

   

 

 

 

Loss from operations

     (11,937     (3,336     (15,273

Other (expense) income:

      

Interest expense, net

     (902     (468     (1,370

Other expense, net

     (30     —          (30

Change in fair value of note payable to stockholder

     (20     —          (20

Change in fair value of warrant liability and other liability

     (21     —          (21
  

 

 

   

 

 

   

 

 

 

Total other expense, net

     (973     (468     (1,441
  

 

 

   

 

 

   

 

 

 

Net loss

   $ (12,910   $ (3,804   $ (16,714
  

 

 

   

 

 

   

 

 

 

Loss attributable to common stockholders, basic and diluted

   $ (24,817     $ (28,621
  

 

 

     

 

 

 

Net loss per common share—basic and diluted

   $ (1,137.61     $ (1,311.99

Weighted-average shares used to compute net loss per common share—basic and diluted

     21,815          21,815   

 

(1) 

The historical financial information for ProChon is based on ProChon’s audited financial statements for the period from January 1, 2011 through May 12, 2011 which are presented beginning on page F-57.

 

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

You should read the following discussion and analysis of our financial condition and results of operations in conjunction with the “Selected Consolidated Financial Information” and our consolidated financial statements and related notes appearing elsewhere in this prospectus. In addition to historical consolidated financial information, the following discussion and analysis contains forward-looking statements that involve risks, uncertainties, and assumptions. Our actual results could differ materially from those anticipated by these forward-looking statements as a result of many factors. We discuss factors that we believe could cause or contribute to these differences below and elsewhere in this prospectus, including those set forth under “Risk Factors” and “Special Note Regarding Forward-Looking Statements.”

Overview

We are a regenerative medicine company focused on developing and commercializing products in the musculoskeletal segment of the marketplace. Our regenerative medicine platform combines expertise in cell processing, scaffolding, tissue engineering, bioadhesives and growth factors to provide solutions that can be utilized individually or in concert to treat musculoskeletal-related conditions. Our first product candidate, NeoCart, leverages our platform to provide an innovative treatment in the orthopaedic space, specifically cartilage damage in the knee. NeoCart is currently enrolling a Phase 3 clinical trial in the United States under a Special Protocol Assessment with the U.S. Food and Drug Administration.

Since our inception on June 28, 2000, we have devoted substantially all of our resources to the development of our regenerative medicine platform, the clinical and preclinical advancement of our product candidates, the creation and protection of related intellectual property and the provision of selling, general and administrative support for these operations. We have generated revenue from product sales, collaboration activities and grants. We have funded our operations primarily through the private placement of preferred stock and convertible promissory notes and through commercial bank debt. We continue to be classified as a development stage company for financial reporting purposes.

We have never been profitable and have incurred net losses in each year since inception. Our net losses were $85.0 million and $96.6 million for the periods from inception to December 31, 2012, and inception to September 30, 2013, respectively. Substantially all of our net losses resulted from costs incurred in connection with our research and development programs and from selling, general and administrative costs associated with our operations. We expect to continue to incur significant expenses and increasing operating losses for at least the next several years. Our net losses may fluctuate significantly from quarter to quarter and year to year. We expect our expenses will increase substantially in connection with our ongoing activities as we:

 

   

conduct clinical trials of our product candidates;

 

   

continue scale up and improvement of our manufacturing processes;

 

   

transition our technology transfer and manufacturing location;

 

   

continue our research and development efforts;

 

   

manufacture preclinical study and clinical trial materials;

 

   

maintain, expand and protect our intellectual property portfolio;

 

   

seek regulatory approvals for our product candidates that successfully complete clinical trials;

 

   

hire additional clinical, quality control and technical personnel to conduct our clinical trials;

 

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hire additional scientific personnel to support our product development efforts;

 

   

implement operational, financial and management systems; and

 

   

hire additional selling, general and administrative personnel to operate as a public company.

We do not expect to generate any future revenue from therapeutic product sales until we successfully complete development and obtain regulatory approval for one or more of our product candidates, which we expect will take a number of years. If we obtain regulatory approval for any of our product candidates, we expect to incur significant commercialization expenses related to product sales, marketing, manufacturing and distribution. Accordingly, we will seek to fund our operations through public or private equity or debt financings or other sources. However, we may be unable to raise additional funds or enter into such other arrangements when needed on favorable terms or at all. Our failure to raise capital or enter into such other arrangements when needed would have a negative impact on our financial condition and ability to develop our product candidates.

In December 2013, we amended the terms of the Series A Preferred Stock financing and sold 10,323,988 shares of our Series A-1 Preferred Stock for an aggregate purchase price of $10.3 million to existing investors.

Financial Operations Overview

We conduct operations in two geographic regions: Histogenics Corporation (Histogenics), a Delaware corporation, at our facility in Waltham, Massachusetts, and ProChon Biotech Ltd. (ProChon) in Tel Aviv, Israel. We own 100% of the voting shares of ProChon. As the nature of the products, customers and methods to distribute products are the same and the nature of the regulatory environment, the production processes and historical and estimated future margins are similar, the two operating segments have been aggregated into one reporting segment.

On May 13, 2011, we acquired ProChon, a privately held biotechnology company focused on modulating the fibroblast growth factor system to enable it to create more effective solutions for tissue regeneration. Prior to the acquisition, ProChon was conducting a Phase 2 clinical trial in the United States and commercializing its lead product candidate, the BioCart cartilage regeneration system, in Israel. ProChon’s products combined cell regeneration technologies with proprietary growth factors and biocompatible scaffolds to restore injured or chronically damaged tissues to normal. The acquisition of ProChon provided us with access to a portfolio of intellectual property, including proprietary cell growth factors, in addition to furthering opportunities for the use of biomaterials to create more effective solutions for regenerating human tissue.

The ProChon acquisition was accounted for as a business combination. The results of operations of ProChon have been included in our consolidated statements of operations since May 13, 2011, the date we obtained control of ProChon. Following the completion of the acquisition, ProChon became our wholly owned subsidiary and was integrated into our operations.

Unless otherwise indicated, the following information is presented on a consolidated basis to include our accounts and those of ProChon subsequent to the May 2011 acquisition. All intercompany transactions and balances are eliminated in consolidation.

Revenue

We generated product revenue of $53,000 in Israel for the period from May 13, 2011 to December 31, 2011 through commercial sales of BioCart. In 2011, we made a strategic decision to no longer provide BioCart commercially in Israel. Since December 31, 2011, we have not generated any revenue from therapeutic product sales.

We generated collaboration revenue exclusively from a license agreement with AT Grade S.R.L. (AT Grade) for distribution of BioCart in Italy. The agreement included a combination of diligence milestone payments, minimum royalty payments and royalties for commercial activity in Italy. In 2011, we determined with AT Grade

 

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that the licensing agreement was no longer part of our strategic programs. The license agreement was formally terminated in March 2012. We continued to generate collaboration revenue from this license agreement through the date of termination. We recorded $70,000 and $26,000 of collaboration revenue for the years ended December 31, 2011 and 2012, respectively.

From inception to September 30, 2013, we recorded grant revenue of $244,000 related to a cash grant received during the year ended December 31, 2010 from the U.S. Internal Revenue Service as a qualifying therapeutic discovery project tax credit program established pursuant to the Patient Protection and Affordable Care Act. Under this program, the tax credits and grants are made available to companies with no more than 250 employees that have a project which, among other requirements, can demonstrate new or cost saving therapies, support high quality jobs and increase U.S. competitiveness in the fields of life, biological and medical sciences.

Research and Development Expenses

Research and development expenses consist of development costs associated with our regenerative medicine platform and development programs. These costs are expensed as incurred and include:

 

   

compensation and employee-related costs;

 

   

costs associated with conducting our preclinical, clinical and regulatory activities, including fees paid to third-party professional consultants and service providers;

 

   

costs incurred under clinical trial agreements with investigative sites;

 

   

costs for laboratory supplies and laboratory equipment;

 

   

costs to acquire, develop and manufacture preclinical study and clinical trial materials;

 

   

charges associated with the achievement of certain preclinical and financial milestones pursuant to our licenses for our bioadhesive, and our tissue engineering processor; and

 

   

facilities, depreciation and other expenses including allocated expenses for rent and maintenance of facilities.

From inception through September 30, 2013, we incurred $53.1 million in research and development expenses. We plan to increase our current level of research and development expenses for the foreseeable future as we continue the development of our regenerative medicine platform and our initial therapeutic product candidates. Our current planned research and development activities include the following:

 

   

advancing NeoCart in a Phase 3 clinical superiority trial to microfracture;

 

   

leveraging our regenerative medicine platform to expand into additional therapeutic applications; and

 

   

expanding and protecting our intellectual property platform.

We cannot determine with certainty the timing of initiation, the duration and the completion costs of current or future preclinical studies and clinical trials of our product candidates. At this time, due to the inherently unpredictable nature of preclinical and clinical development and given the early stage of our product candidates, we are unable to estimate with any certainty the costs we will incur and the timelines we will require in the continued development of our product candidates, including NeoCart. Clinical and preclinical development timelines, the probability of success and development costs can differ materially from expectations. In addition, we cannot forecast which product candidates may be subject to future collaborations, when such arrangements will be secured, if at all, and to what degree such arrangements would affect our development plans and capital requirements.

We do not track research and development expenses by product. We do not allocate general equipment and supply costs, facilities, depreciation and other miscellaneous expenses to specific products as these expenses are deployed across all of our products.

 

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Selling, General and Administrative Expenses

From inception through September 30, 2013, we incurred $35.5 million in selling, general and administrative expenses. Selling, general and administrative expenses consist primarily of salaries and employee-related costs, including stock-based compensation and travel expenses for our employees in executive, finance and human resource functions. Other selling, general and administrative expenses include facility-related costs and professional fees for directors, accounting and legal services, and expenses associated with obtaining and maintaining patents.

We anticipate that our selling, general and administrative expenses will increase in the future as we increase our headcount to support our continued research and development and potential commercialization of our product development programs. We also anticipate increased expenses related to audit, legal, regulatory and tax-related services associated with maintaining compliance with exchange listing and SEC requirements, director and officer insurance premiums, and investor relations costs associated with being a public company.

Total Other Income (Expense), Net

Total other income (expense), net consists primarily of interest income earned on cash and cash equivalents; interest expense on convertible promissory notes and on prior commercial bank debt; and changes in fair value of the warrant liability relating to our outstanding common stock warrants.

Critical Accounting Policies and Significant Judgments and Estimates

Our management’s discussion and analysis of our consolidated financial condition and results of operations are based on our consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles. The preparation of these consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses and the disclosure of contingent assets and liabilities in our consolidated financial statements. On an ongoing basis, we evaluate our estimates and judgments, including those related to accrued expenses and stock-based compensation. We base our estimates on historical experience, known trends and events, and various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

While our significant accounting policies are described in more detail in the notes to our consolidated financial statements appearing elsewhere in this prospectus, we believe the following accounting policies to be most critical to the significant judgments and estimates used in the preparation of our consolidated financial statements.

Income Taxes

We utilize the asset and liability method of accounting for income taxes. Under this method, deferred tax assets and liabilities are determined based on the difference between the financial statement carrying amounts and tax basis of assets and liabilities using enacted tax rates in effect for years in which temporary differences are expected to reverse. We provide a valuation allowance when it is more likely than not that deferred tax assets will not be realized. We recognize the benefit of an uncertain tax position that has been taken or we expect to take on income tax returns if such tax position is more likely than not to be sustained.

We follow the authoritative guidance regarding accounting for uncertainty in income taxes, which prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. These unrecognized tax benefits relate primarily to issues related to the timing of certain income and deductions for federal income tax purposes. We apply a variety of methodologies in making these estimates which include advice and studies performed by independent subject matter experts, evaluation of public actions taken by the U.S. Internal Revenue Service and other taxing

 

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authorities, as well as our own industry experience. We provide estimates for unrecognized tax benefits which may be subject to material adjustments until matters are resolved with taxing authorities or statutes expire. If our estimates are not representative of actual outcomes, our results of operations could be materially impacted.

We continue to maintain a valuation allowance against our deferred tax assets due to our assessment that their realization is not certain. We periodically evaluate the likelihood of the realization of deferred tax assets and reduce the carrying amounts of these deferred tax assets by a valuation allowance to the extent we believe a portion will not be realized. We consider many factors when assessing the likelihood of future realization of deferred tax assets, including our recent cumulative earnings experience by taxing jurisdiction, expectations of future taxable income, carryforward periods available to us for tax reporting purposes, various income tax strategies and other relevant factors. Significant judgment is required in making this assessment and, to the extent future expectations change, we would assess the recoverability of our deferred tax assets at that time. If we determine that the deferred tax assets become realizable in a future period, we would record material adjustments to income tax expense that period.

Accrued Expenses

As part of the process of preparing our consolidated financial statements, we are required to estimate our accrued expenses. This process involves reviewing open contracts and purchase orders, communicating with our personnel to identify services that have been performed on our behalf and estimating the level of service performed and the associated cost incurred for the service when we have not yet been invoiced or otherwise notified of the actual cost. The majority of our service providers invoice us monthly in arrears for services performed or when contractual milestones are met. We make estimates of our accrued expenses as of each balance sheet date in our consolidated financial statements based on facts and circumstances known to us at that time. We periodically confirm the accuracy of our estimates with the service providers and make adjustments if necessary. Examples of estimated accrued research and development expenses include fees payable to:

 

   

clinical research organizations and investigative sites in connection with clinical trials;

 

   

vendors in connection with preclinical development activities;

 

   

vendors related to product manufacturing, development, and distribution of clinical materials; and

 

   

professional service fees for consulting and related services.

We base our expense accruals related to clinical trials on our estimates of the services received and efforts expended pursuant to our contract arrangements. The financial terms of these agreements are subject to negotiation, vary from contract to contract and may result in uneven payment flows and expense recognition. There may be instances in which payments made to our service providers will exceed the level of services provided and result in a prepayment of the clinical expense. Payments under some of these contracts depend on factors such as the successful enrollment of patients and the completion of clinical trial milestones. In accruing service fees, we estimate the time period over which services will be performed and the level of effort to be expended in each period. If the actual timing of the performance of services or the level of effort varies from our estimate, we adjust the accrual or prepaid accordingly. Our understanding of the status and timing of services performed relative to the actual status and timing of services performed may vary and may result in our reporting changes in estimates in any particular period.

Although we do not expect our estimates to be materially different from amounts actually incurred, if our estimates of the status and timing of services performed differs from the actual status and timing of services performed, we may report amounts that are too high or too low in any particular period. To date, there have been no material differences from our estimates to the amount actually incurred.

Impairment of Long-Lived Assets

Long-lived assets consist primarily of property and equipment. We test long-lived assets for impairment at year end or whenever events or circumstances present an indication of impairment. If the sum of expected future cash

 

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flows (undiscounted and without interest charges) of the long-lived assets is less than the carrying amount of such assets, an impairment loss would be recognized in earnings. The long-lived asset would be written down to the estimated fair value, calculated based on the present value of expected future cash flows. While our current and historical operating losses and negative cash flows are indicators of impairment, we believe that future cash flows to be received support the carrying value of our long-lived assets and, accordingly, have not recognized any impairment losses on long-lived assets from inception to September 30, 2013.

Impairment of Intangible Assets

Intangible assets consist primarily of in-process research and development obtained through the acquisition of ProChon and the AT Grade license. We test intangible assets for impairment at year end or whenever events or circumstances present an indication of impairment. If the sum of expected future cash flows (undiscounted and without interest charges) of the intangible assets is less than the carrying amount of such assets, an impairment loss would be recognized in earnings. The intangible assets would be written down to the estimated fair value, calculated based on the present value of expected future cash flows. While our current and historical operating losses and negative cash flows are indicators of impairment, we believe that future cash flows to be received support the carrying value of our long-lived assets and, accordingly, have not recognized any impairment losses on intangible assets from inception to September 30, 2013, other than an impairment charge of $330,000 during the year ended December 31, 2011. This charge resulted from our determination that the licensing agreement to distribute BioCart in Italy was no longer part of our strategic programs due to our suspension of production and commercialization of BioCart in 2011. We agreed with AT Grade to formally terminate the license agreement in March 2012.

Impairment of Goodwill

Goodwill represents the difference between the purchase price and the fair value of the net assets acquired under the acquisition method of accounting for business combinations. Goodwill is not amortized but is evaluated for impairment within each reporting unit on an annual basis at year end each year for impairment, or if indicators are present or changes in circumstances suggest that impairment may exist.

Our impairment testing for goodwill of $1.8 million from the 2011 acquisition of ProChon involved assessment at the reporting unit level using an income approach to determine whether it is more likely than not that the fair value of a reporting unit or the fair value of goodwill is less than its carrying amount. This assessment requires judgment on the potential impact of each qualitative factor.

During the year ended December 31, 2011, we suspended the production and commercialization of BioCart to focus on the development of our lead product candidate, NeoCart. We determined that the suspension of BioCart related activities was an indicator of potential impairment and performed an impairment test for our goodwill balance. The fair value of the ProChon reporting unit was determined using an income approach, utilizing assumptions that we believe are representative of those a market participant would use in estimating the fair value of BioCart. As a result of the impairment test, we recorded a $1.8 million impairment charge to goodwill in the consolidated statement of operations for the year ended December 31, 2011.

Stock-Based Compensation

We account for grants of stock options and restricted stock based on their grant date fair value and recognize compensation expense over the vesting periods. We estimate the fair value of stock options as of the date of grant using the Black-Scholes option pricing model, and we estimate the fair value of restricted stock based on the fair value of the underlying common stock as determined by our board of directors or the value of the services provided, whichever is more readily determinable. We account for stock options and restricted stock awards to non-employees using the fair value approach. Stock options and restricted stock awards to non-employees are subject to periodic revaluation over their vesting terms.

