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As filed with the Securities and Exchange Commission on August 26, 2014

Registration No. 333-            

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM S-1

 

 

NEUROSIGMA, INC.

(Exact name of Registrant as specified in its charter)

 

 

 

Delaware   3845   26-3105690
(State or other jurisdiction of
incorporation or organization)
  (Primary Standard Industrial
Classification Code Number)
  (I.R.S. Employer Identification Number)

10960 Wilshire Boulevard

Suite 1910

Los Angeles, California 90024

(310) 479-3100

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

 

 

Leon Ekchian, Ph.D.

President and Chief Executive Officer

10960 Wilshire Boulevard

Suite 1910

Los Angeles, California 90024

(310) 479-3100

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

 

 

Copies to:

 

Greg R. Samuel

Ryan R. Cox

Haynes and Boone, LLP

2323 Victory Avenue, Suite 700

Dallas, Texas 75219

(214) 651-5000

 

David J. Segre

Michael Nordtvedt

Wilson Sonsini Goodrich & Rosati,

Professional Corporation

650 Page Mill Road

Palo Alto, California 94304

(650) 493-9300

 

 

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 being offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act, check the following box: ¨

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

Common stock, par value $0.0001 per share

  $50,000,000   $6,440

 

 

(1) Estimated solely for the purpose of calculating the amount of the registration fee pursuant to Rule 457(o) under the Securities Act. Includes shares the underwriters have an option to purchase to cover over-allotments, if any.

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 or until the registration statement shall become effective on such date as the Securities and Exchange Commission acting pursuant to said Section 8(a), may determine.

 

 

 


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

 

SUBJECT TO COMPLETION, DATED AUGUST 26, 2014

             Shares

 

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Common Stock

 

 

We are selling              shares of common stock.

Prior to this offering, there has been no public market for our common stock. The initial public offering price of the common stock is expected to be between $         and $         per share. We will apply to list our common stock on The NASDAQ Global Market under the symbol “NSIG.”

We are an “emerging growth company” as defined under the U.S. federal securities laws and, as such, may elect to comply with certain reduced public company reporting requirements for this and future filings.

The underwriters have an option to purchase a maximum of              additional shares to cover over-allotments of shares.

Investing in our common stock involves risks. See “Risk Factors” on page 12.

 

      

Price to

Public

    

Underwriting
Discounts and
Commissions(1)

    

Net Proceeds to
NeuroSigma

Per Share

     $                      $                      $                    

Total

     $                      $                      $                    

 

(1) We have agreed to reimburse the underwriters for certain expenses. See “Underwriting.”

Delivery of the shares of common stock will be made on or about                     , 2014.

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

Jefferies        

 

BTIG   Craig-Hallum Capital Group

The date of this prospectus is                        , 2014.


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TABLE OF CONTENTS

 

 

PROSPECTUS SUMMARY

     1   

RISK FACTORS

     12   

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

     43   

USE OF PROCEEDS

     45   

DIVIDEND POLICY

     47   

CAPITALIZATION

     48   

DILUTION

     50   

SELECTED CONSOLIDATED FINANCIAL DATA

     52   

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

     54   

BUSINESS

     71   

MANAGEMENT

     115   

EXECUTIVE COMPENSATION

     124   

CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS

     134   

PRINCIPAL STOCKHOLDERS

     137   

DESCRIPTION OF CAPITAL STOCK

     139   

SHARES ELIGIBLE FOR FUTURE SALE

     143   

MATERIAL U.S. FEDERAL INCOME TAX CONSEQUENCES TO NON-U.S. HOLDERS

     146   

UNDERWRITING

     150   

NOTICE TO CANADIAN RESIDENTS

     154   

LEGAL MATTERS

     156   

EXPERTS

     156   

WHERE YOU CAN FIND ADDITIONAL INFORMATION

     156   

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

     F-1   

 

 

You should rely only on the information contained in this document or to which we have referred you. We have not and the underwriters have not authorized anyone to provide you with information that is different. This document may only be used where it is legal to sell these securities. The information in this document may only be accurate on the date of this document.

Dealer Prospectus Delivery Obligation

Until             , 2014, all dealers that effect transactions in these securities, whether or not participating in this offering, may be required to deliver a prospectus. This is in addition to the dealer’s obligation to deliver a prospectus when acting as an underwriter and with respect to unsold allotments or subscriptions.

For investors outside the United States: We have not and the underwriters have not 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 in the United States. Persons outside 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.

 

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PROSPECTUS SUMMARY

This summary highlights selected information contained in greater detail elsewhere in this prospectus. This summary is not complete and does not contain all of the information that you should consider in making an investment decision. Before investing in our common stock, you should read the entire prospectus carefully, including the sections of this prospectus captioned “Risk Factors,” “Special Note Regarding Forward-Looking Statements” 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. Unless we state otherwise or the context otherwise indicates, the terms “NeuroSigma,” “we,” “us,” “our,” and the “company” refer to NeuroSigma, Inc. and its consolidated subsidiary.

Overview

We are a life sciences company focused on developing bioelectronic products with the potential to transform the lives of patients suffering from major neurological and neuropsychiatric disorders such as epilepsy and depression. We currently have approval to market our lead product in the European Union for the adjunctive treatment of epilepsy, in Canada for the treatment of drug-resistant epilepsy, and in Australia for the adjunctive treatment of drug-resistant epilepsy. The approvals in the European Union, Canada and Australia are for adults and children nine years and older. Approximately 4.6 million people in these regions suffer from epilepsy. Additionally, we have approval to market our lead product in the European Union for the adjunctive treatment of major depressive disorder and in Canada for the treatment of major depressive disorder, in each case for adults and children nine years and older. In the European Union and Canada, approximately 31.6 million people suffer from major depressive disorder in a given year. We intend to seek, though have not obtained, approval to market our lead product in the United States for the treatment of epilepsy and major depressive disorder, where approximately 2.9 million people suffer from epilepsy and approximately 17.0 million people suffer from major depressive disorder in a given year. A portion of the proceeds from this offering will be used to initiate a pivotal trial of our lead product as adjunctive treatment for drug-resistant epilepsy in the United States. We also intend to seek, but have not obtained, approval to market our lead product in Australia for the treatment of major depressive disorder, where approximately 963,000 adults suffer from this disease in a given year. Despite the availability of numerous pharmaceutical and device treatments, approximately one-third of the patients with epilepsy and one-third of the patients with major depression continue to endure debilitating symptoms following first-line treatment. We believe an innovative, safe, non-invasive and affordable treatment alternative with minimal side effects is urgently needed for this subset of patients. We have developed a neuromodulation technology that non-invasively stimulates the trigeminal nerve to treat epilepsy and depression and have begun efforts toward commercialization of this technology in the European Union, Canada and Australia. Although our primary commercialization efforts target the treatment of epilepsy, we are also leveraging our technology to advance initiatives for the treatment of depression as well as attention deficit hyperactivity disorder and post-traumatic stress disorder, and studies have produced early but promising clinical data in each of these potential indications.

