In the world of OTC BB listed equities, the exchange facilitates the opportunity for development-stage companies and innovative up-and-comers to garner attention and investment as they grow. As products and services become more validated (ex. through studies like phase trials) and/or become profitable, it rapidly becomes more desirable for companies to uplist to a national securities exchange like the NASDAQ-CM or NYSE-MKT to harness the exchanges benefits of greater visibility, increased liquidity and accessibility to the deep pockets of institutional investment firms and retail brokers. However, uplisting to a national exchange is no walk in the park as, strict requirements are in place to be listed (outlined here). To qualify, companies must meet standards in market capitalization, stock price, number of shareholders and positive stockholders' equity.
InVivo Therapeutics (OTC:NVIV), a developer of specialized technologies for the treatment of spinal cord injuries [SCI] and other neurotrauma conditions, currently satisfies all qualification requirements except the prerequisite of having a positive stockholders' equity. As outlined in the requirements, the national exchanges necessitate minimum stockholders' equity of $4.0 million. Despite having a stockholders' deficit of $2.3 million, last reported on the Form 10-K, the company is in a strong financial position sporting $13.4 million in cash and equivalents, totaling $16.1 million in total assets.
The liabilities of $18.4 million may come off as a deceptive figure at first, if you don't realize that approximately $15 million of that liability stems from outstanding derivative warrant liability (non-cash expense). The warrants issued, as part of a financing deals completed previously in 2010, are subject to anti-dilution protection, which is a safeguard for investors holding the convertible instruments from an adjustment in the strike price if there is a subsequent round of equity or derivative instrument financing at a strike price lower than theirs (such "down-round" provisions would usually adjust the strike price to the strike price of the subsequent transaction).
Under the governing accounting principles, anti-dilution protected warrant liability is required to be recorded on the balance sheet as a liability, which has the adverse effect of substantially reducing the stockholders' equity and working capital. Subsequently, the warrant liability grows as the stock price increases and is re-valued every quarter distancing the company from its goal of attaining the $4.0 million stockholders' equity as the stock price appreciates.
In an attempt to control the mounting liability attributed to the warrants, InVivo announced on April 8th, 2013 that it filed exchange offer documents with the SEC as a request to exchange new warrants with modified terms for roughly 15 million outstanding warrants that were issued as part of InVivo's first public financing completed in the 4th quarter of 2010. In order to modify the accounting for the 2010 warrants to conform to the company's objective of uplisting, it needs to reclassify the warrant liability to stockholders' equity which would subsequently rearrange the financial statements to better reflect the actual operating results, liquidity and financial condition.
The exchange offer is active until May 6th, 2013 and offers 2010 warrant holders a new warrant with terms featuring a 2 year extension in exchange for the anti-dilution clause being removed. This offer is attractive to the 2010 holders, as the two year extension to the warrant term, until the fourth quarter of 2017, represents more than a 75% increase to the remaining duration which can significantly increase the value of the warrant over time. The anti-dilution clause, which is only applicable if shares are sold below the exercise price of the warrants that were issued at $1.00 and $1.40, is unlikely to be prompted as the company has raised 23 million dollars at over 2.00 per share which is an up-valuation over the 2010 financing when the warrants offered for exchange were issued.
With shared interests in uplisting between warrant holders and the company, it is more likely than not for warrant holders to approve as both parties are poised to prosper from uplisting to a national exchange. If the warrant liability is completely removed, ceteris paribus, the stockholders' equity would equate to roughly $12.5 million putting them in contention for an uplisting.
Similar efforts in cleaning up the stockholders' equity from warrant liability in plans to uplist have been realized by Organovo (ONVO), a developer of three dimensional (3D) bioprinting technologies for the creation of functional human tissues for research and medical applications. In preparing for an uplisting in the future, Organovo had to address the staggering warrant liability of $80.58 million that plagued the company at the quarter end in June, 2012. The depreciation in the stock price from $3.99 to $2.05 (reduction of 49%), deflated the warrant liability to $35.47 million, as it directly fluctuates with the price of the stock.
This prompted Organovo's first endeavor to reduce derivative warrant liability which came in November 2012. The company filed a tender offer with respect to certain warrants to purchase 14.51 million shares of common stock, which in sequence would raise cash for operations while improving the overall financial position. Warrant holders were offered a new warrant with an exercise price of $0.80 compared to the original $1.00 (reflecting a 20% discount from the original price of the warrant) in exchange for a reduced exercise period and surrendering all anti-dilution rights. From their efforts, the company was able to eliminate 9.58 million warrants from the transaction netting them $7.7 million, effectively eliminating 66% of the company's outstanding warrants as of November 16, 2012.