Stock-based compensation expense represents the cost of the grant date fair value of employee stock option grants recognized over the requisite service period of the awards (usually the vesting period) on a straight-line

 

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basis, net of estimated forfeitures. We estimate the fair value of stock option grants using the Black-Scholes option pricing model, which requires the input of highly subjective assumptions, including (a) the risk-free interest rate, (b) the expected volatility of our stock, (c) the expected term of the award and (d) the expected dividend yield. The risk-free interest rates for periods within the expected life of the option are based on the yields of zero-coupon U.S. Treasury securities. Due to the lack of a public market for the trading of our common stock and a lack of company specific historical and implied volatility data, we have based our estimate of expected volatility on the historical volatility of a group of similar companies that are publicly traded. For these analyses, we have selected companies with comparable characteristics to ours including enterprise value, risk profiles, position within the industry, and with historical share price information sufficient to meet the expected life of the stock-based awards. We compute the historical volatility data using the daily closing prices for the selected companies’ shares during the equivalent period of the calculated expected term of our stock-based awards. We will continue to apply this process until a sufficient amount of historical information regarding the volatility of our own stock price becomes available. The expected term represents the period of time that options are expected to be outstanding. Because there was not enough historical exercise behavior through December 31, 2012, we determined the expected life assumption using the simplified method, which is an average of the contractual term of the option and the vesting period. In 2013, the stock option grants were in-the-money, based on the retrospective fair value determinations, so we determined the expected life assumption using a risk-adjusted method, which adjusts the average of the contractual term of the option and its vesting period for risk, reducing the expected life. The expected dividend yield assumption is based on the fact that we have never paid cash dividends and have no present intention to pay cash dividends.

We had no employee stock option grants for the year ended December 31, 2011. For employee stock option grants made during the year ended December 31, 2012 and the nine months ended September 30, 2012 and 2013, the weighted-average assumptions used in the Black-Scholes option pricing model to determine the fair value of those grants were as follows:

 

     Year Ended
December 31, 2012
    Nine Months Ended
September 30,
 
       2012     2013  

Risk-free interest

     0.93     0.93     0.77

Expected volatility

     89.0     89.0     82.0

Expected term (in years)

     6.08        6.08        4.39   

Expected dividend yield

     0.0     0.0     0.0

We had no non-employee stock options grants for the years ended December 31, 2011 or 2012 or the nine months ended September 30, 2012. For non-employee stock option grants made during the nine months ended September 30, 2013, the weighted-average assumptions used in the Black-Scholes option pricing model to determine the fair value of those grants were as follows:

 

     Nine Months Ended
September 30, 2013
 

Risk-free interest

     0.27

Expected volatility

     82.0

Expected term (in years)

     1.65   

Expected dividend yield

     0.0

 

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The following table summarizes by grant date the number of shares of common stock underlying stock options granted from January 1, 2012 through September 30, 2013, as well as the associated per share exercise price and the estimated fair value per share of our common stock on the grant date:

 

Grant Dates

   Number of
Common
Shares
Underlying
Options
Granted
     Exercise
Price per
Common
Share
     Estimated
Fair Value
per Common
Share
 

August 15, 2012

     2,797,253       $ 0.07       $ 0.07   

October 31, 2012 (restricted stock)

     61,095         0.07         0.07   

March 5, 2013

     288,206         0.07         0.13   

March 5, 2013 (non-employee)

     354,395         0.07         0.13   

March 21, 2013 (non-employee)

     101,825         0.07         0.13   

April 23, 2013

     48,603         0.07         0.11   

April 23, 2013 (restricted stock)

     81,623         0.07         0.11   

May 17, 2013

     459,877         0.07         0.11   

July 16, 2013

     2,236,042         0.07         0.15   

August 1, 2013 (non-employee)

     40,516         0.07         0.15   

As of December 31, 2012 and September 30, 2013, the unrecognized compensation cost related to outstanding options, was $130,000 and $424,000, respectively, and is expected to be recognized as expense over 3.28 years and 3.27 years, respectively.

As of December 31, 2012 and September 30, 2013, the unrecognized compensation cost related to restricted stock awards was $4,000 and $15,000, respectively, and is expected to be recognized as expense over 3.84 years and 3.36 years, respectively.

Based on the assumed initial public offering (IPO) price of $         per share (the midpoint of the price range set forth on the cover page of this prospectus), the intrinsic value of stock options outstanding as of September 30, 2013 would be $        , of which $         and $         would have been related to stock options that were vested and unvested, respectively, at that date.

Determination of the Fair Value of Common Stock

We are required to estimate the fair value of the common stock underlying our stock-based awards when performing fair value calculations. All options to purchase shares of our common stock are intended to be granted with an exercise price per share no less than the fair value per share of our common stock underlying those options on the date of grant, based on the information known to us on the date of grant. In the absence of a public trading market for our common stock, on each grant date we develop an estimate of the fair value of our common stock with the assistance of a third party valuation specialist to determine an exercise price for the option grants.

In November 2013, our board of directors reviewed and reconsidered the fair value of our common stock with the assistance of a third party valuation specialist for the preceding periods of that year. In reconsidering the fair value of our common stock, the board of directors took into account the methodologies, approaches and assumptions provided by American Institute of Certified Public Accountants Audit and Accounting Practice Aid Series: Valuation of Privately Held Company Equity Securities Issued as Compensation (Practice Aid). This reconsideration resulted in the board of directors’ determination that the fair value of the common stock was greater than the exercise price for certain options granted in 2013.

There are significant judgments and estimates inherent in the determination of the fair value of our common stock. These judgments and estimates include assumptions regarding our future operating performance, the time

 

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to completing an IPO or other liquidity event and the determination of the appropriate valuation methods. If we had made different assumptions, our stock-based compensation expense, net loss and net loss per common share could have been significantly different.

In accordance with the Practice Aid, we considered the various methods for allocating the enterprise value across our classes and series of capital stock to determine the fair value of our common stock at each valuation date. The methods we considered consisted of the following:

 

   

Current Value Method.    Under the current value method, once the fair value of the enterprise is established, the value is allocated to the various series of preferred and common stock based on their respective seniority, liquidation preferences or conversion values, whichever is greatest. This method was considered but not utilized in any of the valuations discussed below.

 

   

Option Pricing Method (OM).    Under the OM, shares are valued by creating a series of call options with exercise prices based on the liquidation preferences and conversion terms of each equity class. The values of the preferred stock and common stock are inferred by analyzing these options.

 

   

Probability-Weighted Expected Return Method (PWERM).    The PWERM is a scenario-based analysis that estimates the value per share based on the probability-weighted present value of expected future investment returns, considering each of the possible outcomes available to us, as well as the economic and control rights of each share class.

Management determined the fair value of common stock for financial reporting purposes as of each valuation date as follows:

 

Valuation Date

   Common Stock
Fair Value
 

July 20, 2012

   $ 0.07   

December 31, 2012

     0.13   

March 31, 2013

     0.11   

June 30, 2013

     0.15   

September 30, 2013

     0.23   

July 20, 2012 Valuation and August 2012 and October 2012 Grants

For the contemporaneous valuation at July 20, 2012, we utilized the OM to determine the value of our common stock, relying on the Series A Preferred Stock financing that closed in July 2012 at $1.00 per share price for the Series A Preferred Stock and applying a discount for lack of marketability to the unadjusted common stock value to determine the fair market value of the common stock as of the valuation date of July 20, 2012.

As stated above, the OM treats common stock and preferred stock as call options on the total equity value of a company, with exercise prices based on the value thresholds at which the allocation among the various holders of a company’s securities changes. Under this method, the common stock has value only if the funds available for distribution to stockholders exceed the value of the liquidation preference at the time of a liquidity event, such as a strategic sale, merger or IPO, assuming the enterprise has funds available to make a liquidation preference meaningful and collectible by the holders of preferred stock. The common stock is modeled as a call option on the underlying equity value at a predetermined exercise price. In the model, the exercise price is based on a comparison with the total equity value rather than, as in the case of a regular call option, a comparison with a per share stock price. Thus, common stock is considered to be a call option with a claim on the enterprise at an exercise price equal to the remaining value immediately after the preferred stock is liquidated. The OM uses the Black-Scholes option pricing model to price the call options. This model defines the securities’ fair values as functions of the current fair value of a company and uses assumptions such as the anticipated timing of a potential liquidity event and the estimated volatility of the equity securities.

 

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The following table summarizes the significant assumptions used to determine the fair value of our common stock of $0.07 as of July 20, 2012:

 

July 20, 2012 valuation

 

Key assumptions:

  

Estimated time to liquidity

     1.7 years   

Annual volatility

     99

Risk-free interest rate

     0.22

Discount for lack of marketability

     25

December 2012 and 2013—Valuations and Grants

For the retrospective valuations at December 31, 2012, March 31, 2013, June 30, 2013 and September 30, 2013 we used the PWERM. The change in valuation methodologies was made from the OM at July 20, 2012 to the PWERM at December 31, 2012 and beyond because we believed that the likely liquidity scenarios were more focused from our increased interaction with our new investor base and board of directors, and we began entertaining the concept of an IPO creating a higher probability of a liquidity event in next 15 to 24 months. Also, the PWERM is able to capture the changes in timing, probability, and values of the liquidity based upon developments in our company and the markets which will better meet our needs to obtain quarterly updates in valuation. We had gained visibility into restarting clinical trials as of December 2012 with an expectation of restarting in March 2013. The heightened visibility allowed us to gain comfort in estimating the timing, probability, and values of liquidity events required for the PWERM as progress in the clinical trials was the main driver of an IPO or acquisition. As stated above, under the PWERM, share value is derived from the probability-weighted present value of expected future investment returns, considering possible outcomes available to us, as well as the economic and control rights of each share class. Our December 31, 2012 and subsequent valuations consider several possible liquidity scenarios that include an acquisition, an IPO and dissolution. Prior to December 2012, we were in a transition phase in which a major recapitalization was completed. We did not have a long term business plan that contemplated future exit scenarios prior to the July 2012 financing, and therefore did not have visibility into the timing, probability, and value of liquidity events to use the PWERM as a reliable indicator of value.

The determination of the enterprise value of our company for each scenario uses the market approach, specifically the transaction multiple method. This method rests on the assumption that the value of business ownership interests can be determined by analysis of how much is paid to acquire similar ownership interests in similar businesses. This method derives indications of value based on the prices at which entire companies or operating units of companies have been sold, or the prices at which significant interests in companies changed hands. Multiples are developed based on: (a) the actual price paid for a company that has been acquired and (b) operating performance and financial condition indicators such as earnings (at various levels) or revenue. We identified relevant transactions for target companies operating in the biotechnology or orthopedic device industry in the determination of the enterprise value of our company and identified relevant IPOs in the biotechnology, specialized pharmaceutical and orthopedic device industries. The equity values for each scenario were then allocated to the various classes of stock based upon the claims of each class of stock.

 

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The following table summarizes the significant assumptions used to determine the fair value of our common stock of $0.13, $0.11, $0.15 and $0.23 as of December 31, 2012, March 31, 2013, June 30, 2013 and September 30, 2013, respectively. The discussion following the table describes the changes in valuation for each period.

 

    Common Stock Valuation Assumptions as of  
    December 31,
2012
    March 31,
2013
    June 30,
2013
    September 30,
2013
 
   

(unaudited)

 

Acquisition scenarios

       

Liquidity value

    $50 to $250 million        $50 to $250 million        $50 to $250 million        $50 to $250 million   

Probability of occurrence

    10.00% to 50.00%        10.00% to 50.00%        10.00% to 40.00%        5.33% to 26.67%   

Time to event

    2.25 years        2.75 years        2.84 years        2.58 years   

IPO scenarios

       

Pre-money valuation

  $ 75 to $150 million      $ 75 to $150 million      $ 75 to $150 million      $ 75 to $150 million   

Probability of occurrence

    0.67% to 3.33%        0.67% to 3.33%        2.00% to 10.00%        5.33% to 26.67%   

Time to event

    1.25 to 2.25 years        1.00 to 2.75 years        0.75 to 2.84 years        0.5 to 2.58 years   

Probability of liquidation scenario

    20%        20%        20%        20%   

Discount for lack of marketability

    28%        31%        32%        31%   

July 20, 2012 to December 31, 2012

The estimated per share fair value of our common stock calculated in our valuation as of December 31, 2012 of $0.13 per share increased from the July 20, 2012 valuation of $0.07 per share. This is primarily due to the following factors:

 

   

We closed the first tranche of the Series A Preferred Stock financing and eliminated uncertainty within our operations. Further, the new long-term capital structure was put in place, which helped stabilize the standing of common stockholders after the July 2012 recapitalization of our equity.

 

   

Our fundraising, which included a second tranche of the Series A Preferred Stock financing, was expected to be issued in the first quarter of 2014, which would be used to continue funding our operations and development milestones to ensure an return on investment.

 

   

We switched to the PWERM for our common stock valuation as opposed to the OM to better reflect the multiple scenarios available to us, including scenarios contemplating an IPO.

December 31, 2012 to March 31, 2013

The estimated per share fair value of our common stock calculated in our valuation as of March 31, 2013 of $0.11 per share decreased from the December 31, 2012 valuation of $0.13 per share. This is primarily due to the following factors:

 

   

We voluntarily paused our Phase 3 clinical trial to address issues in our supply chain discussed elsewhere in this prospectus, and to perform validation testing on our methods and equipment as a way to eliminate regulatory risk.

 

   

We had turnover at the chief executive officer position.

March 31, 2013 to June 30, 2013

The estimated per share fair value of our common stock calculated in our valuation as of June 30, 2013 of $0.15 per share increased from the March 31, 2013 valuation of $0.11 per share. This is primarily due to the following factors:

 

   

We began developing new supply chain capabilities, both externally and internally, including the exploration of a new production facility in Massachusetts to manufacture component parts used in the production of NeoCart for the Phase 3 clinical trial and beyond.

 

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The likelihood of an IPO increased due to improving market conditions for clinical stage life sciences companies and improved optimism internally for achievement of milestones.

June 30, 2013 to September 30, 2013

The estimated per share fair value of our common stock calculated in our valuation as of September 30, 2013 of $0.23 per share increased from the June 30, 2013 valuation of $0.15 per share. This is primarily due to the following factors:

 

   

We hired a seasoned chief executive officer.

 

   

Several new members of our management team were added to improve quality capabilities, bolster supply chain capabilities and provide clinical leadership.

 

   

We anticipated the clinical trial would end its pause in November 2013, and during the pause our efforts to enroll additional sites would likely result in more sites treating patients than when the pause began.

 

   

The likelihood of an IPO increased as market conditions continued to demonstrate strong momentum for life science companies, and we had even higher internal optimism about our ability to execute on milestones, particularly with our new management team.

Warrants and Other Liability

In connection with the issuance of Series A Preferred Stock on July 20, 2012, we issued common stock warrants (Common Stock Warrants) to each participating investor. The Common Stock Warrants are convertible into 516,841 shares of our common stock upon a defined liquidity event of either an acquisition or an IPO. The number of shares of common stock may be decreased in the event that the percentage of the total equity required to be paid as part of the contingent payment payable to Purpose, Co. (Other Liability) is decreased. The Common Stock Warrants are exercisable at $0.07 per share and are only exercisable in the event that the contingent payment is required to be settled for the Other Liability. The fair value of the Common Stock Warrants is classified as a long-term liability in our consolidated balance sheets.

The warrant liability was initially recorded on July 20, 2012 at fair value using the OM. We determined the fair value of the liability from the calculated equity value. At each reporting date, the fair value of the warrant liability is adjusted using the PWERM. The PWERM considers the changes in timing, probability, and values of preferred stock and common stock and other equity-linked securities based upon developments in our company and the market utilizing management’s assumptions and various future outcomes.

The change in valuation methodologies was made from the OM at July 20, 2012 to the PWERM at December 31, 2012 and beyond because we believed that there was a higher probability of a liquidity event in the following 15 months. As stated above, the PWERM is able to capture the changes in timing, probability and values of the liquidity based upon developments in our company and the markets which will better address our need to obtain quarterly updates in valuation.

The Other Liability was initially recorded based on a combination of the PWERM and OM, utilizing management’s assumptions. The fair value of the Other Liability is adjusted using PWERM at each reporting date. Changes in the fair value of the warrant liability and the Other Liability have been recorded as “change in fair value of warrant liability and other liability” in our consolidated statements of operations.

The OM that was used to estimate the fair value of the warrant liability used our valuation of our common stock as of the issuance date, July 20, 2012, to establish a basis of our equity value. A series of breakpoints was then determined based upon the contractual rights of our outstanding instruments with an equity claim that can be settled upon a liquidity event. The Black-Scholes option pricing model was then used to determine the fair value of each equity value breakpoint. The model utilized the following inputs: (a) risk-free interest rate of 0.22%; (b) implied volatility of our common stock of 99%; and (c) the expected term to a liquidity event of 1.7 years.

 

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The following table provides quantitative information about the fair value measurement, including the range of assumptions for the significant unobservable inputs used in the PWERM valuations of the warrant liability and Other Liability:

 

     December 31, 2012   September 30, 2013

Acquisition scenarios

    

Liquidity value

   $50 to $250 million   $50 to $250 million

Probability of occurrence

   10.00% to 50.00%   5.33% to 26.67%

Time to event

   2.25 years   2.58 years

IPO scenarios

    

Pre-money valuation

   $75 to $150 million   $75 to $150 million

Probability of occurrence

   0.67% to 3.33%   5.33% to 26.67%

Time to event

   1.25 to 2.25 years   0.5 to 2.58 years

Probability of liquidation scenarios

   20%   20%

Discount for lack of marketability

   28%   31%

The above assumptions remained relatively consistent for the periods presented as a result of only minor changes in the remaining contractual term of the Common Stock Warrants due to the passage of time, with the largest change being the probability of occurrence as the IPO became a more realistic scenario. The fair values per share of our underlying preferred stock were estimated using the same methodologies described above for the valuation of our common stock except the exceptions noted in the description above specific to each Common Stock Warrant and Other Liability.