Our non-invasive external trigeminal nerve stimulation system, or eTNS system, employs trigeminal nerve stimulation, or TNS, as adjunctive therapy for drug-resistant epilepsy and major depressive disorder. Adjunctive therapies, including adjunctive medications, are used in combination with one or more other therapies, and are commonly used by patients who do not respond to first-line treatment with the desired stabilization or improvement of their condition. eTNS is a novel medical treatment that delivers low-intensity electrical current through a single-use patch to stimulate branches of the trigeminal nerve near the surface of the forehead, thereby non-invasively modulating activity in targeted brain regions. Clinical studies have provided evidence that our eTNS system did not present the potentially severe side effects associated with other therapies for the indications we target. Patients may conveniently self-administer our eTNS system at home and typically use the device while sleeping. We sell our disposable patches at a price comparable to branded adjunctive medications and our eTNS pulse generator at a significantly lower price than invasive treatment alternatives. We believe this recurring revenue model is similar to the pharmaceutical sales model and, if properly executed, should position us for rapid growth.

 

 

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In August 2012, we received CE Mark approval to market our eTNS system in the European Union, or the EU, as adjunctive treatment for drug-resistant epilepsy, or DRE, and major depressive disorder, or MDD, for adults and children nine years and older, and in April 2013, we received a medical device license from Health Canada allowing us to market our eTNS system for the treatment of DRE and MDD for adults and children nine years and older in Canada. In March 2014, we received approval to include our eTNS system in the Australian Register of Therapeutic Goods, which allows us to market our eTNS system as adjunctive treatment for DRE for adults and children nine years and older in Australia. We have not obtained U.S. Food and Drug Administration, or FDA, premarket approval, or PMA, which approval would allow us to market our eTNS system in the United States. In order to obtain a PMA, the FDA requires that we (1) obtain an investigational device exemption, or IDE, (2) conduct pilot studies, such as Phase I and Phase II trials, to demonstrate the initial safety of the therapy and to gather preliminary efficacy data in a small number of subjects, (3) conduct a pivotal trial to demonstrate reasonable scientific evidence of safety and efficacy in the indications for which we intend to seek regulatory approval and (4) submit a PMA application to the FDA. We have already completed a 12-subject Phase I clinical trial and a 50-subject Phase II clinical trial of eTNS for DRE and in December 2013, the FDA approved an IDE for the pivotal trial of eTNS for DRE. We plan to commence a multi-center, double-blind randomized controlled pivotal trial of our eTNS system as adjunctive treatment for DRE under our approved IDE in late 2014, with a targeted enrollment of up to 350 subjects. If the data from this trial demonstrates the safety and efficacy of our eTNS system as adjunctive treatment for DRE, we will use such data to support a PMA application to the FDA, with expected submission in the second half of 2016 and an expected decision from the FDA on our PMA application in the second half of 2017. If we receive FDA approval of our PMA application, we plan to begin marketing our eTNS system in the United States. We are also currently conducting a 40-subject Phase II study of eTNS for the treatment of MDD and have completed a 22-subject Phase I study for attention deficit hyperactivity disorder, or ADHD, and a 12-subject Phase I study for post-traumatic stress disorder, or PTSD.

Prior to 2013, we were a development stage company. We commenced generating revenue from product sales in June 2013 and do not yet have a sales force. We have incurred operating and net losses each year since our inception in 2008. For the year ended December 31, 2013, our product revenue, net, loss from operations and net loss were $35,832, $6,206,944 and $5,827,471, respectively, and as of December 31, 2013, we had an accumulated deficit of $18.1 million. For the six months ended June 30, 2014, our product revenue, loss from operations and net loss were $23,923, $6,886,065 and $7,528,440, respectively, and as of June 30, 2014, we had an accumulated deficit of $25.6 million. Our ongoing and future efforts to develop, seek regulatory approvals for, commercialize and seek third-party reimbursement for our products will require increased spending for a variety of activities, including clinical trials, pre- and post-market clinical studies and patent prosecution. We also need to develop sales, marketing and administrative infrastructures. As a result, we expect to incur increasing losses for the foreseeable future.

Our Targeted Markets

Epilepsy affects approximately 4.2 million individuals in the EU according to an analysis by the World Health Organization, more than 200,000 Canadians according to Epilepsy Canada, approximately 200,000 Australians according to the Epilepsy Foundation of Victoria and approximately 2.9 million Americans according to data from the U.S. Centers for Disease Control and Prevention, or the CDC, and the National Survey of Children’s Health. Although we have not received FDA approval to market our eTNS system in the United States as adjunctive treatment for DRE, we are seeking such approval and, if received, we intend to target the United States market. Based on scientific literature, approximately 30% to 37% of people with epilepsy have DRE, meaning they failed to achieve seizure control after utilizing two or more medications. Treatment options for DRE currently include adjunctive anti-epileptic drugs, brain surgery, invasive vagus nerve stimulation and invasive deep brain stimulation, each of which has risks of serious side effects or complications. In addition, the therapeutic effect of surgery and invasive treatment options cannot be accurately assessed prior to the procedure.

In a given year, MDD affects approximately 30.3 million people in the EU according to a report from the European College of Neuropsychopharmacology and the European Brain Council, approximately 1.3 million people

 

 

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in Canada according to data from the Canadian Community Health Survey and approximately 17.0 million Americans according to research supported by the National Institutes of Health, or the NIH, and the CDC. Although we have not received FDA approval to market our eTNS system in the United States as adjunctive treatment for MDD, we intend to seek such approval and, if received, we intend to target the United States market. MDD is typically treated with medication, psychotherapy and, to a lesser extent, invasive vagus nerve stimulation and invasive deep brain stimulation. According to the NIH Sequenced Treatment Alternatives to Relieve Depression trial, approximately one-third of patients with MDD are resistant to conventional pharmaceutical treatment. In addition, medication and invasive brain stimulation methods often have significant side effects or risks, and the therapeutic effect of invasive brain stimulation therapies cannot be accurately assessed prior to the procedure.

Our Solution

We believe there is a substantial unmet medical need and commercial opportunity to treat a large number of patients suffering from DRE and MDD. Our eTNS system is composed of a pulse generator that delivers preprogrammed electrical signals to the trigeminal nerve through lead wires to a single-use patch that is applied to the forehead. Due to the unique anatomy of the trigeminal nerve, which is the largest of the cranial nerves and serves as a direct conduit to targeted areas of the brain, we are able to deliver these signals non-invasively.

Data from preclinical studies in animals and clinical studies in humans have shown that the signals from eTNS produce changes in cortical excitability. Cortical excitability is a measurement of how easily neurons in the brain react to other electrical or chemical signals, and elevated cortical excitability has been observed in patents with epilepsy. Preclinical and human data indicate that eTNS reduces cortical excitability in brain regions linked to epileptic seizures, much like other anti-epileptic treatments. These findings are complemented by human neuroimaging data showing that brain activity is acutely decreased in brain regions associated with seizures among subjects using the device for the first time. Additionally, in June 2014 investigators from King’s College London reported data on direct measurements of cortical excitability in five adult DRE patients undergoing eTNS treatment for 18 weeks. Brief magnetic pulses were used to assess cortical function before and after a course of treatment, in an effort to evaluate the mechanism of action of eTNS. Measures of cortical excitability consistently decreased with the use of eTNS, consistent with an increase in GABA activity, which is the brain’s primary inhibitory neurotransmitter. Other anti-epileptic therapies have previously been shown to affect GABA and to reduce measures of cortical excitability.