Earlier in the first quarter of 2013, the company announced another warrant tender to redeem an additional 2.9 million warrants at an exercise price of $1.00 per share. On March 14, 2013 the number of outstanding warrants was reported to be 4.5 million which gives reason to believe that the warrant liability reported for end of the first quarter of 2013 could be less than $10 million. If the cash position amounts to at least $15 million, the company could be at a point where the stockholder's equity equates to a figure greater than the $4.0 million dollar threshold the national securities exchanges requires for listing.
Niche Market Opportunity
A dynamic feature synonymous to both InVivo Therapeutics and Organovo Holdings is the direct exposure investors get to industries that host no competition or alternatives for investment. Currently, there is escalating demand for the treatment of Spinal Cord injuries that address the neurological impacts of the trauma to the spinal cord. Although there are surgical treatments to address the initial damage to the spine, like decompression and stabilization, there are only anti-inflammatory remedies available that treat the symptoms and not the underlying cause. This can develop into additional "secondary injury" resulting from the body's inflammatory and immune response to injury.
Treatments that harness the ability to secrete substances to the local area or cause the body to secrete substances to the local micro environment, preventing a secondary cascade of injury is only being developed by one company, InVivo. Through their scaffolding technology, secondary neurological damage is prevented through the application of the company's bioengineered polymer which can thwart the permanent loss of neurological function. This is also known as neuroplasticity, a process where functional recovery (the recovery of motor movement or sensation) may occur through the rerouting of signaling pathways to the spared healthy tissue (for a more in depth analysis into the technology please see the company website).
Recently, the FDA approved the company's request for an Investigational Device Exemption [IDE] for the technology, effectively allowing the company to begin human trials scheduled for April 5th, 2013. The company was also granted a Humanitarian Use Device [HUD]. Under the terms of the HUD, InVivo can treat up to 4,000 patients with acute thoracic spinal cord injury using their Biopolymer Scaffolding technology [BPS]. If the company can receive $60,000 per treatment, this equates to a $240 million dollar market opportunity. The treatment cost at $60,000 is conservative as the average cost to care for a spinal cord injury in the first year ranges from $335,000 to $1,025,000 according to data from the NSCISC. Being granted the HUD can save an estimated two to three years and millions of dollars in clinical trials illustrated here using a Discounted Cash Flow model at 30% discount rate.
Revenue in millions
HUD est. 3 yr. Approval
PMA est. 5 yr. Approval
For the purpose of illustrating the monetary difference in the time saved using the HUD over the PMA pathway, arbitrary numbers of 25, 50, 75 and 90 have been used to recognize future revenue adding up to the $240 million in total revenue estimated to come from the BPS. Under the HUD pathway, 2 years of clinical trials are exempted compared to the PMA pathway which yields a 63.6% greater net present value of 66.73 when the revenues (or cash flows) are discounted. The chart ignores costs associated with clinical trials, other cash flows and uses an arbitrary discount rate making the NPV a hypothetical figure. However, this illustrates that the NPV of future revenues is substantially greater when the product is brought to the market two years earlier than the PMA pathway.
Organovo also stands alone in a niche market as it is the only company in its industry developing a three-dimensional printing apparatus for the printing of human tissues, known as the NovoGen MMX Bioprinter that was developed to meet challenges in biologic research. The platform takes primary or other human cells and shapes them into 3D tissue, with tremendous cellular viability and biology which can be viewed as a superior analysis alternative to animal testing models (for a more in depth analysis please see company website). The MMX Bioprinter has already demonstrated the ability to create human blood vessel constructs, effectively creating human tissue capillary structures. This showcases the company's potential to broaden the scope and scale of 3D tissues that can be generated, and facilitates the development of disease models in such areas as cardiovascular disease, fibrosis and oncology. In addition to being the only player in the market segment, Organovo has successfully secured collaborations and research agreements with Pfizer (PFE), United Therapeutics (UTHR) and Autodesk (ADSK) from which they derive revenue and valuable insight and analysis into developing their technology.
As I previously stated, uplisiting to a national exchange like the NYSE-MKT or NASDAQ-CM generates advantages in broader visibility, increased liquidity and accessibility to the deep pockets of institutional investment firms and retail brokers. As the company gains visibility on a national exchange, investors could be expected to bid up Invivo's valuation to closer reflect fair value, estimated by Zacks to be $5 per share, based on peak sales of the scaffolding device, alone. Progress with their pipeline could further push the company's valuation.
Of particular importance, participation will widen as the listing will open trading to a sizeable proportion of investors who are unable to, or avoid over-the-counter investment(s). As both these companies inch towards the final steps of completing the process to uplist, retail investors seeking exposure to the niche markets that only InVivo and Organovo offer still have a chance to invest before the monetary benefits of the uplisting come to full fruition when institutional money and greater visibility will factor into the price.