The completion of this offering will result in the automatic conversion of our convertible preferred stock into common stock and the warrants will become exercisable. Upon such conversion, the Common Stock Warrants will be classified as a component of stockholders’ equity (deficit) and will no longer be subject to remeasurement. Based on the assumed initial public offering price of $         per share (the midpoint of the price range set forth on the cover page of this prospectus), and assuming all other inputs into our valuation model remain unchanged from those as of September 30, 2013, we would expect to record a charge of approximately $         million to adjust the warrant and other liability to its then-current fair value upon the closing of the IPO.

Other Company Information

Net Operating Loss Carryforwards

Utilization of the net operating loss (NOL) and research and development credit carryforwards may be subject to a substantial annual limitation due to ownership change limitations that have occurred or that could occur in the future, as required by Section 382 and 383 of the Internal Revenue Code (Code), as well as similar state and foreign provisions. These ownership changes may limit the amount of NOL and research and development credit carryforwards that can be utilized annually to offset future taxable income and tax, respectively. In general, an “ownership change” as defined by Section 382 of the Code results from a transaction or series of transactions over a three-year period resulting in an ownership change of more than 50 percentage points of the outstanding stock of a company by certain stockholders. We have completed a study to assess whether an ownership change has occurred or whether there have been multiple ownership changes since our formation. The results of this study indicated we experienced ownership changes, as defined by Section 382 of the Code, in each of 2006, 2011 and 2012. We have not recorded NOLs that as a result of these restrictions will expire unused. Accordingly, we have recorded NOL carryforwards net of these limitations, which are $3,872, $30,471 and $30,276, in 2010, 2011 and 2012, respectively.

At December 31, 2012, we had U.S. federal and Israeli NOL carryforwards of $5.3 million and $43.0 million, respectively, which may be available to offset future taxable income. The U.S. federal NOL carryforwards begin to expire in 2032 and the Israeli NOL carryforward does not expire.

As of December 31, 2012, we have provided a full valuation allowance for deferred tax assets.

 

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Income Taxes

We record uncertain tax positions on the basis of a two-step process whereby (1) we determine whether it is more likely than not that the tax positions will be sustained on the basis of the technical merits of the positions and (2) for those tax positions that meet the more-likely-than-not recognition threshold, we recognize the largest amount of tax benefit that is more than 50% likely to be realized upon ultimate settlement with the related tax authority. We recognize interest and penalties related to unrecognized tax benefits within income tax expense. Any accrued interest and penalties are included within the related tax liability. A reconciliation of the total pre-tax beginning and ending amounts of unrecognized tax positions is as follows:

 

     Tax Positions  
     (in thousands)  

Balance at January 1, 2011

   $ (10,823

Additions based on tax positions related to the period

     (1,686
  

 

 

 

Balance at December 31, 2011

     (12,509

Additions based on tax positions related to the period

     (771
  

 

 

 

Balance at December 31, 2012

   $ (13,280
  

 

 

 

The uncertain tax positions giving rise to the unrecognized tax benefits of $5.6 million at December 31, 2012 relate to the timing of certain income and deductions for federal income tax purposes. The reversal of unrecognized tax benefits would not have any impact on the effective tax rate in future periods and are not expected to create cash tax liability upon settlement due to our ability to utilize both pre-change and post-change NOLs to offset their impact.

JOBS Act

On April 5, 2012, the Jumpstart Our Business Startups Act (JOBS Act) was enacted. Section 107 of the JOBS Act permits an “emerging growth company” to delay the adoption of new or revised accounting standards until those standards would otherwise apply to private companies. We plan to avail ourselves of this exemption from new or revised accounting standards and, therefore, we may not be subject to the same new or revised accounting standards as other public companies that are not emerging growth companies.

We are in the process of evaluating the benefits of relying on other exemptions and reduced reporting requirements provided by the JOBS Act. Subject to certain conditions set forth in the JOBS Act, as an “emerging growth company,” we intend to rely on exemptions relating to: (1) providing an auditor’s attestation report on our system of internal control over financial reporting pursuant to Section 404(b) of the Sarbanes-Oxley Act and (2) complying with any requirement that may be adopted by the Public Company Accounting Oversight Board regarding mandatory audit firm rotation or a supplement to the auditor’s report providing additional information about the audit and the financial statements, known as the auditor discussion and analysis. We will remain an emerging growth company until the earliest of (a) the last day of the fiscal year in which we have total annual gross revenue of $1.0 billion or more, (b) the last day of our fiscal year following the fifth anniversary of the date of the completion of this offering, (c) the date on which we have issued more than $1.0 billion in non-convertible debt during the previous three years and (d) the date on which we are deemed to be a large accelerated filer under the rules of the SEC.

Recently Adopted Accounting Pronouncements

In July 2013, the Financial Accounting Standards Board issued guidance that eliminates diversity in practice surrounding the presentation of unrecognized tax benefits when an NOL carryforward, a similar tax loss, or a tax credit carryforward exists. An entity is required to net an unrecognized tax benefit with a deferred tax asset for an NOL carryforward, a similar tax loss, or a tax credit carryforward if the carryforward would be used to settle additional tax due upon disallowance of a tax position. The adoption of this guidance on January 1, 2014 is not expected to have a material impact on our consolidated financial statements.

 

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In July 2012, the Financial Accounting Standards Board issued an amendment to the accounting guidance for testing indefinite-lived intangible assets for impairment. The amendment to the guidance permits a company to first assess the qualitative factors to determine whether the existence of events and circumstances indicates that it is more likely than not that the indefinite-lived intangible asset is impaired. We adopted this guidance for the year ended December 31, 2012. The adoption did not have any impact on our consolidated financial statements. As provided for in the amended guidance, we elected to bypass the qualitative assessment and instead performed the quantitative impairment test for indefinite-lived intangible assets.

Results of Operations

Nine Months Ended September 30, 2012 and 2013 (unaudited)

The following table summarizes the results of our operations for the nine months ended September 30, 2012 and 2013:

 

     Nine Months Ended September 30,  
             2012                     2013          
     (in thousands)  

Collaboration revenue

   $ 12      $ 8   

Research and development expenses

     9,461        8,406   

Selling, general and administrative expenses

     2,522        2,930   

Other income (expense), net

     (138     (225

Revenue.    Revenue was $8,000 for the nine months ended September 30, 2013, compared to $12,000 for the nine months ended September 30, 2012. The decrease of $4,000 was due to the termination of a collaboration agreement with AT Grade. We agreed with AT Grade that the relationship was no longer part of our strategic programs. We do not expect any future revenue until we have successfully completed the commercialization of NeoCart or future product candidates.

Research and Development Expenses.    Research and development expenses were $8.4 million for the nine months ended September 30, 2013, compared to $9.5 million for the nine months ended September 30, 2012. The decrease in spending was primarily due to a decrease in patient related costs associated with the NeoCart Phase 3 clinical trial resulting from our voluntary election to pause enrollment. We currently expect research and development expenses to increase in 2014 due to the resumption of the NeoCart Phase 3 clinical trial in December 2013.

Selling, General and Administrative Expenses.    Selling, general and administrative expenses were $2.9 million for the nine months ended September 30, 2013, compared to $2.5 million for the nine months ended September 30, 2012. The increase in spending was primarily due to a $300,000 increase in employee compensation-related expenses associated with the expansion of our executive management and finance team and a $100,000 increase in professional service provider fees to support awareness of the NeoCart Phase 3 clinical trial. We expect selling, general and administrative expenses to increase in 2014 as the NeoCart Phase 3 clinical trial continues and as we increase our administrative structure to support our IPO and obligations as a public company thereafter.

Other Income (Expense), Net.    Other income (expense), net was $(225,000) for the nine months ended September 30, 2013, compared to $(138,000) for the nine months ended September 30, 2012. Contributing to the $(87,000) decrease in other income (expense), net was a $196,000 increase to the periodic fair value adjustment of warrant liability and other liability, a decrease of $687,000 in gains created from the cancellation of debt recorded in 2012, and a decrease in interest expense of $792,000 from interest expense related to convertible debt instruments issued in 2011 and 2012 that were converted into equity as part of our Series A Preferred Stock financing on July 20, 2012.

 

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Years Ended December 31, 2011 and 2012

The following table summarizes the results of our operations for the years ended December 31, 2011 and 2012:

 

     Years Ended December 31,  
             2011                     2012          
     (in thousands)  

Product revenue

   $ 53      $ —     

Collaboration revenue

     70        26   
  

 

 

   

 

 

 

Total revenue

   $ 123      $ 26   
  

 

 

   

 

 

 

Research and development expenses

   $ 6,435      $ 11,941   

Selling, general and administrative expenses

     3,455        3,053   

Impairment of goodwill and intangible assets

     2,170        —     

Other income (expense), net

     (973     (1,967

Revenue.    Revenue was $26,000 for the year ended December 31, 2012, compared to $123,000 for the year ended December 31, 2011. The decrease of $97,000 was due to a $53,000 decrease in product sales in Israel for BioCart and a $44,000 decrease in collaboration revenue after the termination of our collaboration agreement with AT Grade.

Research and Development Expenses.    Research and development expenses were $11.9 million for the year ended December 31, 2012, compared to $6.4 million for the year ended December 31, 2011. The increase of $5.5 million was primarily due to an increase in headcount resulting in an increase of $1.5 million in employee compensation-related expense, a $2.0 million increase in license agreement payments, an $800,000 increase in external costs for professional consultants, clinical site start-up and clinical supply manufacture and a $1.2 million increase in equipment, supplies and clinical development and regulatory activities for NeoCart.

Selling, General and Administrative Expenses.    Selling, general and administrative expenses were $3.1 million for the year ended December 31, 2012, compared to $3.5 million for the year ended December 31, 2011. The decrease of $402,000 was due primarily to a decrease in executive severance expense.

Impairment of Goodwill and Intangible Assets.    Impairment of goodwill and intangible assets was $0 for the year ended December 31, 2012, compared to $2.2 million for the year ended December 31, 2011. The decrease was primarily due to the impairment of goodwill of $1.8 million related to the acquisition of ProChon and licensing agreements of $330,000 related to the May 2011 acquisition of ProChon. No impairments were recorded in 2012.

Other Income (Expense), Net.     Other income (expense), net, was $(2.0) million for the year ended December 31, 2012, compared to $(937,000) for the year ended December 31, 2011. The decrease was primarily due to a $1.8 million increase related to the periodic fair value remeasurement of our warrant liability and other liability, partially offset by a $687,000 gain on extinguishment of debt.

Liquidity and Capital Resources

We have incurred losses and negative cash flows from operations since inception. From our inception through September 30, 2013, we had an accumulated deficit of $96.6 million and anticipate that we will continue to incur net losses for the next several years.

Since our inception, we have funded our consolidated operations primarily through the private placement of preferred stock and convertible notes, commercial bank debt and, to a limited extent, revenue from product sales, collaboration activities and grants. As of September 30, 2013, we had cash and cash equivalents of $4.1 million.

 

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We believe that the net proceeds from this offering and our existing cash and cash equivalents will be sufficient to fund our projected cash needs through at least the end of 2017. We will require additional capital for the further development of our existing product candidates and may also need to raise additional funds sooner to pursue other development activities related to additional product candidates.

Beginning in January 2012, we issued $6.0 million of convertible promissory notes with a maturity date of one year and accruing interest at eight percent per year. On July 20, 2012, we issued 28,602,031 shares of our Series A Preferred Stock for net proceeds of $20.7 million in cash and the conversion of the $6.0 million of outstanding convertible promissory notes. In December 2013, we issued 10,323,988 shares of our Series A-1 Preferred Stock for net proceeds of $10.3 million in cash.

The following table sets forth a summary of the net cash flow activity for each of the periods indicated:

 

     Years Ended December 31,     Nine Months Ended September 30,  
             2011                     2012                     2012                     2013          
     (in thousands)  

Net cash used in operating activities

   $ (13,036   $ (12,232   $ (8,547   $ (10,093

Net cash provided by (used in) investing activities

     1,313        (79     (61     (554

Net cash provided by financing activities

     11,941        26,688        26,538        2   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net increase (decrease) in cash and cash equivalents

   $ 218      $ 14,377      $ 17,930      $ (10,645
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating Activities

Cash used in operating activities increased $1.5 million from $8.6 million for the nine months ended September 30, 2012 to $10.1 million for the nine months ended September 30, 2013. The primary driver of operating cash requirements was our research and development and selling, general and administrative activities in each period. During the nine months ended September 30, 2012, we used cash from operating activities of $8.6 million which consisted primarily of our net loss of $12.1 million partially offset by a $3.1 million non-cash charge related to a technology license agreement. During the nine months ended September 30, 2013, we used cash from operating activities of $10.1 million, which consisted primarily of our net loss of $11.6 million partially offset by a $1.0 million increase in accounts payable. The $1.5 million increase in cash used in operating activities as compared to the prior year period is due to a $3.1 million non-cash charge related to a technology license agreement which had the effect of increasing cash flows during the prior year period but did not recur in the current year period, partially offset by a $1 million increase in accounts payable that had the effect of decreasing cash flows during the prior year period but did not recur in the current year period.

Cash used in operating activities decreased $804,000 from $13.0 million for the year ended December 31, 2011 to $12.2 million for the year ended December 31, 2012. The primary driver of operating cash requirements was our research and development and selling, general and administrative activities in each period. During the year ended December 31, 2011, we used cash from operating activities of $13.0 million, which consisted primarily of our net loss of $12.9 million, a $1.6 million increase in accounts payable, a $721,000 increase in accrued expenses, partially offset by depreciation expense of $638,000, and impairment of goodwill and intangible assets of $1.8 million and $330,000, respectively. During the year ended December 31, 2012, we used cash from operating activities of $12.2 million, which consisted primarily of our net loss of $16.9 million partially offset by a $3.1 million non-cash charge related to a technology license agreement and $1.8 million related to the change in fair value of warrants. The $804,000 decrease in cash used in operating activities as compared to the prior year was due to a $3.1 million non-cash charge related to a technology license agreement, $1.8 million related to the change in fair value of warrants, a $1.4 million increase in accounts payable and a $726,000 increase in accrued expenses, all of which had the effect of increasing cash flows during the current year period. These items were partially offset by a $4.9 million increase in our net loss that had the effect of reducing cash flows during the current year period.

 

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Investing Activities

Cash used in investing activities increased $493,000 from $61,000 for the nine months ended September 30, 2012 to $554,000 for the nine months ended September 30, 2013. The difference was primarily related to increased purchases of property and equipment.

During the year ended December 31, 2011, investing activities provided cash of $1.3 million, primarily related to cash acquired in connection with the ProChon acquisition. During the year ended December 31, 2012, investing activities used cash of $79,000 for the purchase of property and equipment.

Financing Activities

Cash provided by financing activities decreased from $26.5 million for the nine months ended September 30, 2012 to $2,000 for the nine months ended September 30, 2013. During the nine months ended September 30, 2012, we received $6.0 million of proceeds from the issuance of convertible bridge loans that were subsequently converted into 5,950,000 shares of Series A Preferred Stock on July 20, 2012, and $20.7 million in net proceeds from the sale of Series A Preferred Stock on July 20, 2012 to outside investors. During the nine months ended September 30, 2013, we received proceeds of $2,000 from the exercise of common stock options.

Financing activities provided cash of $11.9 million and $26.7 million during the years ended December 31, 2011 and 2012, respectively. During the year ended December 31, 2011, we received proceeds of $11.9 million from the issuance of convertible promissory notes to our stockholders, which was subsequently converted into 6,250,001 shares of common stock on July 20, 2012. During the year ended December 31, 2012, we received $6.0 million of net proceeds from the issuance of convertible promissory notes, which were subsequently converted into 5,950,000 shares of our Series A Preferred Stock on July 20, 2012, and $20.7 million in net proceeds from the sale of 22,652,031 shares of our Series A Preferred Stock on July 20, 2012 to outside investors.

Operating Capital Requirements

To date, we have generated product revenue from therapeutic product sales of BioCart in Israel. In 2011, we suspended sales of BioCart in the Israeli market for strategic reasons. We do not know when, or if, we will generate any future revenue from therapeutic product sales. We do not expect to generate significant revenue from therapeutic product sales unless and until we obtain regulatory approval of and commercialize NeoCart or our future product candidates. We anticipate that we will continue to incur losses for the next several years, and we expect the losses to increase as we continue the development of, and seek regulatory approvals for, NeoCart and our future product candidates, and begin to commercialize any approved products. We are subject to all of the risks incident to the development of new therapeutic products, and we may encounter unforeseen expenses, difficulties, complications, delays and other unknown factors that may adversely affect our business. Upon the completion of this offering, we will incur additional costs associated with operating as a public company. We anticipate that we will need substantial additional funding in connection with our continuing operations.

Until we can generate a sufficient amount of revenue from our regenerative medicine products, if ever, we expect to finance future cash needs through public or private equity or debt offerings. In any event, we do not expect to achieve significant revenue from regenerative medicine product sales prior to the use of the net proceeds from this offering. Additional capital may not be available on reasonable terms, if at all. If we are unable to raise additional capital in sufficient amounts or on terms acceptable to us, we may have to significantly delay, scale back or discontinue the development or commercialization of one or more of our product candidates. If we raise additional funds through the issuance of additional debt or equity securities, it could result in dilution to our existing stockholders, increased fixed payment obligations and the existence of securities with rights that may be senior to those of our common stock. If we incur indebtedness, we could become subject to covenants that would restrict our operations and potentially impair our competitiveness, such as limitations on our ability to incur additional debt, limitations on our ability to acquire, sell or license intellectual property rights and other operating restrictions that could adversely impact our ability to conduct our business. Any of these events could significantly harm our business, financial condition and prospects.