Phase I and Phase II clinical trials of eTNS for DRE demonstrated reductions in seizure frequency comparable to those observed in pivotal trials of invasive neuromodulation devices and of adjunctive pharmaceutical treatments. Although Phase I and Phase II clinical trials of eTNS involved relatively small patient samples with data that may not prove to be as reliable as that obtained from a pivotal trial or efficacy data for commercially available tested products, these trials have provided promising evidence that our eTNS solution offers DRE patients, as well as their prescribing medical professionals, a non-invasive, easy-to-use therapeutic system, with minimal reported side effects. Additionally, in July 2014, investigators at King’s College London reported preliminary findings with respect to seven patients ages 10 to 17, representing the first pediatric patients to undergo eTNS treatment. The July 2014 King’s College London preliminary findings were similar to the results of the Phase I and Phase II trials.

Based on the results of a Phase II study of eTNS, the FDA approved our IDE application, permitting us to proceed with a pivotal trial of eTNS for DRE. We have also completed an 11-subject Phase I clinical trial of eTNS for MDD that showed improvements in depression symptoms, and we are conducting a 40-subject Phase II clinical trial of eTNS for MDD. In all clinical trials of eTNS to date, the reported side effects have been minimal and there have been no device-related serious adverse events in over 10 years of clinical follow-up.

In the EU, Canada and Australia, our eTNS system is currently available by prescription as adjunctive therapy, which we believe will help to optimize the therapeutic benefit of conventional therapy. In addition, our

 

 

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eTNS system does not present the drug-drug interactions common to anti-epileptic drugs, or AEDs, and we believe that physicians can start and discontinue eTNS treatment without the concerns associated with drug dosage management. While our eTNS system is not currently eligible for reimbursement by third-party payers in any jurisdiction, we believe the combination of patient need, the low upfront cost of our eTNS system and the pay-as-you-go cost of our consumable patches places us, with respect to the prospect of reimbursement and the related payment structure, in a position comparable to that of adjunctive pharmaceutical treatments, including branded adjunctive AEDs, which currently receive third-party reimbursement in many jurisdictions.

Investment Opportunity

 

   

Multiple Opportunities to Address Significant Unmet Medical Need of Large Patient Populations. We have the requisite regulatory approval to begin marketing our eTNS system to the approximately 1.4 million DRE patients in the EU, Canada and Australia and the over 10.5 million MDD patients who are resistant to first-line treatment in the EU and Canada. To date we have not received the requisite approval from the FDA to market our eTNS system in the United States, but we are seeking such approval for DRE and intend to seek such approval for MDD. If we receive the necessary approval, we will begin marketing to the approximately 864,000 people suffering from DRE and the estimated 5.7 million people suffering from MDD who are resistant to first-line treatment in the United States. Additionally, we intend to seek but have not received the requisite approval from the Therapeutic Goods Administration to market our eTNS system for MDD in Australia. If we receive the necessary approval, we intend to begin marketing to the approximately 963,000 MDD patients ages 16 to 85 in Australia who are resistant to first-line treatment. We plan to commence our pivotal trial of eTNS for the treatment of DRE in late 2014 and expect results from our ongoing Phase II clinical trial of eTNS for the treatment of MDD to be available in the second half of 2014. Based on the data we have gathered in our clinical trials described below, we believe we are well-positioned to leverage our TNS platform technology to treat DRE and MDD, as well as ADHD and PTSD.

 

   

Easy-to-Use Neuromodulation Therapy with Compelling Clinical Results. In contrast to other neuromodulation devices, eTNS does not require an invasive procedure or frequent doctor visits. Our intuitive, cell phone-sized system is designed for ease-of-use to reduce the training burden on prescribing healthcare professionals and to make eTNS therapy accessible to a broad group of patients. Patients can conveniently self-administer our eTNS system at home and typically use the device while sleeping. A 50-subject Phase II, double-blind randomized controlled trial of eTNS for DRE provided encouraging results and was the basis for the FDA’s approval of our IDE application, permitting us to proceed with a pivotal trial of eTNS for DRE. We have also completed an 11-subject Phase I clinical trial of eTNS for MDD, which showed statistically significant improvements in depression symptoms. Clinical trials of eTNS to date have not shown the severe side effects associated with AEDs or the cardiac risk associated with vagus nerve stimulation devices. Further, because eTNS is not a drug, there are no drug-drug interactions and we believe eTNS may be added or removed from the patient’s treatment regimen without these risks.

 

   

Cost-Effective, Recurring Revenue Model. Our eTNS system is designed for cost-effective, ongoing adjunctive treatment of patients with severe chronic neurological and neuropsychiatric conditions. The prescribed therapeutic effect of our eTNS system is delivered through an adhesive single-use patch that the patient places on the forehead for each treatment. With our device-plus-consumables business model, we plan to sell our eTNS pulse generator at a significantly lower price than invasive treatment alternatives and our single-use patches at a price comparable to branded adjunctive AEDs and antidepressants. We believe this recurring revenue sales model is similar to the pharmaceutical sales model and, if properly executed, should position us for rapid growth.

 

   

Capital-Efficient Approach to Clinical Development and Product Commercialization. Our collaborative approach with academic institutions allowed us to develop our eTNS system for less than $10 million, which includes cash expenditures paid to such institutions relating to licensing and patent and clinical development costs but does not include potential future milestone payments that are contingent upon achieving specified

 

 

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regulatory criteria. We plan to continue to grow in a capital-efficient manner. We expect that the relatively low manufacturing and treatment costs associated with our eTNS system will allow us to conduct a large-scale pivotal trial of our eTNS system as adjunctive treatment for DRE for less than $10 million. In addition, because the large patient population with DRE is treated by a relatively small number of specialist physicians, we believe we can effectively reach this customer base with a targeted sales and marketing infrastructure.

 

   

Significant Technology Leadership and Intellectual Property Position. Our team of medical experts pioneered an innovative neuromodulation technology that forms the basis of our eTNS system. We are the only company to have received approval to market TNS as adjunctive treatment for DRE in the EU, Canada or Australia and to have received approval of an IDE to commence a pivotal trial of eTNS as adjunctive treatment for DRE. If the results of such pivotal trial demonstrate the safety and efficacy of eTNS as adjunctive treatment for DRE, we plan to submit a PMA application in the second half of 2016 that, if approved, will strengthen our competitive position given the time and expense potential competitors would need to invest to obtain a similar approval. We also hold a broad portfolio of intellectual property relating to TNS through exclusive licenses that do not expire before 2030, as well as through development of our own patents and other intellectual property.

