10. Derivative Financial Instruments

The Company determined that certain embedded features related to the Series 1 preferred stock are derivative financial instruments.

Fair values of derivative instruments to be classified as derivative liabilities on the balance sheet consist of the following:


($ in thousands)
Liability derivates:	Balance Sheet Location		Fair Value
September 30, 2018:
Derivative liabilities		Liabilities	$	2,597

The change in the derivative liability for the nine months ended September 30, 2018 consisted of the following:


($ in thousands)
	Fair Value
Balance, December 31, 2017	$	2,424
Dividends		73
Change in fair value		(28	)

Balance, March 31, 2018	$	2,469

Dividends		72
Change in fair value		(183	)

Balance, June 30, 2018	$	2,358

Dividends		74
Change in fair value		165

Balance, September 30, 2018	$	2,597

The fair value of the Series 1 preferred stock dividends was estimated using a probability-weighted approach and a Monte Carlo simulation model. The fair value of the embedded derivatives was estimated using the “with” and “without” method where the preferred stock was first valued with all of its features (“with” scenario) and then without derivatives subject to the valuation analysis (“without” scenario). The fair value of the derivatives was then estimated as the difference between the fair value of the preferred stock in the “with” scenario and the preferred stock in the “without” scenario. The model also takes into account, management estimates of clinical success/failure based upon market studies and probability of potential conversion and liquidation events. If these estimates were different, the valuations would change, and that change could be material. Inputs to the models included the following:


	September 30, 2018			December 31, 2017
Risk-free interest rate		2.97	%		1.92 - 2.12	%
Expected dividend rate		0			0
Expected volatility		77.60	%		68.7 - 80.4	%
Preferred stock conversion limit - percentage of outstanding common stock		19.90	%		19.90	%
Preferred conversion floor price	$	1.00		$	1.00

See Notes 1, 5, and 8 for additional discussion regarding the accounting for and valuation of these derivative financial instruments.

As discussed in Note 1, in consideration of the Company entering into the License Agreement in October 2018, Intrexon has agreed to forfeit and return to the Company all shares of the Company’s Series 1 Preferred Stock held by or payable to Intrexon as of the date of the License Agreement. There are no other shares of Series 1 Preferred Stock outstanding as of the date of this Quarterly Report.