 

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Our forecast of the period of time through which our financial resources will be adequate to support our operations is a forward-looking statement and involves risks and uncertainties, and actual results could vary as a result of a number of factors. We have based this estimate on assumptions that may prove to be wrong, and we could utilize our available capital resources sooner than we currently expect. The amount and timing of future funding requirements, both near- and long-term, will depend on many factors, including:

 

   

the design, initiation, progress, size, timing, costs and results of preclinical studies and clinical trials for our product candidates;

 

   

the outcome, timing and cost of regulatory approvals by the U.S. Food and Drug Administration (FDA) and comparable foreign regulatory authorities, including the potential for the FDA or comparable foreign regulatory authorities to require that we perform more studies than, or evaluate clinical endpoints other than those that we currently expect;

 

   

the timing and costs associated with our technology transfer and manufacturing location transition;

 

   

the timing and costs associated with manufacturing NeoCart and our future product candidates for clinical trials, preclinical studies and, if approved, for commercial sale;

 

   

the number and characteristics of product candidates that we pursue;

 

   

the extent to which we are required to pay milestone or other payments under our in-license agreements and the timing of such payments;

 

   

the cost of filing, prosecuting, defending and enforcing any patent claims and other intellectual property rights;

 

   

our need to expand our research and development activities, including our need and ability to hire additional employees;

 

   

our need to implement additional infrastructure and internal systems and hire additional employees to operate as a public company;

 

   

the effect of competing technological and market developments; and

 

   

the cost of establishing sales, marketing and distribution capabilities for any products for which we may receive regulatory approval.

If we cannot expand our operations or otherwise capitalize on our business opportunities because we lack sufficient capital, our business, financial condition and results of operations could be materially adversely affected.

Contractual Obligations and Commitments

The following table summarizes our contractual obligations and commitments as of December 31, 2012 that will affect our future liquidity:

 

     Total      Less than
1 year
     1-3 years      3-5 years      More than
5 years
 
     (in thousands)  

Operating lease obligations

   $ 5,218       $ 1,117       $ 2,148       $ 1,953       $ —     

Research and development contract obligations

     452         107         139         64         142   

Severance contract obligations

     275         216         59         —           —     

Engineering obligations

     567         567         —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 6,512       $ 2,007       $ 2,346       $ 2,017       $ 142   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Operating lease obligations represent future minimum lease payments under non-cancelable operating leases in effect as of December 31, 2012, including remaining lease payments for our current facilities in Waltham, Massachusetts, Woburn, Massachusetts, and Tel Aviv, Israel.

 

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Research and development contract obligations represent minimum future payments to third parties under our license agreements that become due and payable on the achievement of certain development, regulatory and commercial milestones (such as the start of a clinical trial, filing for product approval with the FDA or other regulatory agencies, product approval by the FDA or other regulatory agencies, product launch or product sales) or on the sublicense of our rights to another party. To the extent the achievement and timing of these events is not fixed and determinable, we have not included such commitments on our consolidated balance sheet or in the table above. Certain milestones are in advance of receipt of revenue from the sale of products and, therefore, we may require additional debt or equity capital to make such payments. These commitments include:

 

   

Under an exclusive license agreement with Angiotech Pharmaceuticals (US), Inc. pursuant to which we license certain patents for our CT3 bioadhesive, we are required to make annual maintenance payments and payments based upon development, regulatory and commercial milestones for any products covered by the in-licensed intellectual property. The maximum aggregate milestone payments we may be obligated to make per product are $3.0 million. We will also be required to pay a royalty on net sales of products covered by the in-licensed intellectual property in the single digits.

 

   

Under an exclusive sub-license agreement with Brigham and Women’s Hospital, Inc. pursuant to which we license certain patents relating to our exogenous tissue processor, we are required to make annual maintenance payments and payments based upon development, regulatory and commercial milestones for any products covered by the in-licensed intellectual property. The maximum aggregate milestone payments we may be obligated to make are $200,000. We will also be required to pay a royalty on net sales of products covered by the in-licensed intellectual property in the low single digits.

 

   

Under an exclusive license agreement with Board of Trustees of The Leland Stanford Junior University pursuant to which we license certain patents relating to the use of exogenous tissue processor, we are required to make annual maintenance payments and payments based upon development, regulatory and commercial milestones for any products covered by the in-licensed intellectual property. The maximum aggregate milestone payments we may be obligated to make per product are $300,000. We will also be required to pay a royalty on net sales of products covered by the in-licensed intellectual property in the low single digits.

 

   

Under an exclusive license agreement with Yeda Research and Development Co. Ltd. pursuant to which we license certain rights relating to high level expression of heterologous proteins and plasmid p80 BS. We are required to make a yearly, non-refundable license fee payment of $2,000. We will also be required to pay a royalty fee of a low single digit percentage rate of net sales of the licensed products, a low single digit percentage rate of net sales for combination products (meaning the combination of the licensed product with at least one other active ingredient, material or medical device that would have a clinical effect if administered independently) and a low double digit percentage rate of all of our sublicensing receipts.

We enter into contracts in the normal course of business with clinical sites for the conduct of clinical trials, contract research service providers for preclinical research studies, professional consultants for expert advice and other vendors for laboratory and research supplies and services. These contracts generally provide for termination on notice, and therefore are cancelable contracts and not included in the table of contractual obligations and commitments.

Obligations related to grants received represent consideration agreed to be paid in royalties of a low single digit percentage rate of sales of sponsored products developed using the grant money.

Severance contract obligations represent the remaining payments due to our former chief executive officer whose employment ended in March 2013.

 

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Engineering contract obligations represent the future minimum payments due to ST3 Development Corporation for the in-process production of a multi-unit bioreactor system expected to be completed in June 2014. Upon completion of the delivery of the system the remaining payments will be made.

Off-Balance Sheet Arrangements

We did not have during the periods presented, and we do not currently have, any off-balance sheet arrangements, as defined in the rules and regulations of the SEC.

Quantitative and Qualitative Disclosures about Market Risks

We are exposed to market risk related to changes in interest rates. As of September 30, 2013, we had cash and cash equivalents of $4.1 million. Our primary exposure to market risk is interest rate sensitivity, which is affected by changes in the general level of U.S. interest rates, particularly because our investments are in short-term securities backed by U.S. Treasuries. Our available for sale securities are subject to interest rate risk and will fall in value if market interest rates increase. Due to the short-term duration of our investment portfolio and the low risk profile of our investments, an immediate 10% change in interest rates would not have a material effect on the fair market value of our portfolio.

 

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BUSINESS

Overview

We are a regenerative medicine company focused on developing and commercializing products in the musculoskeletal segment of the marketplace. Our regenerative medicine platform combines expertise in cell processing, scaffolding, tissue engineering, bioadhesives and growth factors to provide solutions that can be utilized individually or in concert to treat musculoskeletal-related conditions. Our first product candidate, NeoCart, leverages our platform to provide an innovative treatment in the orthopaedic space, specifically cartilage damage in the knee. NeoCart is currently enrolling a Phase 3 clinical trial in the United States under a Special Protocol Assessment (SPA) with the U.S. Food and Drug Administration (FDA). If the study is successful and NeoCart is approved for sale in the United States, we believe it would be the first product approved for the first-line treatment of severe cartilage damage to demonstrate clinical superiority over the current standard of care, microfracture.

Musculoskeletal-related conditions, including cartilage damage, are one of the most prevalent health problem in the United States. Based on recent publications, we estimate that 1,000,000 knee arthroscopies are performed each year in the United States and we believe cartilage damage is likely to be identified in over 60% of those knee arthroscopies. Cartilage damage is a leading cause of osteoarthritis, the condition most responsible for the estimated 750,000 knee replacements performed in the United States annually, according to recent research published in the Journal of Bone and Joint Surgery. We believe the current alternatives available to treat cartilage damage in the knee, including microfracture, inadequately address this condition. We believe NeoCart would represent a superior solution to treat cartilage damage in the knee because it has the potential to solve for the limitations of the current treatment alternatives and has the potential to provide improved efficacy, long-term patient benefits, accelerated patient recovery and predictable patient outcomes through a technically straightforward surgical procedure. NeoCart demonstrated a statistically significant improvement in clinical efficacy based on pain and function measures as compared to microfracture in our Phase 2 clinical trial.

We believe NeoCart has generated positive Phase 1 and Phase 2 clinical data as a result of our robust regenerative medicine platform and the elements comprising our platform. Our proprietary three-dimensional honeycomb scaffold used in the production of NeoCart enables the seeding of cell cultures throughout the scaffold similar to the cell orientation in normal cartilage as compared to other scaffolds that accommodate cells only on their surface. The collagen base of the scaffold is conducive to cell function and integration of NeoCart with native tissue. Our proprietary tissue engineering processor, used to stimulate cartilage-like functioning of NeoCart prior to implantation, is a key factor in the preliminary evidence for NeoCart’s short-term efficacy and potential for long-term durability compared to other alternatives. Our bioadhesive anchors the NeoCart implant in the defect bed and seals the implant to the surrounding native cartilage interface, eliminating the need for complicated suturing that is required in some treatment alternatives. The well-affixed implant has the potential to facilitate earlier weight-bearing and accelerated recovery, which we believe would be distinctly more advantageous than other existing therapies. We believe the combination of these and other components of our regenerative medicine platform provide us with distinct proprietary advantages versus other treatment alternatives that ultimately will lead to clinical superiority of NeoCart on measures of pain and function when compared to microfracture in our Phase 3 clinical trial.

We expect to complete enrollment of our NeoCart Phase 3 clinical trial by the first half of 2016, and we plan to commercialize the product following approval in the United States. In anticipation of potential approval, we have begun to scale our internal current Good Manufacturing Practices (cGMP) manufacturing capabilities and anticipate manufacturing all of our products in-house at our facilities located in the greater Boston area.

Our regenerative medicine platform gives us the ability to develop a strong pipeline. We believe the positive clinical data success we have seen in treating cartilage damage of the knee with NeoCart will be applicable to other joints such as the ankle, shoulder and hip. We also believe our regenerative medicine platform possesses the fundamental science to allow us to develop additional product candidates to treat other soft tissue damage

 

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throughout the body such as tendon, ligament and meniscus tears and complex joint degeneration. Our portfolio of proprietary fibroblast growth factor (FGF) variants may be explored for their use in optimizing manufacturing yields and we believe they could have various therapeutic applications including wound healing and fracture healing. We plan to continue investing in our intellectual property portfolio in order to expand and protect our regenerative medicine platform and product candidates.

The goal of our Phase 3 clinical trial is to demonstrate significant advantages of NeoCart over microfracture, which we believe will allow us to secure approval to sell NeoCart in the United States and will enable us to become a market leader in cartilage repair. We believe our regenerative medicine platform will facilitate our successful expansion beyond cartilage repair to address additional areas of the musculoskeletal segment of the regenerative medicine marketplace.

Regenerative Medicine

Regenerative medicine is a rapidly developing, interdisciplinary field that is transforming healthcare by translating fundamental science into a variety of products and solutions aimed at repairing, regenerating or replacing function loss caused by injury, disease or aging. Regenerative medicine technologies encompass a variety of therapeutic approaches, including tissue engineering, cell-based therapies, gene therapy, small molecules and biologics, stem cells and biobanking. Any combination of these technologies may be used to harness or stimulate the body’s innate healing ability in order to treat a wide range of ailments, including musculoskeletal-related conditions, cardio- and peripheral vascular diseases, neurological disorders, stroke, non-healing wounds and ocular diseases.

Musculoskeletal conditions, comprised of injuries to or diseases of bones, cartilage, joints, ligaments, muscles, nerves, skin or tendons, are the most common health problem in the United States and are a leading cause of disability and healthcare expenditure according to The Burden of Musculoskeletal Diseases in the United States, a 2011 publication of a coalition of professional organizations including the American Academy of Orthopaedic Surgeons. Based on the commercial introduction of new products and expanded applications of approved products, the musculoskeletal, orthopedics and spine segment of the regenerative medicine market is projected to reach approximately $13 billion worldwide by 2015 according to a 2010 report issued by MedMarket Diligence.

Our initial product candidate, NeoCart, leverages our regenerative medicine platform and, upon approval, if any, we believe will compete in the musculoskeletal segment of the regenerative medicine marketplace with an initial focus on treating cartilage damage in the knee.

Cartilage Damage

Joint, or articular, cartilage covers the ends of bones and allows for joints to glide smoothly with minimal friction. Cartilage damage, or chondral defects, can be caused by acute trauma, such as a bad fall or sports-related injury, or by repetitive trauma, such as general wear over time. Unlike other tissues in the body, joint cartilage has no innate ability to repair itself, making any injury permanent. Left untreated, even a small chondral defect can expand in size and progress to debilitating arthritis, ultimately necessitating a joint replacement procedure.

We estimate that, based in part on historical growth rates reflected in a 2011 article in the Journal of Bone and Joint Surgery, over 1,000,000 knee arthroscopies are performed on an annual basis in the United States in skeletally mature adults and, based on a 2007 article published in The Knee, more than 60% of those arthroscopies may reveal cartilage damage. To standardize the reporting of the severity of chondral defects, the International Cartilage Repair Society established a universal classification system that grades the damage using a scale of 1 to 4, with 4 considered the worst. Grade 3 and 4 chondral defects, also referred to as full thickness defects, are considered severe. Based on the projected growth in the number of annual arthroscopies in the United States, we believe that by 2015 at least 750,000 patients in the United States will be diagnosed with full-thickness chondral defects and over 1,000,000 Americans annually will undergo a primary total knee replacement resulting from disabling arthritis.

 

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Limitations of Current Alternatives for Treating Cartilage Damage

We estimate, based on internal research, that over 500,000 knee cartilage procedures are performed annually in the United States, primarily in the form of debridement, microfracture, conventional autologous chondrocyte implantation (ACI) and osteochondral grafting.

Debridement and microfracture procedures are the most frequently performed surgical procedures for treatment for cartilage damage, accounting for an estimated 90% of all such procedures according to materials from a 2009 meeting of the Cellular Tissue and Gene Therapies Advisory Committee of the FDA. Debridement is an arthroscopic procedure that involves removal of injured or loose tissue debris by shaving, cutting or scraping it. Debridement does not attempt to repair cartilage damage, as its only goal is to improve symptoms.

Microfracture is considered the current standard of care for severe chondral defects due to its short-term success in improving symptoms in many patients, its simplicity, its safety profile and the lack of other viable alternatives. The procedure consists of perforations, or microfractures, made to the bone plate at the location of cartilage damage in order to allow bone marrow stem cells access to the injured area, where, in theory, they differentiate into cartilage cells, or chondrocytes, that may form joint cartilage. However, microfracture has been unsuccessful in reliably solving the underlying problem of cartilage damage because the repair tissue formed by the procedure is incapable of withstanding the normal shock and shear forces that joint cartilage sustains.

In addition to its inability to solve the underlying problem—damage to the articular cartilage—microfracture is associated with numerous other drawbacks and limitations, including the following:

 

   

Modest Efficacy:    The results of microfracture vary based on patient-specific characteristics and individual healing responses. Studies have shown the benefits of microfracture are negatively influenced by advanced age, higher body weight, larger chondral defect size and limited amount of repair tissue formed.

 

   

Limited Long-Term Patient Benefits:    Positive clinical response to microfracture has been shown to wane over time. A systematic review summarizing multiple articles on microfracture and published in the American Journal of Sports Medicine in 2009 revealed that up to 80% of microfracture patients report deterioration in their postoperative functional improvement after two years. Based on our interpretation of a 2013 article in Cartilage and the 2009 systematic review in the American Journal of Sports Medicine, we believe over 30% of microfracture patients require subsequent additional cartilage procedures after two years and up to 50% of all microfracture patients eventually require unplanned knee procedures due to persistent or recurrent symptoms.

 

   

Extended Patient Recovery:    Microfracture patients are typically not allowed to resume any vigorous activities for six months after their surgeries. During this time, patients must avoid weight-bearing activities for the first six weeks and use continuous passive motion machines for several hours per day. Prolonged physical therapy is often recommended. Such requirements and restrictions are believed necessary to optimize the anatomic and clinical results of microfracture, but come at the cost of muscle atrophy and delayed resumption of activities.

ACI and osteochondral grafting have drawbacks and limitations similar to those affecting debridement and microfracture, and also are associated with the following:

 

   

Technically Demanding Surgeries:    ACI is a slurry of autologous cartilage cells formed from a biopsy of a patient’s cartilage and grown over six to eight weeks. A patch or cover must be sutured into the surrounding healthy cartilage to hold the slurry in place. Osteochondral grafting, whether autograft (using the patient’s own cells) or allograft (using another person’s tissue), consists of a circular plug of bone and cartilage press-fit into the defect and can be challenging to perform because of the difficulty of achieving an exact match, fit and placement of the graft.

 

   

Negative Safety Profile:    ACI techniques are associated with graft failure, delamination, tissue overgrowth and knee stiffness. According to a 2006 report in the Journal of Bone and Joint

 

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Surgery, 48% of ACI patients underwent reoperation as a result of problems directly related to the graft. Osteochondral grafting, if performed with autograft, is associated with limitations in treatable defect sizes because of associated donor site morbidity and, if performed with allograft, is associated with the potential of disease transmission and nonunion.

Our Regenerative Medicine Platform and Initial Product Candidate

Our Regenerative Medicine Platform

Our regenerative medicine platform is comprised of innovative bioengineering, advanced proprietary materials sciences as well as molecular and cellular biology technologies that can be utilized individually or in a variety of combinations to treat musculoskeletal-related conditions:

 

   

Cell Processing:    As part of our process of implant production, our cell processing technologies involve the in-house handling of a biopsy specimen, cell extraction and the ex vivo expansion of cells. Our proprietary process is currently optimized for, but not limited to, cartilage cell culturing.

 

   

Scaffolding:    Our three-dimensional scaffold structures, including our honeycomb collagen scaffolds, are particularly well suited for producing a cartilage-like implant. Our structures enable the seeding of cell cultures throughout the collagen scaffold, similar to the cell orientation in normal cartilage, as compared to other scaffolds, which accommodate cells only on their surface or in thin layers. The honeycomb structure is important because it allows cartilage cells to line up vertically throughout the scaffold so that they organize as they normally would in native cartilage. Our proprietary three-dimensional scaffolds are comprised of polymers that are biocompatible, biodegradable and non-cytotoxic. These scaffolds can support and deliver a variety of cell types.