Our Growth Strategy

Our goal is to develop and commercialize TNS treatments for patients suffering from a number of major neurological and neuropsychiatric disorders. To achieve our goal, we are pursuing the following strategies:

 

   

Achieve Broad-Based Adoption of eTNS. Initially, we plan to focus our commercialization efforts on DRE. The large patient population with DRE is treated by a relatively small number of specialist physicians, and we believe we can address a significant portion of these patients with a targeted sales and marketing infrastructure. During the second half of 2014, we plan to commence the establishment of our medical affairs function in the EU, Canada and Australia to target epilepsy specialists and neurologists in each territory. One of the primary responsibilities of our medical affairs function will be to oversee observational trials at major epilepsy centers in those territories to generate “in-territory” data in support of our activities to secure reimbursement. Subsequent to establishing our medical affairs function we will commence development of a direct sales force in the EU, Canada and Australia. We also plan to eventually develop a direct sales force in certain territories where we have received marketing approval to treat depression and will target select psychologists, psychiatrists and primary care physicians with a large number of depression patients. In certain territories, we may use third parties to distribute our eTNS system through co-promotion and various other third-party arrangements. In advance of our full commercial launch, we are raising awareness of our eTNS system through educating and training key opinion leaders, or KOLs, and clinicians at academic medical centers in the EU, Canada and Australia.

 

   

Seek Third-Party Reimbursement. We plan to pursue third-party reimbursement from both government and private insurance providers for the cost of eTNS treatment in all applicable jurisdictions. While eTNS has not been approved for reimbursement in any jurisdiction, we have commenced reimbursement initiatives for the adjunctive treatment of DRE in the United Kingdom and Canada. To further support our reimbursement strategy, we also plan to conduct pre- and post-market clinical studies aimed at demonstrating both the long-term efficacy and the cost savings associated with eTNS as compared to competing adjunctive treatments. We may face challenges in obtaining reimbursement approval, including closer scrutiny of healthcare expenditures and uncertainty accompanying treatment using new technology, such as our eTNS system, as well as variations in reimbursement systems from country to country. In the United States and the EU, however, many existing drug and medical device therapies receive third-party reimbursement for the treatment of DRE. Compared to these existing therapies, we believe that our eTNS system will offer cost advantages that, along with the safety and efficacy data from our clinical trials to date, will serve as the basis for our reimbursement initiatives.

 

 

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Complete Our Pivotal Trial and Seek FDA Approval. We have not received approval from the FDA to market our eTNS system in the United States. In December 2013, the FDA approved our IDE application permitting us to conduct a pivotal trial of our eTNS system as adjunctive treatment for DRE. We plan to commence this multi-center, double-blind randomized controlled pivotal trial, which will have a targeted enrollment of up to 350 subjects, in late 2014 to generate data to support a PMA application to the FDA. We are considering the advantages and disadvantages of requesting that the FDA allow us to utilize an interim analysis with a sample size readjustment to the pivotal trial design. While an interim analysis with sample size readjustment could provide for a potentially faster time to trial completion and a potentially higher probability of trial success, we would incur a statistical penalty that would require us to achieve a higher standard of statistical significance than otherwise would be required for a successful trial. If the pivotal trial provides data demonstrating the safety and efficacy of eTNS as adjunctive treatment for DRE, we expect to submit our PMA application in the second half of 2016, with an expected decision from the FDA on our PMA application in the second half of 2017. A successful pivotal trial would also provide support for our third-party reimbursement initiatives. In addition, in April 2014 the FDA proposed draft guidance that, in its current form, contemplates early commercialization of certain “non-implantable” devices pursuant to an Expedited Access PMA program, or EAP. If implemented, this EAP may allow us to apply for accelerated commercialization. While we will consider meeting with the FDA concerning the EAP if it is implemented before we complete our PMA application, we will not delay commencement of our pivotal trial.

 

   

Expand Our Targeted Indications and Product Portfolio. In addition to our commercialization efforts relating to epilepsy and depression, we are also focused on exploring the use of our eTNS system to treat ADHD and PTSD. Our 22-subject Phase I trial of eTNS for the treatment of ADHD and 12-subject Phase I trial of eTNS for the treatment of PTSD, both conducted at UCLA, showed statistically significant improvements in disease severity on validated rating scales. We intend to continue to pursue regulatory approval to market our eTNS system for the treatment of ADHD and PTSD, and independent investigators have received federal grant funds from the NIH (in the case of ADHD) and the U.S. Army (in the case of PTSD) to commence Phase II, double-blind randomized controlled trials in the second half of 2014 for each of these indications. We are also investing in innovative product enhancements, including a second generation of our eTNS system, which is designed with a small form factor and a wire-free pulse generator that is affixed directly to the single-use patch. We believe this second generation product will further increase patient comfort and convenience, thereby increasing market penetration. For patients who are responsive to our eTNS system and would prefer an implantable solution, we are also developing our subcutaneous TNS system.

Risks Associated with Our Business

Our business is subject to a number of risks of which you should be aware before making an investment decision. These risks are discussed more fully in the section of this prospectus captioned “Risk Factors.” These risks include the following, among others:

 

   

Our success depends on the commercialization of our eTNS system, and we cannot be certain that we will receive regulatory approval to market our eTNS system in the United States, obtain or maintain adequate third-party reimbursement for the costs of our eTNS system or successfully commercialize our eTNS system in any jurisdiction where we have received or intend to seek regulatory approval.

 

   

Historically, we have relied upon a small number of employees. We have a limited operating history and do not have experience in large-scale manufacturing, cross-border transportation or commercialization of our products. We may not successfully hire and retain qualified personnel, expand our operations, manage our growth, accurately predict our future performance or evaluate our business and prospects.

 

   

We have incurred operating losses in each year since inception and expect to incur substantial and increasing losses for the foreseeable future.

 

 

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The success of our eTNS system and any products we may develop in the future depends upon our ability to establish and maintain support from relationships with KOLs.

 

   

If our clinical trials are delayed or if the results of our clinical trials do not support regulatory approvals, our business, operating results and financial condition will be materially adversely affected.

 

   

Intense competition and rapid technological change could reduce our ability to market our eTNS system successfully and to generate sales.

 

   

Our auditors identified a material weakness in our internal control over financial reporting in connection with the audit of our 2012 consolidated financial statements. If we fail to maintain proper and effective internal controls, our ability to produce accurate and timely financial statements could be impaired.

 

   

We may require additional funding and may be unable to raise capital when needed, which would force us to delay, reduce or eliminate our development programs or commercialization efforts.

 

   

We are subject to many laws and governmental regulations, both domestically and internationally, and any adverse changes in these laws or adverse regulatory actions may materially adversely affect our business, operating results and financial condition.

 

   

If we are unable to maintain and enforce our intellectual property rights, including those rights that we in-license and upon which we depend, or if we are sued for infringing intellectual property rights of others, our business, operating results and financial condition would be materially adversely affected.