 

   

Tissue Engineering:    Our proprietary tissue engineering processors (TEP) incubate our cell- and scaffold-based implants under conditions of cyclic hydrostatic pressure and low oxygen tension, a process that is designed to mimic the conditions found in the knee. We believe our proprietary TEP technology is unique to the tissue repair market and is a primary reason our patients recover quickly and realize positive long-term outcomes.

 

   

Bioadhesive:    Our proprietary bioadhesive eliminates the need for complicated suturing required during certain other cartilage repair treatments, and our internal studies demonstrate that CT3 is stronger than the fibrin glue used in such other cartilage repair treatments. CT3 is comprised of methylated collagen and activated polyethylene glycol (PEG) that is biodegradable and nontoxic. We believe our bioadhesive contributes to the quick recovery and the long-term good outcomes seen in our trials.

 

   

Growth Factors:    Our proprietary growth factors include a number of FGF variants that are key elements in the processes of proliferation and differentiation of a wide variety of cells and tissues. We intend to explore the use of FGF variants to speed the expansion of biopsy specimens ex vivo. We also believe they could have therapeutic applications for, among other ailments wound and fracture healing.

NeoCart: Our Initial Product Candidate

NeoCart, our Phase 3 product candidate, utilizes many aspects of our regenerative medicine platform to repair knee cartilage damage. We believe NeoCart has the potential to provide several benefits not provided by current treatment alternatives for knee cartilage damage, including:

 

   

Improved Efficacy:    In our Phase 2 clinical trial of 30 patients, NeoCart showed better clinical outcomes when compared directly to microfracture on measures of pain and function. The difference in improvement between the two groups was apparent as early as three months following surgery and was statistically significant at six months, one year, two years and three years. We believe efficacy seen in our trials to date is a result of NeoCart’s ability to function like cartilage

 

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upon implantation and integrate with the surrounding native tissue, features that distinguish it from current treatment alternatives.

 

   

Long-Term Patient Benefits:    In contrast to microfracture’s well-documented deterioration of results after two years, NeoCart’s positive outcomes have been sustained for three or more years in our Phase 1 and 2 clinical trials. We believe that all of the biologic and mechanical attributes of NeoCart provide the potential for a durable clinical response and give it the potential to prevent the evolution of osteoarthritis and subsequent need for knee replacement surgery.

 

   

Accelerated Patient Recovery:    Our CT3 bioadhesive anchors NeoCart in the defect bed and seals it to the surrounding native cartilage. The cartilage-like NeoCart implant coupled with the secure CT3 fixation may allow for earlier weight-bearing and accelerated recovery of function, which would be distinctly advantageous for any cartilage repair solution. In our Phase 3 clinical trial, patients may be allowed to begin weight-bearing activities as soon as two weeks following implantation versus six weeks for the current standard of care, microfracture.

 

   

Technically Straightforward Surgery:    The use of our bioadhesive eliminates the need for complicated suturing associated with ACI techniques. Unlike osteochondral grafting procedures, the NeoCart implant is tailored to the shape of the defect so that all normal host tissue is left in place.

 

   

Positive Safety Profile:    To date, NeoCart has shown no evidence of tissue overgrowth or knee stiffness often associated with ACI techniques. Reoperation rates to address problems directly related to the cartilage procedure or other persistent general knee symptoms, associated with all cartilage techniques and particularly high with ACI techniques, have been very low in NeoCart patients followed for five years in our Phase 1 and Phase 2 clinical trials.

Our Business Strategy

Our goal is to leverage our regenerative medicine platform to develop and commercialize innovative, next generation products to treat patients suffering from musculoskeletal-related conditions. To achieve our goal, we are pursuing the following strategies:

 

   

Complete Phase 3 Clinical Trial and Apply for Regulatory Approval of NeoCart in the United States.    We are currently enrolling our Phase 3 clinical trial for NeoCart and, assuming positive results, we plan to submit a Biologics License Applications (BLA) to the FDA for approval in the United States. Upon receiving approval from the FDA, we then intend to market NeoCart as the first approved product in the United States for the treatment of chondral defects that shows superiority over the current standard of care, microfracture.

 

   

Continue to Scale and Optimize Our Manufacturing Capabilities.    We own and operate our own cGMP manufacturing operations for NeoCart and we plan to transfer production of critical raw materials in-house in order to gain further control over quality, process, supply and costs. This transition will also allow us to expand production capacity for clinical and commercial purposes.

 

   

Maximize Commercial Opportunity of NeoCart.    We expect to invest strategically in a U.S. commercial infrastructure to support a successful launch and commercialization of NeoCart upon FDA approval. We intend to build a highly experienced commercial organization to target orthopedic surgeons in the United States as the primary point of contact.

 

   

Leverage Our Core Technology Platform to Expand into Additional Therapeutic Applications.      We believe a significant unmet market need and commercial opportunity exist for NeoCart to treat cartilage defects in other joints such as ankles, shoulders and hips. Further, we plan to exploit our regenerative medicine platform to develop products that treat additional soft tissue and musculoskeletal-related disorders.

 

   

Selectively Evaluate Business Development Opportunities.    We plan to evaluate business development opportunities, which may include in-licensing and out-licensing of products or

 

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technologies, in order to strengthen our revenue prospects and improve our manufacturing capabilities.

 

   

Continue to Invest in Building and Protecting Our Intellectual Property.    We intend to continue to expand our strong existing intellectual property portfolio and protect our regenerative medicine platform and product candidates by filing patent applications in the United States, the European Economic Area (EEA, which is comprised of the 28 Member States of the European Union, Iceland, Liechtenstein and Norway) and other jurisdictions with the goal of extending the degree and level of protection as well as the duration of protection across our core technologies and products.

Our Phase 3 Product Candidate: NeoCart

NeoCart is our lead product candidate and is currently being evaluated in a U.S. Phase 3 clinical trial as a first-line therapy for full thickness knee chondral lesions in skeletally mature adults age 18 to 55. NeoCart is a cartilage-like implant created from a patient’s own cartilage cells. The patient’s cells are multiplied in our laboratory and then infused into a proprietary scaffold to allow them to organize and function like cartilage cells. Before NeoCart is shipped to the surgeon for implantation, the cell- and scaffold construct undergoes a bioengineering process that is designed to mimic a joint so that the implant, upon placement in the knee with our proprietary CT3 bioadhesive, is primed to begin functioning like healthy cartilage.

NeoCart data produced to date in the Phase 1 and 2 clinical trials has demonstrated very favorable safety and the potential for durable efficacy and has been published in well-regarded peer-reviewed journals, including its acceptance as Level I evidence in the prestigious Journal of Bone and Joint Surgery. We consider the data observed thus far to be a direct result of NeoCart’s distinct attributes, derived from our regenerative medicine platform, that combine to form a sophisticated and unique biologic implant capable of functioning like normal cartilage upon implantation. Further, we believe the data reflects that, after implantation, NeoCart continues to mature and integrate with the native cartilage as it experiences the natural environment of the joint. We believe these attributes and the clinical data we have accumulated to date differentiate NeoCart from other treatment alternatives, including microfracture. A pictorial representation of the entire NeoCart creation process from biopsy to implantation is displayed below.

THE NEOCART PROCESS

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Phase 3 Clinical Trial

We are pursuing FDA approval via a rigorous BLA pathway with a clinical trial designed to show superiority against the current standard of care, microfracture. Our NeoCart Phase 3 clinical trial is being performed under an SPA with the FDA and was initiated as a confirmatory study based on the promising safety and efficacy findings from our Phase 2 clinical trial. The Phase 3 clinical trial design, based on our Phase 2 study, is a prospective, controlled, multi-center trial of 245 adults between the ages of 18 and 55 years who have symptomatic focal full-thickness chondral knee defects randomized between NeoCart and microfracture on a two-to-one basis. Randomization is done at arthroscopy, at which time final patient eligibility is determined.

Under our SPA, the primary endpoint for approval is superiority at one year in the proportion of responders in the treatment arm compared to the proportion of responders in the control arm in a dual-threshold responder analysis utilizing the Knee Injury and Osteoarthritis Outcome Score (KOOS) pain subscale and International Knee Documentation Committee Subjective (IKDC Subjective) assessments. Both the KOOS and the IKDC Subjective assessments are validated, patient-centered and self-administered outcome instruments intended to assess patient-relevant outcomes. The KOOS separately assesses and scores five dimensions of outcomes from the patient’s perspective: pain, symptoms, activities of daily living, sport and recreation function and knee-related quality of life. Similarly, the IKDC Subjective assesses and scores three dimensions of outcomes from the patient’s perspective: symptoms, function during activities of daily living and sports. The scores are tabulated and transformed to a 100-point scale, where 100 represents the best outcome for either pain or function and zero represents the worst outcome.

Similar to our Phase 2 clinical trial, in the Phase 3 clinical trial, a patient is considered a responder if he or she achieves both of the following patient-reported outcomes:

 

   

improvement of at least 12 points compared to the patient’s baseline score in KOOS pain subscore assessment; and

 

   

improvement of at least 20 points compared to the patient’s baseline score on the IKDC Subjective assessment.

SCHEMATIC REPRESENTATION OF DUAL-THRESHOLD RESPONDER RATE ANALYSIS

 

LOGO

The following additional endpoints will be evaluated in secondary superiority testing at one year comparing the treatment arm to the control arm:

 

   

time to full weight-bearing;

 

   

“treatment failure,” defined as a greater than an 8-point deterioration in KOOS pain score at one year compared to baseline; and

 

   

presence of mature collagen layering as assessed by magnetic resonance imaging cartilage mapping at one year.

Patients will be followed for a total of three years for safety and additional efficacy data.

 

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Phase 3 Status

In late 2009, pursuant to our SPA, we initiated our Phase 3 clinical trial and our first patient was randomized in June 2010. In September 2010, after nine patients had been randomized, active enrollment was postponed until the completion of a convertible debt financing in late 2011.

In November 2012, we voluntarily suspended manufacturing operations and paused enrollment of the NeoCart Phase 3 clinical trial upon discovery of discrepancies in the testing procedures used to assess one of the raw materials (bovine-derived type I collagen) utilized in the manufacture of NeoCart implants. All participating clinical trial sites, including Institutional Review Boards (IRB), and the FDA were notified of our decision. After an in-depth review of all available information, we concluded that the observed discrepancies did not impact product quality or patient safety, but we chose to continue our self-imposed pause to improve and upgrade our existing manufacturing and quality control systems processes to meet or exceed cGMP standards. This transition was completed in December 2013.

Prior to our November 2012 voluntary election to pause enrollment, 30 patients had been randomized into the NeoCart Phase 3 clinical trial. Twenty-one of these patients were randomized to receive a NeoCart implant and nine were randomized into the control arm to undergo a microfracture procedure. Upon completion of the manufacturing transition in December 2013, we resumed enrollment at over 20 active sites, specifically chosen based on appropriate case volume, investigator interest in the science of cartilage and clinical research capabilities. Under the SPA, we have the ability to expand the clinical trial to 40 U.S. sites. Based on certain assumptions, including estimates of patient recruitment at 25 fully qualified sites and timely completion of the technology transfer discussed below in “Manufacturing – NeoCart Technology and Materials Transfer,” we anticipate enrolling the remaining 215 patients by the first half of 2016.

Phase 2 Clinical Trial

Our NeoCart Phase 2 clinical trial was initiated in 2007 to evaluate further the positive safety and early efficacy signals demonstrated in our Phase 1 clinical trial of NeoCart for articular cartilage damage in the knee. We also sought to identify clinically meaningful endpoints and identify appropriate patient populations to be used in the design of future clinical studies. The trial was a five-year prospective, controlled, randomized, clinical study of 30 patients conducted at six U.S. centers.

At every measurement interval between three months and three years, the NeoCart arm achieved statistically significant improvement compared to its baseline pain and function assessments using the KOOS pain and symptoms subscales, the IKDC Subjective assessment and a visual analog pain scale. Furthermore, when this improvement from baseline was compared to the improvement of microfracture from baseline, NeoCart’s improvement was statistically significantly better than microfracture’s improvement on over half of the measurements.

Additional comparison of the treatment group to the control group was performed with the previously described dual-threshold responder analysis we are utilizing in our Phase 3 clinical trial. To be considered a responder in the Phase 2 clinical trial, a patient must have achieved a minimum improvement on the KOOS pain subscale and the IKDC Subjective assessment (“dual threshold”) compared to his or her baseline scores. The minimum required improvement for pain was 12 points and the minimum required improvement for function was 20 points.

The selected thresholds have been validated in the literature as clinically meaningful to patients. In some cases, patients entered the Phase 2 clinical trial with pain scores at a level such that they could not have improved a great deal (for example, a baseline of 91 points on a scale of 100). In those cases, patients were considered responders if their function scores improved a minimum of 20 points even if their pain scores did not improve the required 12 points. Compared to the microfracture group, significantly more NeoCart-treated patients responded to treatment at six months, one and two years. In addition, a majority of Year 1 responders with a NeoCart implant remained responders at Year 3 compared to none of the microfracture responders at Year 1. The difference in responder rates between the groups favored NeoCart as early as three months post-surgery.

 

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RESPONDER RATE ANALYSIS AT YEAR 1

 

LOGO

RESPONDER RATE ANALYSIS AT YEAR 2

 

LOGO

 

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RESPONDER RATE ANALYSIS AT YEAR 3

 

LOGO

RESPONDER RATE ANALYSIS AT YEARS 1, 2 AND 3

 

LOGO

In November 2013, the Phase 2 trial concluded its five-year observation period and we anticipate submitting final results in late 2014. During the course of the trial, no serious adverse events (expected or unexpected) were considered to be product- or implant-related. Two-year results of this trial were published in the Journal of Bone and Joint Surgery in 2012.

 

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Phase 1 Clinical Trial

The two-year results of our Phase 1 clinical trial were published in the American Journal of Sports Medicine in 2009. Among the eight patients studied, all of whom enrolled in 2005 and completed five years of observation, a highly favorable safety profile of NeoCart was documented with few reported complications and no serious adverse events (expected or unexpected) deemed treatment-related. Efficacy signals in the form of improved pain and function compared to baseline were also noted.

Pipeline and NeoCart Indication Expansion

We expect to build a robust development pipeline by leveraging our regenerative medicine platform and intellectual property portfolio as well as expanding the applications of NeoCart into additional indications.

Although our initial focus for NeoCart is for the treatment of knee cartilage damage, we plan to leverage our regenerative medicine platform to explore the treatment of chondral defects in other joints, such as the ankle, hip and shoulder. Furthermore, we believe our platform can be utilized to address more extensive cartilage damage associated with significant bone loss and generalized arthritis as well.

Our acellular scaffolds are capable of hosting cells of any type, which allows us the flexibility to tailor their use for other regenerative medicine opportunities beyond cartilage repair, including ligament, tendon and meniscus repair.

In addition to the potential use of our FGF variants in optimizing our manufacturing process, our proprietary FGF variants may be capable of being used in therapeutic applications such as fracture healing, osteoporosis, generalized osteoarthritis, orphan diseases involving genetically-based bone growth disruption (applicable to our specific variants) and wound healing.

Commercialization

Assuming NeoCart is approved by the FDA, we plan to build our own commercial organization in the United States to support the launch and commercialization of NeoCart. The organization will be designed for scalability to support other potential future products as well. For NeoCart, we initially plan to scale up to approximately 30 sales representatives and management after FDA approval. The NeoCart sales force will target the estimated 4,000 to 5,000 orthopedic surgeons in the United States who may use NeoCart, including a core group of physicians focused on the care of cartilage injuries. We expect this core commercial team to be comprised of experienced sales representatives with relevant industry experience in the areas of orthopedic surgery and biologics sales. The commercial organization is anticipated to include hospital-based and physician-based sales, medical affairs, strategic and product marketing, access reimbursement specialists and distribution specialists. We may also selectively evaluate commercialization strategies, including partnering, for NeoCart outside of the United States.

Manufacturing

We operate our own cGMP manufacturing facility in Waltham, Massachusetts for the end-to-end production of NeoCart. We are developing our own cGMP manufacturing facility in Massachusetts, for production of key NeoCart raw materials, including our collagen, scaffolding and CT3 bioadhesive. The facility under development is projected to be functional in 2015. We currently have adequate capacity in our Waltham, Massachusetts facility to support NeoCart clinical supply and initial commercial supply if we are successful in receiving regulatory approval for NeoCart in the United States. Our manufacturing strategy is to own and operate fully integrated cGMP manufacturing operations for commercial production of NeoCart. We expect that the exclusive ownership of our cGMP operations will afford us the potential for greater optimization, scalability, lower cost of goods and greater control over our supply chain as compared to utilizing one or more third-party manufacturers.

 

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NeoCart Manufacturing Process

Our manufacturing process for NeoCart is systematic and organized, with specific steps that we plan to control tightly through our supply chain strategy and manufacturing controls. The first element includes taking a biopsy from the patient’s own cartilage where chondrocytes can be isolated and expanded in number using segregated cell culture technology at our cGMP manufacturing facility in Waltham, Massachusetts. Once we have achieved an adequate number of chondrocytes, these cells can be applied to a collagen-based scaffold and then can continue to multiply and mature to form the tissue implant in our TEP system. Our auto-regenerative system applies cyclic hydrostatic pressure to the implant and is designed to simulate the pressure that cartilage is exposed to in the knee. Finally, the implant can be placed in a static nutrient media solution, which allows further maturation prior to implantation. Once the implant is mature, it is shipped to the clinical site for implantation, which typically occurs within three to five days after the completion of the manufacturing process. The manufacturing cycle time, from receipt of biopsy to delivery of the implant, is approximately six to ten weeks. The range in cycle time is dependent upon the variability in growth rate of the cells obtained from individual patients.

The quality control laboratory, located within our main Waltham facility, handles cGMP release testing for the collagen raw material, CT3 components and adhesive, collagen-based scaffold and NeoCart final product. Further, the quality control group handles all in-process and finished product environmental monitoring related to the manufacturing process. Testing is performed per validated test methods using qualified equipment. The quality control group also maintains a stability testing program for the collagen raw material and finished products.

NeoCart Technology and Materials Transfer

Manufacturing of raw materials and components in the NeoCart supply chain is undergoing a technology transfer from outsourced contract manufacturers to our anticipated new in-house manufacturing facility in the Waltham, Massachusetts area. This technology transfer extends to the three components of the CT3 bioadhesive—methylated collagen, curing solution and activated PEG—as well as our collagen solution and collagen honeycomb scaffold, which are used in the production of NeoCart. We do not anticipate changes to the raw materials, formulations or properties, nor do we anticipate changes to the NeoCart manufacturing process or finished product specifications as a result of the transfer.

Because we will have transitioned production of all critical raw materials to our own manufacturing facility for future commercial production, we are required to demonstrate to the FDA that the raw materials manufactured in the new facility are comparable to the raw materials that were manufactured in the previous contract manufacturers’ facilities. In order to implement the technology transfer prior to submission of the BLA, we intend to submit an amendment to the existing Investigational New Drug (IND) application file for FDA pre-approval. Prior to submission of this amendment, we plan to obtain FDA input and agreement with our plans via a formal FDA-Sponsor Type C meeting. We are targeting the second half of 2014 to present technology transfer and comparability plans that include our cGMP compliant facilities, our processes as well as comparability data that we will have generated from materials produced from pilot scale runs. The presentation will also include a proposed analytical comparability protocol for materials produced from full scale production runs. Demonstrating comparability requires evidence that the product is consistent with that produced for the clinical trial to assure that the technology transfer does not affect safety, identity, purity, or potency (efficacy) during the expansion from pilot scale to full scale production. This demonstration is based on various methods, as recommended in the FDA and International Conference on Harmonization regulatory guidelines. At the Type C meeting, we will seek FDA feedback and agreement that our initial pilot scale analytical comparability data and proposed comparability protocol are sufficient. Based on internal review and guidance, we believe our current plan to provide analytical comparability data to the FDA for review may be sufficient. Should the FDA determine that additional clinical data is required to confirm comparability, we would collaborate with FDA to develop a mutually agreeable plan to be executed prior to submitting the BLA.

 

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Intellectual Property

Patent and trade secret protection is critical to our business. Our success will depend in large part on our ability to continue to protect our cell processing technology, materials science and products for tissue repair through a variety of methods, including seeking, maintaining and defending patents and other intellectual property intended to cover our products and compositions, their methods of use and processes for their manufacture, our platform technologies, our trade secrets and any other inventions that are commercially important to the development of our business. We actively seek patent protection in the United States and select foreign countries.

Our intellectual property portfolio is currently composed of 22 issued patents and 12 patent applications in the United States that we own, and 24 issued patents and three patent applications in the United States that we license from academic institutions and business entities. We also have over 100 counterpart patent and patent applications owned or licensed in certain foreign jurisdictions. This portfolio of owned and in-licensed patents and patent applications covers aspects of: our implants, including NeoCart and our protein implants; our tissue engineering processor; our adhesives; our growth factors, methods of delivery of therapeutic agents and promoters for increased expression of protein; our method for treatment of ligament and tendon injuries; surgical tools for placing our implants; and our bone composites. The patents that cover the listed technologies have statutory expiration dates between 2014 and 2030.

We have entered into license agreements with various academic institutions and business entities to obtain the rights to use certain patents and patent applications for the development and commercialization of our technology and products. We also rely on know-how and continuing technological innovation to develop and maintain our proprietary position.

We license from Purpose Co., Ltd. (f/k/a Takagi Sangyo Co. Ltd. and f/k/a Takagi Industrial Co., Ltd.) (Purpose) an exclusive right to 22 issued patents and 12 pending patent applications relating to an exogenous tissue processor. Through this agreement, we have a sublicense to three issued U.S. patents and one issued Japanese patent owned by Brigham and Women’s Hospital, Inc. (BWH) and Purpose that relate to compositions and methods for preparing multi-layered tissue constructs that include a cellular support matrix seeded with living cells derived from a native tissue and tissue culture protocols to promote the in vitro growth of tissues and tissue constructs. We also have an exclusive license to two issued U.S. patents and one pending U.S. patent application for restoration of articular cartilage matrix from the Board of Trustees of The Leland Stanford Junior University. The patents that have issued or may yet issue that have been licensed to us under these agreements will have statutory expiration dates between 2020 and 2030.

We have an exclusive license to a portfolio consisting of four families of issued patents and pending patent applications owned by Angiotech Pharmaceuticals (US), Inc. and Angiodevice International GmbH. This exclusivity is for CT3 for use in combination with intellectual property for the repair of articular cartilage, ligament, meniscus or tendon damage. The patents relate to a method of introducing rapidly gelling biodegradable collagen-PEG hydrogel to the site of injury, methods of inducing meniscal regeneration by introducing a strong adhesive to a site of injury and methods for in situ repair in which the meniscal injury is filled with an adhesive hydrogel complex consisting of methylated PEG and in which the injury is filled with the adhesive hydrogel complex and a collagen matrix. Any patents within this portfolio that have issued or may yet issue will have statutory expiration dates between 2014 and 2019.

We have an exclusive license to a portfolio of three patent families relating to growth factors and high level expression of heterologous proteins owned by Yeda Research and Development Co., Ltd. Any patents within this portfolio that have issued or may yet issue will have statutory expiration dates between 2016 and 2023.

We continually assess and refine our intellectual property strategy in order to fortify our position in our target markets. We cannot ensure that patents will be granted with respect to any of our pending owned or in-licensed patent applications or with respect to any patent applications we may own or license in the future, nor can we be sure that any of our existing owned or in-licensed patents or any patents we may own or license in the future will

 

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be useful in protecting our technology. Please see “Risk Factors – Risks Related to Our Intellectual Property” for additional information on the risks associated with our intellectual property strategy and portfolio.

Material Technology License Agreements

Purpose Co., Ltd.

In June 2012, we amended and restated a license agreement with Purpose. Under the amended and restated agreement, Purpose granted us an exclusive, perpetual, paid-up, worldwide and sublicensable license outside of Japan to (1) make, use and sell products or services covered by claims of Purpose’s patents and (2) use and create derivative works of Purpose’s technology for the design, development, manufacture, testing, support and commercialization of any product or service that incorporates or builds upon Purpose’s technology, in each case, only in connection with articular cartilage, ligaments, tendons and meniscus. Under the agreement, we grant Purpose an exclusive, perpetual, paid-up, sublicensable right solely in Japan under our patents and technology relating to the biotechnology and biomaterials of NeoCart and two other products in development to (1) make, use and sell products or services covered by claims of our patents and (2) use and create derivative works of our technology for the design, development, manufacture, testing, support and commercialization of any product or service that incorporates or builds upon our technology in each case, only in connection with articular cartilage, ligaments, tendons and meniscus. Purpose reserves the right to sell its single unit exogenous tissue processer machines to research institutes for general but noncommercial use anywhere in the world.

We paid Purpose JP¥19,572,000 (approximately $250,000 based on an exchange rate of JP¥0.0128/dollar as of September 30, 2012) for costs Purpose incurred in developing a multi-unit exogenous tissue processor machine. As described below, we are obligated to pay royalties and milestone payments due on the Brigham and Women’s Hospital, Inc. (BWH)-Purpose license. Our obligation to pay royalties due on the BWH-Purpose license is limited to such royalties measured by our revenue. Upon written notice to Purpose of our intent to stop using the technology in the BWH-Purpose license sublicensed to us, Purpose will reassume all responsibility under the BWH-Purpose license. Concurrent with our entering into the amended and restated license agreement with Purpose, we agreed, in the case of an initial public offering that we or our stockholders will issue to Purpose a number of shares equal to 7.8125% of our equity value at the time of the offering, less our costs in connection with such offering, the amount of any of our debt and the amount of the liquidation preference of the Series A shares issued to Sofinnova Ventures, Inc. and its affiliates. Based on an assumed initial public offering price of $         per share, the midpoint of the initial public offering price range on the cover of this prospectus, and our estimated offering expenses, we or our stockholders would be required to issue or transfer                 shares to Purpose upon the closing of this offering, subject to adjustment. Pursuant to the second amended and restated stockholders’ agreement among certain of our investors, the number of shares to be issued to Purpose upon an initial public offering will be reallocated from such investors to Purpose rather than issued by us.

Under the amended and restated agreement, Purpose agreed to continue to manufacture and sell single unit exogenous tissue processor machines to us. We are obligated to cooperate with Purpose, at Purpose’s expense, in its efforts to commercialize all or any portion of NeoCart and two other products in development in connection with articular cartilage, ligaments, tendons and meniscus and obtain governmental approvals required for the manufacture and sale in Japan of NeoCart and two other products in development. In addition, we are required to supply Purpose with collagen scaffold and CT3.

Purpose exclusively sublicensed to us its rights and obligations under the BWH-Purpose license. Under the Purpose-BWH license agreement, BWH granted Purpose an exclusive, royalty-bearing, worldwide, sublicensable license, under its rights in licensed patents and patent applications co-owned by BWH and Purpose, to make, use and sell (1) apparatuses for cultivating a cell or tissue, (2) tissue or cell products made using such apparatuses, (3) tissue or cell products made using processes for cultivating a cell or tissue as disclosed in the licensed patents and patent applications and (4) any apparatus that cultivates cells or tissues using such processes, in each case, whose manufacture, use, or sale is covered by the claims of the licensed patents and patent applications, only for therapeutic use.

 

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BWH may terminate this agreement if Purpose, itself or through its sublicensees, does not achieve commercial distribution and sale of the licensed products in the United States by December 31, 2015, subject to a one-year extension upon Purpose paying BWH $10,000.

Pursuant to our sublicense from Purpose, we are obligated to pay royalties and milestone payments and sublicense payments due on the BWH-Purpose license agreement. We have paid minimum royalty amounts of $160,000 and sublicense payments of $100,000 through September 30, 2013. Purpose agreed to pay BWH a royalty rate in the low single digits of our net sales of licensed products, subject to a minimum of $20,000 annually, until the license agreement terminates or until royalty payments no longer have to be made. Purpose is obligated to make one additional sublicense payment of $25,000 and milestone payments to BWH of (1) $75,000 upon the first patient treated in Phase 3 clinical trials for each licensed product or licensed process and (2) $75,000 upon final FDA approval for each licensed product or licensed process.

The agreement remains in effect for the life of the licensed patents, expected to be until October 19, 2028. Purpose may terminate the agreement by providing written notice to BWH at least 60 days in advance. BWH has the right to terminate the agreement if Purpose fails to make minimum royalty payments or other payments or otherwise breaches the agreement and such breach is not cured within 30 days of BWH providing notice to Purpose. Upon termination of the BWH-Purpose license agreement, our sublicense will convert to a nonexclusive license to Purpose’s interest in the licensed products or processes. Upon written notice to Purpose of our intent to stop using the technology sublicensed to us in the BWH-Purpose license, Purpose will reassume all responsibility under the BWH-Purpose license.

Angiotech Pharmaceuticals (US), Inc. and Angiodevice International GmbH

In May 2005, we entered into a worldwide license agreement with Angiotech Pharmaceuticals (US), Inc. and Angiodevice International GmbH (collectively, Angiotech) for the right, under Angiotech’s licensed patents and patent applications and technical information, to make, use and sell any product that includes both our intellectual property and CT3 for the repair of articular cartilage, ligament, meniscus or tendon damage, including related osteochrondal defects. The license excludes any product in which one nonliving ingredient is included in CT3 for the primary purpose of producing a physiological, metabolic or biological effect in mammals. The license grant was made exclusive under the fifth amendment to the license agreement that came into effect in August 2010 after we paid $1.0 million to Angiotech. We have obligations to supply CT3 to Angiotech under certain terms and conditions, and Angiotech is entitled to use any data and results obtained from any clinical studies conducted by us with respect to CT3.

As a license fee, we issued to Angiotech certain warrants to purchase from us shares of common stock, subject to certain anti-dilution protections. These warrants are no longer outstanding. We paid $1.0 million to Angiotech to make the license grant under the agreement exclusive. In addition, we paid two annual patent fees of $50,000 each as of September 30, 2013. We are also obligated to pay two additional annual patent fees of $50,000 and an additional fee of $3.0 million within 30 days after we receive regulatory approval from the FDA for a licensed product. As further consideration for the license, we also agreed to pay royalties at percentage rates of single digits of net sales of NeoCart and certain other products. We were able to reduce royalties from percentage rates of net sales in the double digits to this rate after making revenue share reduction payments that totaled $2.0 million.

The agreement terminates on the earlier of May 12, 2035 and expiration of all royalty payment obligations under the agreement. Either party has the right to terminate the agreement if the other party materially breaches the agreement and fails to cure such breach within 30 days from the date of notice of such breach (ten days in the case of non-payment). We may also terminate the agreement by giving at least one year’s notice. Angiotech may also terminate the agreement if we or any of our affiliates or sublicensees challenge the validity of Angiotech’s patents rights or rights to improvements (or directly or indirectly support any such challenge), or if we are acquired by or merge with a third party that has developed or is marketing, or has an affiliate that has developed or is marketing, a competitive product prior to such acquisition or merger and the resulting or surviving entity

 

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post-acquisition or merger fails to either continue to develop or sell licensed product at a level reasonably similar to the development or sale that was occurring prior to the acquisition or merger, during the six-month period following the acquisition or merger. Competitive product means, in a given country, (1) a drug or biologic approved for marketing or in Phase 3 clinical development, (2) a 510(k), or foreign equivalent, device approved for marketing, or (3) an FDA Premarket Approval, or foreign equivalent, device approved for marketing or in pivotal study clinical development, other than a licensed product, that acts (or is being developed to act) for one or more target label indications substantially similar to one or more approved or target label indications for a licensed product.

Koken Co., Ltd.

In March 2013, we entered into a license agreement with Koken Co., Ltd. (Koken) for a non-exclusive, non-transferable and non-sublicensable right to use its know-how related to the process for manufacturing atelocollagen honeycomb sponge materials, which we use in our scaffolds. Pursuant to the agreement, we paid Koken a fee in March 2013 for such right. Koken may terminate this agreement if we fail to perform any obligation under the agreement and such failure remains uncured for more than 30 days, if we become insolvent, bankrupt, go into liquidation or receivership, or if we file for bankruptcy or a petition in bankruptcy is filed against us.

The Board of Trustees of The Leland Stanford Junior University

In April 2001, we entered into a license agreement with The Board of Trustees of The Leland Stanford Junior University (Stanford) for patent rights relating to the restoration of articular cartilage scaffold. Our agreement with Stanford provides us with a worldwide license to make and sell products covered by claims of the licensed patents for growth, ontogenesis, and regeneration of cartilaginous tissues and collagen. Under the agreement, Stanford agreed not to grant further licenses to such rights in such field.

We paid Stanford $30,000 upon execution of the agreement and, as of September 30, 2013, $353,000 as reimbursement for patent-related costs incurred by Stanford. We are required to pay Stanford a yearly royalty fee of $10,000, which is creditable against earned royalty payments due on net sales of that year. We have paid $120,000 in yearly royalty fees through September 30, 2013. Stanford is also entitled to a low single digit percentage rate of our net sales in royalties. We paid Stanford milestone payments of $35,000 upon issuance of the first licensed patent and $50,000 upon initiation of Phase 1 clinical trials of the licensed product in the first field that requires separate regulatory authority clinical approval. We have paid Stanford a milestone payment of $50,000 upon initiation of Phase 1 clinical trials of the licensed product in other fields that requires separate regulatory authority clinical approval, and are obligated to pay an additional milestone payment of $300,000 upon FDA marketing approval of the first licensed product.

The agreement terminates on the date that the last of the licensed patents expire, expected to be January 25, 2021. We may terminate the agreement by giving Stanford notice in writing at least 30 days in advance of the date of termination. Stanford has the right to terminate the agreement if we are in default in payment of royalty or providing of reports, if we are in breach of any other provisions of the agreement, or if we provide a false report to Stanford, and in each case, we fail to remedy such default, breach or false report within 30 days after written notice thereof. We are obligated to have licensed products relating to growth, ontogenesis and regeneration of cartilaginous tissue available for commercial sale by December 31, 2015. If we fail to fulfill such obligation, Stanford may terminate our rights with respect to the applicable part of the field of use. Stanford may also terminate the agreement if we or our sublicensees have not sold licensed products for a continuous period of one year after the first commercial sale of licensed products.

Yeda Research and Development Co., Ltd.

In January 2008, we entered into an exclusive license agreement with Yeda Research and Development Co., Ltd. (Yeda) for rights relating to high level expression of heterologous proteins and plasmid p80 BS, which rights are

 

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jointly owned by Yeda and us. Under our agreement, Yeda granted us an exclusive worldwide license under its rights for the manufacture, use and sale of heterologous proteins and plasmid p80 BS.

We are required to pay Yeda a yearly license fee of $2,000, which is creditable against royalties payable by us to Yeda during the one-year period in respect of which such fee was paid. Yeda is entitled a royalty fee of a low single digit percentage rate of our net sales of the licensed products, a low single digit percentage rate of our net sales for combination products (meaning the combination of the licensed product with at least one other active ingredient, material or medical device that would have a clinical effect if administered independently) and a low double digit percentage rate of all of our sublicensing receipts.

The agreement terminates on a country-by-country, licensed product-by-licensed product basis on the later of (a) the date of expiration in such country of the last licensed patent covering the applicable licensed product and (b) ten years from the date of the first commercial sale of the first licensed product in that country, or, if there have not been any sales in such country, ten years from the date of the first commercial sale of the licensed product worldwide. Either party may terminate the agreement by written notice if there is an uncurable material breach or a material breach that is not cured within 30 days (14 days in the case of non-payment).