Corporate Information

NeuroSigma was incorporated under the laws of the State of Delaware in March 2008. Our principal executive office is located at 10960 Wilshire Boulevard, Suite 1910, Los Angeles, California 90024 and our telephone number is (310) 479-3100. Our website address is www.neurosigma.com. Information contained on, or accessible through, our website does not constitute a part of, and is not incorporated into, this prospectus.

NeuroSigma, the NeuroSigma logo, “eTNS,” “sTNS,” “Monarch,” and other trademarks or service marks of NeuroSigma appearing in this prospectus are the property of NeuroSigma. Trade names, trademarks and service marks of other companies appearing in this prospectus are the property of their respective holders.

We are an “emerging growth company” as defined in the Jumpstart Our Business Startups Act of 2012, or the JOBS Act. In accordance with Section 102 of the JOBS Act, we have (1) provided reduced executive compensation disclosure in this prospectus, (2) omitted a compensation discussion and analysis from this prospectus and (3) provided only two years of audited consolidated financial statements and related management’s discussion and analysis of financial condition and results of operations disclosure in this prospectus. As an emerging growth company we are not required to comply with certain requirements that are applicable to other public companies, including the auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act of 2002, as amended, or the Sarbanes-Oxley Act. Except as described above, we do not intend to take advantage of any other scaled disclosure or relief during the time that we qualify as an emerging growth company, although the JOBS Act would permit us to do so. In addition to scaled disclosure and other relief, the JOBS Act permits us an extended transition period for complying with new or revised accounting standards affecting public companies. However, we have elected not to take advantage of this extended transition period, which means that the financial statements included in this prospectus, as well as any financial statements that we file in the future, will be subject to all new or revised accounting standards generally applicable to public companies. Our election not to take advantage of the extended transition period is irrevocable. We will remain an emerging growth company until the earlier of the last day of the fiscal year following the fifth anniversary of the completion of this offering, the last day of the fiscal year in which we have total annual gross revenue of at least $1.0 billion, the date on which we are deemed to be a large accelerated filer (this means the market value of our common stock that is held by non-affiliates exceeds $700 million as of the end of the second quarter of that fiscal year), or the date on which we have issued more than $1.0 billion in non-convertible debt securities during the prior three-year period.

 

 

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The Offering

 

Common stock offered by us

            shares

 

Common stock to be outstanding after this offering

            shares (or             shares if the underwriters exercise their over-allotment option in full)

 

Over-allotment option

            shares

 

Use of proceeds

We intend to use the net proceeds from this offering to (1) fund the pivotal trial of our eTNS system as adjunctive treatment for DRE in support of FDA approval, (2) build out our sales, marketing and medical affairs function; (3) develop our wire-free second generation eTNS system, (4) advance clinical studies of our eTNS system for neuropsychiatric indications, (5) fund observational trials outside the United States and accumulate health economics and quality-of-life data to facilitate reimbursement and to build a medical affairs, (6) repay the aggregate principal amount and related interest on certain promissory notes, including $2.4 million that will automatically become due upon the closing of this offering and (7) fund working capital and other general corporate purposes. We may also use a portion of the net proceeds from this offering to acquire, license or invest in complementary products, technology or businesses; however, we have no agreements or commitments to complete any such transactions. See the section of this prospectus captioned “Use of Proceeds.”

 

Risk factors

See the section of this prospectus captioned “Risk Factors” beginning on page 12 and other information included elsewhere in this prospectus for a discussion of factors you should carefully consider before investing in our common stock.

 

Proposed NASDAQ symbol

“NSIG”

In this prospectus, unless otherwise indicated, the number of shares of common stock that will be outstanding after this offering is based on              shares of common stock outstanding as of June 30, 2014 and excludes:

 

   

3,990,000 shares of common stock issuable upon the exercise of options outstanding as of June 30, 2014, at a weighted-average exercise price of $2.44 per share;

 

   

1,237,042 shares of common stock reserved for future issuance under our 2010 Stock Option/Stock Issuance Plan, or the 2010 Plan, which will become available under the 2014 Plan described below in connection with the completion of this offering;

 

   

            shares of common stock reserved for future issuance under the NeuroSigma, Inc. 2014 Performance Incentive Plan, or the 2014 Plan, which will become effective in connection with the completion of this offering;

 

   

242,645 shares of common stock issuable upon the exercise of warrants outstanding as of June 30, 2014, at a weighted-average exercise price of $7.26 per share; and

 

   

21,008 shares of common stock issuable upon the exercise of warrants that were issued after June 30, 2014, at an exercise price of $8.33 per share.

 

 

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Unless otherwise indicated, this prospectus reflects and assumes the following:

 

   

the issuance of             shares of common stock upon the conversion of the outstanding principal and accrued interest on a $2,000,000 principal amount convertible promissory note, which the holder thereof may elect to convert upon the completion of this offering at a conversion price equal to 80% of the initial price to public of $             per share, which is the midpoint of the range set forth on the cover page of this prospectus, and assuming the completion of this offering on                     , 2014;

 

   

the issuance of             shares of common stock upon the net exercise of warrants immediately prior to completion of this offering, which warrants were outstanding as of June 30, 2014 and will expire if not exercised prior to the completion of this offering, and assuming an initial price to public of $             per share, which is the midpoint of the range set forth on the cover of this prospectus;

 

   

the issuance of 51,249 shares of common stock subsequent to June 30, 2014 upon the exercise of warrants at an exercise price of $2.74 per share;

 

   

the filing and effectiveness of our amended and restated certificate of incorporation in Delaware and the adoption of our amended and restated bylaws, each of which will occur in connection with the completion of this offering; and

 

   

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

 

 

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Summary Consolidated Financial Data

The following table summarizes our consolidated financial data as of the dates and for the periods indicated. We have derived the summary consolidated statements of operations data for 2012 and 2013 from our audited consolidated financial statements included elsewhere in this prospectus. We derived the consolidated statements of operations data for the six months ended June 30, 2013 and 2014, as well as the consolidated balance sheet data as of June 30, 2014 from our unaudited consolidated financial statements included elsewhere in this prospectus. Our unaudited consolidated financial statements have been prepared on the same basis as our audited consolidated financial statements and reflect, in our opinion, all adjustments, consisting only of normal recurring adjustments that we consider necessary for the fair presentation of the financial information set forth in those statements. Our historical results are not necessarily indicative of results for any future period and our results for the six months ended June 30, 2014 are not necessarily indicative of the results that may be expected for the full year ending December 31, 2014. You should read the following summary consolidated financial data together with the sections of this prospectus captioned “Selected Consolidated Financial Data” 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,     Six Months Ended June 30,  
    2012     2013     2013     2014  
                (unaudited)  

Consolidated Statement of Operations Data:

       

Product revenue, net

  $ —        $ 35,832      $ 8,091      $ 23,923   

Cost of goods sold

    —          47,945        2,700        12,108   
 

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit (loss)

    —          (12,113     5,391        11,815   

Operating expenses:

       

Research and development(1)

    2,799,657        3,576,382        1,674,690       
1,088,022
  

Selling, general and administrative(1)