Competition

The regenerative medicine industry is characterized by innovative science, rapidly advancing technologies and a strong emphasis on proprietary products. While we believe that our technology, development experience, scientific knowledge and intellectual property portfolio provide us with competitive advantages, we face potential competition from many different sources, including major pharmaceutical, specialty pharmaceutical, biotechnology and regenerative medicine companies, academic institutions, governmental agencies and public and private research institutions.

The competitive landscape in the field of articular cartilage repair is emerging and has stimulated a substantial amount of interest from companies developing tissue repair solutions. Companies have employed a variety of approaches to meet the goals of cartilage repair. The approaches, which represent the scientific evolution of the field, can be generally categorized in five ways: (1) non-cell-based, such as Arthrosurface’s HemiCAP; (2) uncultured cell-based (with or without scaffold), such as Zimmer’s DeNovo NT and Osiris’ Cartiform; (3) cultured cell-based (without scaffold), such as Genzyme’s Carticel and ISTO’s RevaFlex; (4) cultured cell- and scaffold-based, such as Sanofi’s MACI and the Aesculap division of B. Braun Medical’s NovoCart 3D; and (5) cultured cell- and scaffold-based incorporating tissue engineering, such as NeoCart.

For knee cartilage repair and regeneration, the market is large and growing, driven by more knee injuries in an ever-increasingly active population. Worldwide, many products are commercially available, but the majority of these products are currently only available in the EEA, with Carticel, whose label restricts it for use in salvage cases, being the only cartilage repair product to gain U.S. approval through a regulated path to market. RevaFlex and NovoCart 3D are in U.S. clinical development, but their early clinical data has not been published in highly regarded peer-reviewed journals. Although minimally-modified allograft cells such as DeNovo NT and acellular allograft cartilage matrix products such as Cartiform and Arthrex’s BioCartilage and are available in the United States, their path to market did not require a rigorous regulatory path and their clinical data to date has been sparse and commercial uptake limited. Product-less procedures such as debridement and microfracture continue to dominate the U.S. market.

Any product candidates that we successfully develop and commercialize will compete with existing therapies and new therapies that may become available in the future. Our competitors may have substantially greater financial, technical and human resources that could put them at an advantage in the development of safe and efficacious products and may help them obtain regulatory approval for their products more rapidly, as well as achieve more widespread market acceptance. We believe, however, the competitive benefits of NeoCart will allow us to position NeoCart effectively as a strong contender in the tissue repair market.

 

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Outside the United States, many procedures and products for cartilage repair are available. However, we anticipate that many of these are unlikely to seek approval in the United States because of the rigorous and lengthy regulatory path a sponsor must pursue in order to access the market and the high-quality superiority data that must be produced. Additionally, other than the few currently approved U.S. products, to our knowledge no other known European cartilage product to date has any clinical experience or data in U.S. patients.

Government Regulation

Regulatory Background on Autologous Cellular Products

The FDA does not apply a single regulatory scheme to human tissues and the products derived from human tissue. On a product-by-product basis, the FDA may regulate such products as drugs, biologics, or medical devices, in addition to regulating them as human cells, tissues, or cellular or tissue-based products (HCT/Ps), depending on whether or not the particular product triggers any of an enumerated list of regulatory factors. A fundamental difference in the treatment of products under these classifications is that the FDA generally permits HCT/Ps that do not trigger any of those regulatory factors to be commercially distributed without marketing approval. In contrast, products that trigger those factors, such as if they are more than minimally manipulated when processed or manufactured, are regulated as drugs, biologics, or medical devices and require FDA approval. The FDA has designated NeoCart as a biologic under the jurisdiction of the Center for Biologics Evaluation and Research and market access or approval will require BLA approval.

In 1997, the FDA began requiring BLA filing for autologous cellular products and approved the already-marketed Carticel contingent on further clinical trials. In 2000, Carticel’s indication narrowed to second-line therapy for patients with inadequate response to prior treatment. The FDA now requires evidence of clinical efficacy against approved endpoints and standard of care control arm as outlined in their final guidance on the subject of cartilage repair.

The grant of marketing authorization in the EEA for products containing viable human tissues or cells such as NeoCart is governed by Regulation 1394/2007/EC on advanced therapy medicinal products, read in combination with Directive 2001/83/EC of the European Parliament and of the Council, commonly known and the Community code on medicinal products. Regulation 1394/2007/EC lays down specific rules concerning the authorization, supervision and pharmacovigilance of gene therapy medicinal products, somatic cell therapy medicinal products and tissue engineered products. Manufacturers of advanced therapy medicinal products must demonstrate the quality, safety and efficacy of their products to the European Medicines Agency (EMA), which is required to provide an opinion regarding the application for marketing authorization. The European Commission grants or refuses marketing authorization in light of the opinion delivered by the EMA.

Applicants for marketing authorization for medicinal products in the EEA are required to submit applications for marketing authorization based on the ICH Common Technical Document and must demonstrate the safety, quality and efficacy of the medicinal product for which the marketing authorization is sought. The application must include the results of pre-clinical tests and clinical trials conducted with the medicinal product. The conduct of clinical trials in the EEA is governed by Directive 2001/20/EC which imposes obligations and procedures that are similar to those provided in applicable U.S. laws. The obligations provided in the European Union (EU) Good Clinical Practice rules and EU Good Laboratory Practice must also be respected during conduct of the trials. Clinical trials must be approved by the competent regulatory authorities and the competent Ethics Committees in the EU Member States in which the clinical trials take place. Moreover, applicants are required to demonstrate that studies have been conducted with the medicinal product in the pediatric population as provided by a Pediatric Investigation Plan approved by the Pediatric Committee of the EMA. Alternatively, confirmation that the applicant has obtained a waiver or deferral for the conduct of these studies must be provided.

Anticipated FDA Regulatory and Approval Process for NeoCart

We anticipate NeoCart, if approved, to be the first autologous cell- and scaffold-based product in the U.S. market to have been studied in a randomized controlled trial with a rigorous responder analysis under an approved SPA.

 

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The FDA approved the NeoCart Phase 3 study design under the SPA process and concluded that the trial “design and planned analyses … sufficiently address the studies’ objectives … these studies are adequately designed to provide the necessary data that … could support a license application submission.” We anticipate the SPA to be binding unless the FDA “determines that a substantial issue essential to determining the safety or efficacy of the drug has been identified after the testing has begun.”

Reimbursement

In both domestic and foreign markets, sales of any regulatory-approved products depend in part upon the availability of reimbursement from third-party payors. Third-party payors include government health programs, such as Medicare and Medicaid, private health insurers and managed care providers, and other organizations. Reimbursement policy involves coding, coverage and payment decisions and our business strategy is to produce the necessary information for optimal decision-making by payors.

Coding:    While reimbursement policy for NeoCart is uncertain at this point, we believe that the existing Current Procedural Terminology, Healthcare Commission Procedure Coding System and International Classification of Diseases, Ninth Edition coding options for ACI are sufficiently broad that they could apply to NeoCart.

Coverage:    Our goal is to demonstrate improved health outcomes (e.g., improved patient outcomes and quality of life on several parameters, lower total costs including lower overall utilization of healthcare services and faster return to work) for patients receiving NeoCart compared to microfracture, an important element in securing coverage decisions by payors (Medicare and private payors).

Payment:    Analysis of recent trends in ACI coverage (discharge data) suggest that patients between 18 and 64 years of age constitute the majority of the market for ACI, resulting in a market dominated by private payors. Only 10% to 20% of ACI patients are estimated to be 65 years of age and older. While limited data is available for private payor reimbursement of ACI, these payors typically reimburse inpatient procedures with bundling mechanisms similar to Medicare Severity Diagnosis Related Groups. In addition, some private payors also tend to use Medicare rates as benchmarks when setting their own fee schedules. We plan to provide objective clinical data, patient-reported quality of life data and health economic data demonstrating NeoCart’s value to assist in optimizing payment decisions for NeoCart.

Government Regulation Overview

United States

Overview

In the United States, the FDA regulates biological products under the Federal Food, Drug, and Cosmetic Act and the Public Health Service Act and related regulations. Biological products are also subject to other federal, state, local, and foreign statutes and regulations. The FDA and comparable regulatory agencies in state and local jurisdictions and in foreign countries impose substantial requirements upon the clinical development, manufacture and marketing of biological products. These agencies and other federal, state, local, and foreign entities regulate research and development activities and the testing, manufacture, quality control, safety, effectiveness, packaging, labeling, storage, distribution, record keeping, reporting, approval, advertising and promotion of our products. Failure to comply with the applicable U.S. regulatory requirements at any time during the product development process, including clinical testing, approval process or after approval may subject an applicant to administrative or judicial sanctions.

Government regulation may delay or prevent marketing of product candidates for a considerable period of time and impose costly procedures upon our activities. The testing and approval process requires substantial time, effort, and financial resources, and we cannot be certain that the FDA or any other regulatory agency will grant approvals for NeoCart or any future product candidates on a timely basis, if at all. The FDA’s policies may change and additional government regulations may be enacted that could prevent or delay regulatory approval of

 

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NeoCart or any future product candidates or approval of new disease indications or label changes. We cannot predict the likelihood, nature or extent of adverse governmental regulation that might arise from future legislative, judicial, or administrative action, either in the United States or abroad.

Marketing Approval

The process required by the FDA before biological products may be marketed in the United States generally involves the following:

 

   

completion of nonclinical laboratory and animal tests according to good laboratory practices, and applicable requirements for the humane use of laboratory animals or other applicable regulations;

 

   

submission to the FDA of an IND application which must become effective before human clinical trials may begin;

 

   

performance of adequate and well-controlled human clinical trials according to the FDA’s regulations commonly referred to as good clinical practices (GCP), and any additional requirements for the protection of human research patients and their health information, to establish the safety and efficacy of the proposed biological product for its intended use or uses;

 

   

submission to the FDA of a BLA for marketing approval that includes substantive evidence of safety, purity, and potency from results of nonclinical testing and clinical trials;

 

   

satisfactory completion of an FDA pre-approval inspection of manufacturing facilities where the biological product is produced to assess compliance with good manufacturing practices (GMP) to assure that the facilities, methods and controls are adequate to preserve the biological product’s identity, strength, quality and purity and, if applicable, the FDA’s current good tissue practices (GTP) for the use of human cellular and tissue products to prevent the introduction, transmission or spread of communicable diseases;

 

   

potential FDA audit of the nonclinical study sites and clinical trial sites that generated the data in support of the BLA; and

 

   

FDA review and approval, or licensure, of the BLA, which must occur before a biological product can be marketed or sold.

U.S. Biological Products Development Process

Before testing any biological product candidate in humans, the product candidate enters the nonclinical testing stage. Nonclinical tests include laboratory evaluations of product chemistry, toxicity and formulation, as well as animal studies to assess the potential safety and activity of the product candidate. The conduct of the nonclinical tests must comply with federal regulations and requirements including good laboratory practices.

Prior to commencing the first clinical trial, the clinical trial sponsor must submit the results of the nonclinical tests, together with manufacturing information, analytical data, any available clinical data or literature and a proposed clinical protocol, to the FDA as part of an initial IND application. Some nonclinical testing may continue even after the IND application is submitted. The IND application automatically becomes effective 30 days after receipt by the FDA unless the FDA, within the 30-day time period, raises concerns or questions about the conduct of the clinical trial and places the clinical trial on a clinical hold. In such case, the IND application sponsor must resolve any outstanding concerns with the FDA before the clinical trial may begin. Further, an IRB for each site proposing to conduct the clinical trial must review and approve the plan for any clinical trial before it commences at that site. An IRB is charged with protecting the welfare and rights of study subjects and considers such items as whether the risks to individuals participating in the clinical trials are minimized and are reasonable in relation to anticipated benefits. The IRB also approves the form and content of the informed consent that must be signed by each clinical trial subject or his or her legal representative and must monitor the clinical trial until completed. The FDA or IRB may impose clinical holds on a biological product candidate at any time before or during clinical trials due to safety concerns or non-compliance. If the FDA imposes a clinical

 

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hold, trials may not recommence without FDA or IRB authorization and then only under terms authorized by the FDA and IRB. Accordingly, we cannot be sure that submission of an IND application will result in the FDA allowing clinical trials to begin or that, once begun, issues will not arise that will result in the suspension or termination of such trials.

Clinical trials involve the administration of the biological product candidate to healthy volunteers or patients under the supervision of qualified investigators, generally physicians not employed by or under the trial sponsor’s control. Clinical trials are conducted under protocols detailing, among other things, the objectives of the clinical trial, dosing procedures, subject selection and exclusion criteria, and the parameters to be used to monitor subject safety, including stopping rules that assure a clinical trial will be stopped if certain adverse events should occur. Each protocol and any amendments to the protocol must be submitted to the FDA as part of the IND application and to the IRB.

For purposes of BLA approval, human clinical trials are typically conducted in three sequential phases that may overlap:

 

   

Phase 1—The biological product is initially introduced into healthy human patients and tested for safety. In the case of some products for severe or life-threatening diseases, especially when the product may be too inherently toxic to ethically administer to healthy volunteers, the initial human testing is conducted in patients. These trials may also provide early evidence on effectiveness.

 

   

Phase 2—These trials are conducted in a limited number of patients in the target population to identify possible adverse effects and safety risks, to preliminarily evaluate the efficacy of the product for specific targeted diseases and to determine dosage tolerance and optimal dosage. Multiple Phase 2 clinical trials may be conducted by the sponsor to obtain information prior to beginning larger and more expensive Phase 3 clinical trials.

 

   

Phase 3—Phase 3 trials are undertaken to provide statistically significant evidence of clinical efficacy and to further evaluate dosage, potency and safety in an expanded patient population at multiple clinical trial sites. They are performed after preliminary evidence suggesting effectiveness of the product has been obtained, and are intended to establish the overall benefit-risk relationship of the investigational product and to provide an adequate basis for product approval and labeling.

Post-approval clinical trials, sometimes referred to as Phase 4 clinical trials, may be conducted after initial marketing approval. These trials may be required by the FDA as a condition of approval and are used to gain additional experience from the treatment of patients in the intended therapeutic indication, particularly for long-term safety follow-up. The FDA now has express statutory authority to require post-market clinical trials to address safety issues. All of these trials must be conducted in accordance with GCP requirements in order for the data to be considered reliable for regulatory purposes.

During all phases of clinical development, regulatory agencies require extensive monitoring and auditing of all clinical activities, clinical data and clinical trial investigators. Annual progress reports detailing the results of the clinical trials must be submitted to the FDA. Written IND safety reports must be promptly submitted to the FDA and the investigators for serious and unexpected adverse events; any findings from other studies, tests in laboratory animals or in vitro testing that suggest a significant risk for human patients; or any clinically important increase in the rate of a serious suspected adverse reaction over that listed in the protocol or investigator brochure. The sponsor must submit an IND safety report within 15 calendar days after the sponsor determines that the information qualifies for reporting. The sponsor also must notify the FDA of any unexpected fatal or life-threatening suspected adverse reaction within seven calendar days after the sponsor’s initial receipt of the information.

Phase 1, Phase 2 and Phase 3 clinical trials may not be completed successfully within any specified period, if at all. Regulatory authorities, a data safety monitoring board or the sponsor may suspend a clinical trial at any time on various grounds, including a finding that the participants are being exposed to an unacceptable health risk.

 

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Similarly, an IRB can suspend or terminate approval of a clinical trial at its institution if the clinical trial is not being conducted in accordance with the IRB’s requirements or if the biological product has been associated with unexpected serious harm to patients.

Our ongoing and planned clinical trials for our product candidates may not begin or be completed on schedule, if at all. Clinical trials can be delayed for a variety of reasons, including delays in:

 

   

obtaining regulatory approval to commence a trial;

 

   

reaching agreement with third-party clinical trial sites and their subsequent performance in conducting accurate and reliable trials on a timely basis;

 

   

obtaining IRB approval to conduct a trial at a prospective site;

 

   

recruiting patients to participate in a trial; and

 

   

supply of the biological product.

Typically, if a biological product is intended to treat a chronic disease, as is the case with NeoCart, safety and efficacy data must be gathered over an extended period of time, which can range from six months to three years or more. Success in early stage clinical trials does not ensure success in later stage clinical trials. Data obtained from clinical activities is not always conclusive and may be susceptible to varying interpretations, which could delay, limit or prevent regulatory approval.

Concurrent with clinical trials, companies usually complete additional animal studies and must also develop additional information about the physical characteristics of the biological product as well as finalize a process for manufacturing the product in commercial quantities in accordance with GMP requirements. To help reduce the risk of the introduction of adventitious agents with the use of biological products, the Public Health Service Act emphasizes the importance of manufacturing control for products whose attributes cannot be precisely defined. The manufacturing process must be capable of consistently producing quality batches of the product candidate and, among other things, the sponsor must develop methods for testing the identity, strength, quality, potency and purity of the final biological product. Additionally, appropriate packaging must be selected and tested and stability studies must be conducted to demonstrate that the biological product candidate does not undergo unacceptable deterioration over its shelf life.

U.S. Review and Approval Processes

In order to obtain approval to market a biological product in the United States, a BLA must be submitted to the FDA that provides data establishing to the FDA’s satisfaction the safety, purity and potency of the investigational biological product for the proposed indication. The application includes all data available from nonclinical studies and clinical trials, including negative or ambiguous results as well as positive findings, together with detailed information relating to the product’s manufacture and composition, and proposed labeling, among other things. The testing and approval processes require substantial time and effort, and there can be no assurance that the FDA will accept the BLA for filing and, even if filed, that any approval will be granted on a timely basis, if at all.

Under the Prescription Drug User Fee Act (PDUFA), each BLA must be accompanied by a user fee. The FDA adjusts the PDUFA user fees on an annual basis. According to the FDA’s fee schedule, effective beginning on October 1, 2013 and in effect through September 30, 2014, the user fee for an application requiring clinical data, such as a BLA, will be $2,169,100 for 2014. PDUFA also imposes an annual product fee for biologics ($104,060 for 2014), and an annual establishment fee ($554,600 for 2014) on facilities used to manufacture prescription biologics. Fee waivers or reductions are available in certain circumstances, including a waiver of the application fee for the first application filed by a small business. Additionally, no user fees are assessed on BLAs for products designated as orphan drugs, unless the product also includes a non-orphan indication.