    2,916,427        2,618,449        1,042,637        5,809,858   
 

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

    5,716,084        6,194,831        2,717,327        6,897,880   
 

 

 

   

 

 

   

 

 

   

 

 

 

Loss from operations

    (5,716,084     (6,206,944     (2,711,936     (6,886,065

Other income (expense):

       

Grant income

    513,905        539,966        251,130        213,531   

Interest expense including related party

    (839     (153,293     (6,866     (654,900

Re-measurement of accelerated repayment feature

    —          (5,600     —          80,000   

Re-measurement of beneficial redemption feature

    —          —          —          (14,100

Other expense including related party

    —          —          —          (265,306
 

 

 

   

 

 

   

 

 

   

 

 

 

Total other income (expense), net

    513,066        381,073        244,264        (640,775
 

 

 

   

 

 

   

 

 

   

 

 

 

Loss before income taxes

    (5,203,018     (5,825,871     (2,467,672     (7,526,840

Provision for income taxes

    (800     (1,600     (1,600     (1,600
 

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

    (5,203,818     (5,827,471     (2,469,272     (7,528,440

Less: net loss, non-controlling interests

    30,838        39,196        13,869        28,724   
 

 

 

   

 

 

   

 

 

   

 

 

 

Net loss attributable to NeuroSigma

  $ (5,172,980   $ (5,788,275   $ (2,455,403   $ (7,499,716
 

 

 

   

 

 

   

 

 

   

 

 

 

Net loss per share attributable to NeuroSigma—basic and diluted

  $ (0.28   $ (0.33   $ (0.13   $ (0.44
 

 

 

   

 

 

   

 

 

   

 

 

 

Shares used in calculating basic and diluted net loss per share attributable to NeuroSigma

    18,683,067        17,660,485        18,363,102        17,063,499   
 

 

 

   

 

 

   

 

 

   

 

 

 

 

 

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     As of June 30, 2014  
     Actual     Pro  Forma(2)      Pro Forma  As
Adjusted(3)
 
     (unaudited)               

Consolidated Balance Sheet Data:

       

Cash

   $ 1,558,944      $                    $                

Working capital

     317,816        

Total assets

     4,118,595        

Total liabilities

     8,166,201        

Contingently redeemable restricted common stock

     2,858,209        

Accumulated (deficit) equity

     (25,569,637     

Total stockholders’ (deficit) equity

     (6,905,815     

 

(1) The following table presents stock-based compensation, including expense relating to vesting common stock, in each expense category:

 

     Year Ended December 31,      Six Months Ended June 30,  
     2012      2013              2013                      2014          
                   (unaudited)  

Research and development

   $ 1,923,242       $ 2,424,858       $ 1,029,466       $ 556,937   

Selling, general and administrative

     1,213,934         167,047         51,298         3,884,119   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total stock-based compensation expense

   $ 3,137,176       $ 2,591,905       $ 1,080,764       $ 4,441,056   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

(2) Reflects, on a pro forma basis, (a) $699,987 of proceeds from the issuance of a promissory note by us subsequent to June 30, 2014, (b) the assumed conversion on                 , 2014 of the principal and accrued interest on a $2,000,000 principal amount convertible promissory note into          shares of common stock at a conversion price equal to 80% of the initial price to public, assuming an initial price to public of $         per share, which is the midpoint of the range set forth on the cover of this prospectus, and (c) $140,422 in aggregate proceeds received subsequent to June 30, 2014 upon the exercise of warrants at an exercise price of $2.74 per share.

 

(3) Reflects, on a pro forma as adjusted basis, (a) the pro forma adjustments set forth in footnote (2) above, (b) the sale and issuance by us of             shares of common stock in this offering at an assumed initial price to public of $         per share, which is the midpoint of the range set forth on the cover page of this prospectus, after deducting estimated underwriting discounts and commissions and estimated offering expenses and (c) the application of approximately $2,400,000 of the net proceeds of this offering as described in the section of this prospectus captioned “Use of Proceeds” for the repayment of $2,140,000 in aggregate principal amount of promissory notes and the related interest thereon that will automatically become due upon the closing of this offering. Each $1.00 increase or decrease in the assumed initial price to public of $         per share, which is the midpoint of the range set forth on the cover page of this prospectus, would increase or decrease each of cash, working capital, total assets and total stockholders’ (deficit) equity by approximately $        , 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 estimated underwriting discounts and commissions and estimated offering expenses. We may also increase or decrease the number of shares we are offering. Each increase or decrease of             shares in the number of shares offered by us would increase or decrease each of cash, working capital, total assets and total stockholders’ (deficit) equity by approximately $         million, assuming that the assumed initial price to public remains the same, and after deducting estimated underwriting discounts and commissions and estimated offering expenses. The pro forma as adjusted information discussed above is illustrative only and will adjust based on the actual initial price to public and other terms of this offering determined at pricing.

 

 

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RISK FACTORS

An investment in our common stock involves a high degree of risk. You should carefully consider the uncertainties described below before making a decision to invest in our common stock. Our business, operating results or financial condition could be adversely affected by any of these risks. In any such case, the value of our common stock could decline significantly and, as a result, you may lose all or part of your investment. Before deciding whether to invest in our common stock, you should also refer to the other information contained in this prospectus, including our consolidated financial statements and the related notes.

Risks Related to Our Business and Industry

Our success largely depends on our ability to commercialize our eTNS system, and we cannot be certain that we will receive regulatory approval to market our eTNS system in the United States, obtain and maintain adequate third-party reimbursement for the costs of our eTNS system or successfully commercialize our eTNS system in any jurisdictions where we have received or intend to seek regulatory approval. If we are unable to commercialize our eTNS system, or experience significant delays in doing so, our business, financial condition and results of operations will be materially adversely affected.

Prior to 2013, we were a development stage company. We commenced generating revenue from product sales in June 2013 and do not yet have a sales force. We also do not have the necessary FDA approvals to market our eTNS system or any other product in the United States, and our eTNS system is only approved for commercial sale as adjunctive treatment for DRE in the EU, Canada and Australia and for MDD in the EU and Canada, in each case for adults and children nine years and older. We have incurred, and will continue to incur, significant costs relating to the clinical development and commercialization of our eTNS system. The process of obtaining regulatory approvals to market our eTNS system can be protracted and expensive. We do not know whether the planned pivotal trial of our eTNS system as adjunctive treatment for DRE will begin or be completed on schedule, and if it is completed, whether the safety and efficacy data will be adequate to support regulatory approval in the United States. Even if approved by the FDA, our eTNS system or any other product we develop may not ultimately achieve successful commercialization. We also may never be able to obtain approval to market our eTNS system in any jurisdictions other than the EU, Canada and Australia or be able to commercialize our eTNS system or any other product candidate successfully in any jurisdiction. Our ability to successfully commercialize our eTNS system depends, in large part, on whether third-party payers agree to adequately reimburse the costs of our eTNS system and associated services. We do not currently have any third-party reimbursement for our eTNS system in any jurisdiction and there is significant uncertainty surrounding third-party reimbursement for the use of devices that incorporate new technology, such as our eTNS system. If our eTNS system does not receive regulatory approval in the United States, does not obtain and maintain adequate third-party reimbursement in the United States or abroad or if it is not successfully commercialized for the treatment of DRE, MDD or other indications in the United States or abroad, we may not be able to generate revenue, become profitable, fund the development of our other products or development programs or continue our operations.

We have not received, and may never receive, FDA approval to market our eTNS system or any other product in the United States.

We do not have the necessary FDA approvals to market our eTNS system or any other product in the United States. The process of obtaining regulatory approval to market our eTNS system in the United States involves, among other things, successfully completing clinical trials and obtaining premarket approval from the FDA. The PMA process, which can be protracted and expensive, requires us to prove the safety and efficacy of our product. We must collect and submit detailed and comprehensive scientific and human clinical data and, once that data is submitted, the approval process may take one to three years or more to complete after a PMA application is accepted for filing. Further, completing the process may not result in the FDA approving our PMA.

In December 2013, the FDA approved our IDE application. The IDE allows us to commence a pivotal trial of our eTNS system as adjunctive treatment for DRE, which we expect to begin in late 2014. If the data from the

 

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pivotal trial demonstrates the safety and efficacy of eTNS as adjunctive treatment for DRE, such data will serve as the basis for a PMA application for our eTNS system, which we intend to submit in the second half of 2016. There is no guarantee that our PMA application will result in any FDA approval of our eTNS system for the treatment of DRE, in which case we would be unable to market our product in the United States. The FDA may delay, limit or deny approval of our PMA application for many reasons, including:

 

   

our eTNS system may not be demonstrated to be safe or effective to the FDA’s satisfaction;

 

   

the data from our pre-clinical studies and clinical trials may be insufficient to support approval;

 

   

the manufacturing process or facilities we use may not meet applicable requirements; and

 

   

changes in FDA approval policies or adoption of new regulations may require us to provide additional data.

Any delay in, or failure to obtain or maintain, FDA approval of our eTNS system for the treatment of DRE or any other indications, or any other product we may develop, could prevent us from generating meaningful revenue or achieving profitability, and our business, financial condition and results of operations could be materially adversely affected. Even if approved by the FDA, such approval of our eTNS system or any other product we develop may not ultimately lead to the successful commercialization of such products.

We may be unable to obtain and maintain adequate third-party reimbursement for the costs of our eTNS system, which could have a material adverse effect on our business, financial condition and results of operations.

Our ability to successfully commercialize our eTNS system depends, in large part, on whether third-party payers, including private health insurers, managed care plans and government healthcare programs, agree to adequately reimburse the costs of our eTNS system and associated services in the United States, the EU, Canada, Australia and elsewhere. We have not obtained third-party reimbursement for our eTNS system in any jurisdiction and there is significant uncertainty surrounding third-party reimbursement for the use of devices that incorporate new technology, such as our eTNS system. For example, vagus nerve stimulation, or VNS, is a surgically implanted treatment device that stimulates a different cranial nerve than the one we target with our eTNS system. In May 2007, the Centers for Medicare & Medicaid Services of the U.S. Department of Health and Human Services, or CMS, concluded that although VNS is covered under Medicare for patients with certain types of seizures, VNS is not covered for patients with treatment-resistant depression, or TRD, a subset of MDD. CMS reaffirmed the non-coverage decision with regard to TRD in January 2013.

We believe our eTNS system will be purchased principally by healthcare providers and suppliers that typically bill various third-party payers, including private insurance plans, managed care plans and government healthcare programs such as the National Health Service in the United Kingdom, provincial governments and public hospitals in Canada and, subject to receipt of the required regulatory approval to market in the United States, Medicare and Medicaid. The ability of healthcare providers and suppliers to obtain adequate third-party reimbursement for their services and the products they provide is critical to the success of medical technology companies. The availability of adequate reimbursement affects which procedures healthcare providers perform, the products healthcare providers and suppliers purchase and the prices they are willing to pay for such products. If we are unable to obtain adequate reimbursement from public and private third-party payers, or to obtain reimbursement at all, the commercial success of our eTNS system will be compromised and our revenue will be significantly limited. Even if we do obtain reimbursement for our eTNS system, third-party payers may at any time withdraw their coverage policies, cancel any future contracts with us, review and adjust the rate of reimbursement, or stop paying for our eTNS system, which will reduce revenue for treatments using our eTNS system and, indirectly, demand for our eTNS system. In addition, many third-party payers are increasing their efforts to control the cost, use and delivery of healthcare services, which efforts may lead to decreased coverage or reduced payment amounts. If we obtain third-party reimbursement for the costs of our eTNS system, any subsequent reductions in the scope and amount of reimbursement rate could have a negative impact on our revenue.

 

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In countries with public healthcare systems, including Canada, Australia and many countries in the EU, whether healthcare providers use medical devices can depend on whether the public healthcare system pays for the devices and the healthcare providers’ services related to such devices. In certain cases, private healthcare exists alongside the public healthcare system, such that private third-party insurers or the patients themselves pay for the services of healthcare providers and medical devices. Reimbursement varies from country to country and can significantly impact the acceptance of new technology. In many countries outside of the United States, various coverage, pricing and reimbursement approvals are required. We expect that it will take several years to establish broad coverage and reimbursement for treatment using our eTNS system with payers in countries outside of the United States, and our efforts may not be successful.

Our failure to attract and retain qualified personnel and any changes in our key personnel, including officers, could adversely affect our operations.

Historically, we have maintained a small number of employees and instead relied on consultants and outsourcing to qualified third parties in an effort to control our costs. As of August 25, 2014, we had 11 full-time employees. Our success, including our ability to complete our pivotal trial and other clinical trials, commercialize our products and grow our business, will depend upon our ability to attract, hire and retain highly qualified employees and management personnel. Following the completion of this offering, we intend to hire as many additional employees as necessary to meet the needs of various Company initiatives, including sales and marketing, research and development, regulatory affairs, operations and general, administrative and business development, and we anticipate that this will require a significant increase in our headcount. As needed, we may supplement our internal resources with consultants and qualified third parties to implement our business plan. The competition for skilled personnel among life sciences companies, academic institutions, government entities and other organizations in the Los Angeles area is intense, and we may not be successful in hiring or retaining qualified personnel. Further, the employment and consulting services of our scientific, management and other executive officers are terminable at-will. If we lose one or more of these key personnel, our ability to implement our business strategy successfully could be seriously harmed. Replacing key personnel may be difficult and may take an extended period of time due to 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. We do not carry key man life insurance on any of our personnel.

We may not successfully manage our growth.