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review. The FDA may refuse to file any BLA that it deems incomplete or not properly reviewable at the time of submission and may request additional information. In this event, the BLA must be resubmitted with the additional information. The resubmitted application also is subject to review before the FDA accepts it for filing. After the BLA submission is accepted for filing, the FDA reviews the BLA to determine, among other things, whether the proposed product is safe and potent, or effective, for its intended use, and has an acceptable purity profile, and whether the product is being manufactured in accordance with GMPs to assure and preserve the product’s identity, safety, strength, quality, potency, and purity, and biological product standards. The FDA may refer applications for novel biological products or biological products that present difficult questions of safety or efficacy to an advisory committee, typically a panel that includes clinicians and other experts, for review, evaluation and a recommendation as to whether the application should be approved and, if so, under what conditions. The FDA is not bound by the recommendations of an advisory committee, but it considers such recommendations carefully when making decisions.

Before approving a BLA, the FDA will inspect the facilities at which the product is manufactured. The FDA will not approve the product unless it determines that the manufacturing processes and facilities are in compliance with GMP requirements and adequate to assure consistent production of the product within required specifications. For a human cellular or tissue product, the FDA also will not approve the product if the manufacturer is not in compliance with the GTP. These are FDA regulations that govern the methods used in, and the facilities and controls used for, the manufacture of HCT/Ps, which are human cells or tissue intended for implantation, transplant, infusion, or transfer into a human recipient. The primary intent of the GTP requirements is to ensure that cell and tissue based products are manufactured in a manner designed to prevent the introduction, transmission and spread of communicable disease. FDA regulations also require tissue establishments to register and list their HCT/Ps with the FDA and, when applicable, to evaluate donors through screening and testing. Additionally, before approving a BLA, the FDA may inspect one or more clinical sites to assure that the clinical trials were conducted in compliance with IND application study requirements and GCP. To assure GMP, GTP and GCP compliance, an applicant must incur significant expenditure of time, money and effort. If the FDA determines the manufacturing process or manufacturing facilities are not acceptable, it typically will outline the deficiencies and often will require the facility to take corrective action and provide documentation evidencing the implementation of such corrective action. This may significantly delay further review of the application. If the FDA finds that a clinical site did not conduct the clinical trial in accordance with GCP, the FDA may determine the data generated by the clinical site should be excluded from the primary efficacy analyses provided in the BLA and request additional testing or data. Additionally, notwithstanding the submission of any requested additional information, the FDA ultimately may decide that the application does not satisfy the regulatory criteria for approval.

The FDA also has authority to require a Risk Evaluation and Mitigation Strategy (REMS) from manufacturers to ensure that the benefits of a biological product outweigh its risks. A sponsor may also voluntarily propose a REMS as part of the BLA submission. The need for a REMS is determined as part of the review of the BLA. Based on statutory standards, elements of a REMS may include “dear doctor letters,” a medication guide, more elaborate targeted educational programs, and in some cases restrictions on distribution. These elements are negotiated as part of the BLA approval, and in some cases may delay the approval date. Once adopted, REMS are subject to periodic assessment and modification.

After the FDA completes its initial review of a BLA, it will communicate to the sponsor that the biological product will either be approved, or it will issue a complete response letter to communicate that the BLA will not be approved in its current form. The complete response letter usually describes all of the specific deficiencies in the BLA identified by the FDA. The deficiencies identified may be minor, for example, requiring labeling changes, or major, for example, requiring additional clinical trials. Additionally, the complete response letter may include recommended actions that the applicant might take to place the applicant in a condition for approval. If a complete response letter is issued, the applicant may either resubmit the BLA, addressing all of the deficiencies identified in the letter, or withdraw the application.

 

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The FDA may not grant approval on a timely basis, or at all. We may encounter difficulties or unanticipated costs in our efforts to secure necessary governmental approvals, which could delay or preclude us from marketing our products. The testing and approval process for a biological product usually takes several years to complete.

One of the performance goals agreed to by the FDA under PDUFA is to review 90% of standard BLAs within ten months of the 60-day filing date and 90% of priority BLAs within six months of the 60-day filing date, whereupon a review decision is to be made. The FDA does not always meet its PDUFA goal dates for standard and priority BLAs and its review goals are subject to change from time to time. The review process and the PDUFA goal data may be extended by three months if the FDA requests or the BLA applicant otherwise provides additional information or clarification regarding information already provided in the submission within the last three months before the PDUFA goal date.

Even if a product candidate receives regulatory approval, the approval may be limited to specific disease states, patient populations and dosages, or the indications for use may otherwise be limited, which could restrict the commercial value of the product. Further, the FDA may require that certain contraindications, warnings, or precautions be included in the product labeling. The FDA may impose restrictions and conditions on product distribution, prescribing or dispensing in the form of a risk management plan, or otherwise limit the scope of any approval. In addition, the FDA may require Phase 4 post-marketing clinical trials, designed to further assess a biological product’s safety and effectiveness, and testing and surveillance programs to monitor the safety of approved products that have been commercialized. Further, even after regulatory approval is obtained, later discovery of previously unknown problems with a product may result in the imposition of new restrictions on the product or even complete withdrawal of the product from the market. Delay in obtaining, or failure to obtain and maintain, regulatory approval for NeoCart, or obtaining approval but for significantly limited use, would harm our business.

FDA Post-Approval Requirements

Maintaining substantial compliance with applicable federal, state, local and foreign statutes and regulations requires the expenditure of substantial time and financial resources. Rigorous and extensive FDA regulation of biological products continues after approval, particularly with respect to GMP. We may rely, in the future, on third parties for the production of clinical and commercial quantities of any future products that we may commercialize. Manufacturers of our products are required to comply with applicable requirements in the GMP regulations, including quality control and quality assurance and maintenance of records and documentation. We cannot be certain that we or our present or future suppliers will be able to comply with the GMP and other FDA regulatory requirements. Other post-approval requirements applicable to biological products include reporting of GMP deviations that may affect the identity, potency, purity and overall safety of a distributed product, record-keeping requirements, reporting of adverse effects, reporting updated safety and efficacy information and complying with electronic record and signature requirements. After a BLA is approved, the product also may be subject to official lot release. As part of the manufacturing process, the manufacturer is required to perform certain tests on each lot of the product before it is released for distribution. If the product is subject to official release by the FDA, the manufacturer submits samples of each lot of product to the FDA together with a release protocol showing a summary of the history of manufacture of the lot and the results of all of the manufacturer’s tests performed on the lot. The FDA also may perform certain confirmatory tests on lots of some products, such as viral vaccines, before releasing the lots for distribution by the manufacturer. In addition, the FDA conducts laboratory research related to the regulatory standards on the safety, purity, potency and effectiveness of biological products.

Discovery of previously unknown problems or the failure to comply with the applicable regulatory requirements, by us or our suppliers, may result in restrictions on the marketing of a product or withdrawal of the product from the market as well as possible civil or criminal sanctions and adverse publicity. FDA sanctions could include refusal to approve pending applications, suspension or revocation of an approval, clinical hold, warning or untitled letters, product recalls, product seizures, total or partial suspension of production or distribution,

 

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injunctions, fines, refusals of government contracts, mandated corrective advertising or communications with doctors, debarment, restitution, disgorgement of profits or civil or criminal penalties. Any agency or judicial enforcement action could have a material adverse effect on us.

Biological product manufacturers and other entities involved in the manufacture and distribution of approved biological products are required to register their facilities with the FDA and certain state agencies, and are subject to periodic unannounced inspections by the FDA and certain state agencies for compliance with GMPs and other laws. In addition, changes to the manufacturing process or facility generally require prior FDA approval before being implemented and other types of changes to the approved product, such as adding new indications and additional labeling claims, are also subject to further FDA review and approval.

Labeling, Marketing and Promotion

The FDA closely regulates the labeling, marketing and promotion of biological products, including direct-to-consumer advertising, promotional activities involving the internet, and industry-sponsored scientific and educational activities. While doctors are free to prescribe any product approved by the FDA for any use, a company can only make claims relating to safety and efficacy of a biological product that are consistent with FDA approval, and the company is allowed to market a biological product only for the particular use and treatment approved by the FDA. In addition, any claims we make for our products in advertising or promotion must be appropriately balanced with important safety and risk information and otherwise be adequately substantiated. Failure to comply with these requirements can result in adverse publicity, warning letters, corrective advertising, injunctions, seizures, potential civil and criminal penalties and exclusion from government healthcare programs.

Anti-Kickback and False Claims Laws

In the United States, the research, manufacture, distribution, sale and promotion of biological products are potentially subject to regulation by various federal, state and local authorities in addition to the FDA, including the Centers for Medicare & Medicaid Services, other divisions of the U.S. Department of Health and Human Services (for example, the Office of Inspector General), the U.S. Department of Justice, state Attorneys General, and other federal, state and local government agencies. For example, sales, marketing and scientific/educational grant programs must comply with the Anti-Kickback Statute, the False Claims Act, the privacy regulations promulgated under the Health Insurance Portability and Accountability Act and similar state laws. Pricing and rebate programs must comply with the Medicaid Drug Rebate Program requirements of the Omnibus Budget Reconciliation Act, and the Veterans Health Care Act. If products are made available to authorized users of the Federal Supply Schedule of the General Services Administration, additional laws and requirements apply. All of these activities are also potentially subject to federal and state consumer protection and unfair competition laws.

As noted above, in the United States, we are subject to complex laws and regulations pertaining to healthcare “fraud and abuse,” including the Anti-Kickback Statute, the False Claims Act and other state and federal laws and regulations. The Anti-Kickback Statute makes it illegal for any person, including a biological product manufacturer (or a party acting on its behalf), to knowingly and willfully solicit, receive, offer, or pay any remuneration that is intended to induce the referral of business, including the purchase or order of an item for which payment may be made under a federal healthcare program, such as Medicare or Medicaid. Violations of this law are punishable by up to five years in prison, criminal fines, administrative civil money penalties and exclusion from participation in federal healthcare programs. In addition, many states have adopted laws similar to the Anti-Kickback Statute. Some of these state prohibitions apply to the referral of patients for healthcare services reimbursed by any insurer, not just federal healthcare programs such as Medicare and Medicaid. Due to the breadth of these federal and state anti-kickback laws and the potential for additional legal or regulatory change in this area, it is possible that our future sales and marketing practices or our future relationships with physicians might be challenged under anti-kickback laws, which could harm us. Because we intend to commercialize products that could be reimbursed under a federal healthcare program and other governmental healthcare programs, we plan to develop a comprehensive compliance program that establishes internal controls to facilitate adherence to the rules and program requirements to which we will or may become subject.

 

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The False Claims Act prohibits anyone from, among other things, knowingly presenting, or causing to be presented, for payment to federal programs (including Medicare and Medicaid) claims for items or services, including biological products, that are false or fraudulent. Although we likely would not submit claims directly to payers, manufacturers can be held liable under these laws if they are deemed to “cause” the submission of false or fraudulent claims by, for example, providing inaccurate billing or coding information to customers or promoting a product off-label. In addition, our future activities relating to the reporting of wholesaler or estimated retail prices for our products, the reporting of prices used to calculate Medicaid rebate information and other information affecting federal, state and third-party coverage and reimbursement for our products and the sale and marketing of our products, are subject to scrutiny under this law. For example, pharmaceutical companies have been prosecuted under the False Claims Act in connection with their off-label promotion of drugs. Penalties for a False Claims Act violation include three times the actual damages sustained by the government, plus mandatory civil penalties of between $5,500 and $11,000 for each separate false claim, the potential for exclusion from participation in federal healthcare programs, and, although the federal False Claims Act is a civil statute, conduct that results in a False Claims Act violation may also implicate various federal criminal statutes. If the government were to allege that we were, or convict us of, violating these false claims laws, we could be subject to a substantial fine and may suffer a decline in our stock price. In addition, private individuals have the ability to bring actions under the False Claims Act and certain states have enacted laws modeled after the False Claims Act.

There are also an increasing number of state laws that require manufacturers to make reports to states on pricing and marketing information. Many of these laws contain ambiguities as to what is required to comply with the laws. In addition, beginning in August 2013, a similar federal requirement requires manufacturers to track and report to the federal government certain payments made to physicians and teaching hospitals made in the previous calendar year. These laws may affect our sales, marketing, and other promotional activities by imposing administrative and compliance burdens on us. In addition, given the lack of clarity with respect to these laws and their implementation, our reporting actions could be subject to the penalty provisions of the pertinent state, and soon federal, authorities.

Other Regulations

We are also subject to numerous federal, state and local laws relating to such matters as safe working conditions, manufacturing practices, environmental protection, fire hazard control and disposal of hazardous or potentially hazardous substances. We may incur significant costs to comply with such laws and regulations now or in the future.

EU and EEA

Marketing authorization in the EU for products containing viable human tissues or cells such as NeoCart is governed by Regulation 1394/2007/EC on advanced therapy medicinal products, read in combination with Directive 2001/83/EC of the European parliament and of the Council, commonly known as the Community code on medicinal products. Regulation 1394/2007/EC establishes specific rules concerning the authorization, supervision and pharmacovigilance of gene therapy medicinal products, somatic cell therapy medicinal products and tissue engineered products. Manufacturers of advanced therapy medicinal products must demonstrate the quality, safety and efficacy of their products to the EMA which is required to provide an opinion regarding the application for marketing authorization. The European Commission grants or refuses marketing authorization in light of the opinion delivered by the EMA.

Applicants for marketing authorizations for medicinal products in the EEA are required to submit applications for marketing authorization in a form that is based on the ICH Common Technical Document, and must demonstrate the safety, quality and efficacy of the medicinal product for which the marketing authorization is sought. The application must include the results of pre-clinical tests and clinical trials conducted with the medicinal product.

 

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The conduct of clinical trials in the EEA is governed by Directive 2001/20/EC which imposes obligations and procedures that are similar to those provided in applicable U.S. laws. The EU Good Clinical Practice rules and EU Good Laboratory Practice obligations must also be respected during conduct of the trials. Clinical trials must be approved by the competent regulatory authorities and the competent Ethics Committees in the EU Member States in which the clinical trials take place.

Moreover, applicants are required to provide evidence that studies have been conducted with the medicinal product in the pediatric population as provided by a Pediatric Investigation Plan approved by the Pediatric Committee of the EMA. Alternatively, confirmation that the applicant has obtained a waiver or deferral for the conduct of these studies must be provided.

Cell-based products must also comply with Directive 2004/23/EC of the European Parliament and of the Council of March 31, 2004 on setting standards of quality and safety for the donation, procurement, testing, processing, preservation, storage and distribution of human tissues and cells (Tissues and Cells Directive). This Directive describes the conditions and quality requirements which must be applied when sourcing the cells intended for manufacturing of the cell-based medicinal product. The EU Member States have transposed the Tissues and Cells Directive into their national laws.

Locally different interpretations of the Tissue and Cells Directive have occurred during adoption of the national legal implementations by individual EU Member States. This has led to some inconsistency of approach leading to additional complexity in complying with the all-over requirements in this already difficult regulatory field.

Given the specific nature of cell-based products, the clinical development paths are less standardized than for classic pharmaceutical or biological products. Phase 1 studies are often not relevant, in particular for autologous cell-based products, since cells often need to be directly implanted into a tissue defect only present in patients. As cellular therapy Phase 3 studies are very complex to organize, often limited numbers of patients can be enrolled and follow up times can be very long, so that the design and execution of these large confirmatory trials might not always be possible to the classical extent. Upfront discussions and agreement with the regulatory authorities are an important criterion to success. It is also expected that new regulatory guidance will become available in the near future, more clearly describing the regulatory expectations.

Facilities

Our corporate headquarters are currently located in Waltham, Massachusetts, for which we have a lease until December 2017, renewable for two additional five-year terms. We lease approximately 25,472 square feet of office, manufacturing and laboratory space, including 5,700 square feet of cGMP clean room space that is outfitted for NeoCart manufacturing. This facility also houses our quality staff, including quality control testing, necessary to support NeoCart manufacturing. We have subleased approximately 7,310 square feet of our facility to a tenant through March 2015, at which time this space will be returned for our use. The Waltham facility is expected to be adequate for a potential initial commercial launch of NeoCart in 2017.

Additionally, we are in the process of leasing office and laboratory space in the Waltham, Massachusetts area. We anticipate that this facility will include clean room space that is utilized for production of our CT3 adhesive components. We also anticipate that this facility will include necessary space for quality operations, including quality control testing. We plan to further utilize this facility for manufacturing of key components of NeoCart, including collagen and scaffolding.

Employees

As of September 30, 2013, we employed 29 full-time employees, including two in research and development, four in clinical development, two in regulatory, 16 in manufacturing and quality control and assurance, and five in executive, general and administrative. We have never had a work stoppage, and none of our employees is represented by a labor organization or under any collective bargaining arrangements.

 

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Legal Proceedings

We are not a party to any material legal proceedings at this time. From time to time, we may be subject to various legal proceedings and claims that arise in the ordinary course of our business activities. Although the results of litigation and claims cannot be predicted with certainty, as of the date of this prospectus, we do not believe we are party to any claim or litigation the outcome of which, if determined adversely to us, would individually or in the aggregate be reasonably expected to have a material adverse effect on our business. Regardless of the outcome, litigation can have an adverse impact on us because of defense and settlement costs, diversion of management resources and other factors.

 

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MANAGEMENT

Executive Officers, Key Employees and Directors

Our executive officers, key employees, directors and their ages and positions as of December 31, 2013, are set forth below:

 

Name

   Age     

Position

Executive officers:

     

Peter Greenleaf

     43       Chief Executive Officer, President and Director

Kevin McArdle

     42       Chief Financial Officer

Nancy Lynch, M.D.

     49