Our success will depend upon our ability to expand our operations and to successfully manage our growth. Our future growth, if any, may place a significant strain on our management and on our administrative, operational and financial resources. Managing our growth effectively will require us to implement and improve our operational, financial and management systems and to train, manage and motivate our employees. These demands may also require us to hire additional management personnel and may require management to develop additional expertise. Any increase in resources devoted to research and product development without a corresponding increase in our operational, financial and management systems could have a material adverse effect on our business, financial condition and results of operations. In addition, our eTNS system has never been manufactured on a high-volume commercial scale, and if we fail to successfully manage the scaling up of manufacturing to commercial scale, we may be subject to delays, cost overruns and inventory shortages that could materially adversely affect our results of operations and growth prospects.

We have incurred operating losses in each year since inception and expect to incur substantial and increasing losses for the foreseeable future.

To date, we have not generated meaningful revenue from product sales, and we have incurred operating and net losses each year since our inception in 2008. Our net losses for 2011, 2012, 2013 and the six months ended June 30, 2014 were $4.9 million, $5.2 million, $5.8 million and $7.5 million, respectively. As of June 30, 2014, we had an accumulated deficit of $25.6 million, and we expect to incur increasing losses for the foreseeable

 

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future. Our business is subject to all of the risks inherent in the development of a new business enterprise, such as the risks that we may be unable to (1) obtain additional capital needed to support the commercialization of our eTNS system, (2) develop a market for our eTNS system and other product candidates, (3) successfully transition from a company with a research and development focus to a company capable of commercializing our eTNS system and other product candidates and (4) attract and retain qualified management as well as technical and scientific staff. If the net proceeds from this offering are insufficient to enable commercialization of our eTNS system, we will need to obtain additional or alternative financing or significantly modify our operational plans for us to continue as a going concern. If the pivotal trial of our eTNS system for DRE fails to achieve its predefined endpoint or does not provide safety and efficacy data sufficient for purposes of obtaining regulatory approval in the United States for the treatment of DRE, if our eTNS system does not achieve market acceptance, or if we are unsuccessful in our efforts to obtain adequate third-party reimbursement for our eTNS system, we may not generate meaningful revenue and our business, financial condition, results of operations and cash flows could be materially adversely affected and we may not be able to continue as a going concern. Further, we may not be profitable even if we commercialize our eTNS system. If we fail to achieve and maintain profitability, or if we are unable to fund our operations, you could lose all or part of your investment.

We have a limited operating history, and do not yet have experience in the large-scale manufacturing, cross-border transportation and commercialization of our products, which may make it difficult to predict our future performance or evaluate our business and prospects.

We were incorporated in 2008. Since inception, our operations have been limited primarily to organizing our company, funding the development of our technology and conducting pre-clinical studies and clinical trials for our product candidates. We have obtained regulatory approval to market our eTNS system in the EU as adjunctive treatment for DRE and MDD, in Canada for the treatment of DRE and MDD and in Australia as adjunctive treatment for DRE, but have not received FDA approval to market our eTNS system in the United States nor approval from applicable regulatory agencies to market our eTNS system in any jurisdiction other than the EU, Canada and Australia. We only recently began commercializing our eTNS system in the EU, Canada and Australia, and we do not have experience in the large-scale manufacturing, cross-border transportation or commercialization of our products. We may encounter unforeseen difficulties in our efforts to manufacture our products in commercial quantities, including issues related to our reliance on third-party manufacturers over which we do not have direct control. Further, we may experience increased costs and decreased margins due to our inexperience with projecting demand for our products. In addition, because our products must cross international borders, we are also subject to risk of delay due to customs inspection, particularly given our limited experience with the required documentation and other customs rules. Any increases in customs duties or tariffs, as a result of changes to existing trade agreements between countries or otherwise, could also increase our expenses or the final cost of our products to our customers. The laws governing customs and tariffs in many countries are complex, subject to many interpretations and often include substantial penalties for noncompliance. If we are unable to successfully commercialize our eTNS system due to the foregoing risks or otherwise, we may not be able to generate revenue, become profitable, fund the development of our other products or development programs and we may have to cease operations.

We are subject to extensive government regulation, including FDA approval, before our product candidates may be marketed in the United States. We have limited in-house experience in regulatory affairs and, even if our product candidates receive regulatory approval, we will be subject to ongoing regulatory requirements and may face regulatory or enforcement action in any jurisdiction in which we market our products.

Both before and after approval of our product candidates, we, our product candidates and our suppliers and contract manufacturers are subject to extensive regulation by governmental authorities in the United States and other countries covering, among other things, designing, testing, manufacturing, quality control, labeling, advertising, promotion, transportation, distribution and import and export. We have limited in-house experience in preparing, submitting and prosecuting regulatory filings and applications necessary to gain regulatory approvals and have traditionally outsourced these functions. If we are unable to hire or engage regulatory experts

 

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to help navigate the extensive regulatory regime, or if we hire or engage such experts but they fail to perform as expected, (1) we may be unable to obtain approval to market our products in the United States or (2) even if we obtain FDA approval to market our products, we may be unable to comply with ongoing regulatory requirements. Failure to comply with regulatory requirements may subject us to administrative and judicially-imposed sanctions, including but not limited to suspension or cancellation of our regulatory approvals, warning letters, civil and criminal penalties, injunctions, interruption of manufacturing or clinical trials, product seizures or detention, product recalls, total or partial suspension of production, refusal to approve pending product marketing applications, and resulting adverse publicity. We, the FDA or an institutional review board, or IRB, may suspend or terminate human clinical trials at any time on various grounds, including a finding that patients are being exposed to an unacceptable health risk or that the treatment does not have any effect.

The FDA may decide that our data is insufficient to support approval of our product candidates and require additional pre-clinical, clinical or other studies. If we apply to include an interim analysis in our pivotal trial of eTNS for the treatment of DRE, and the FDA permits us to do so, we will incur a statistical penalty that will require us to achieve a higher standard of statistical significance than would otherwise be required for a successful trial. As we develop our product candidates, we periodically discuss clinical, regulatory and manufacturing matters with the FDA, and our views may, at times, differ from those of the FDA. If we are unable to resolve these differing views, we may be required to provide additional information, which may require conducting additional pre-clinical studies or clinical trials. If we are required to conduct additional clinical trials or other testing of our product candidates beyond those that we currently contemplate for FDA approval, if we are unable to successfully complete our clinical trials or other testing, or if the results of these and other trials or tests raise safety concerns or fail to demonstrate efficacy, we may be delayed in obtaining approval to market our product candidates in the United States, or may never be able to obtain such marketing approval.

Even if we receive regulatory approval to market a particular product candidate, the approval could be conditioned on us conducting additional costly post-approval studies. Moreover, the product may later cause adverse effects that limit or prevent its widespread use, force us to correct, recall or withdraw the product from the market or impede or delay our ability to obtain regulatory approvals in additional countries. Even after approval, discovery of previously unknown problems with a product, manufacturer, or facility, such as previously undiscovered side effects or design or manufacturing defects, may result in restrictions on any product, manufacturer, or facility, including, among other things, a possible withdrawal of approval of the product. We will also be subject to ongoing adverse event reporting requirements with respect to our products. The manufacturing facilities of our contract manufacturers and other third-party service providers in the supply chain will also be subject to inspection by the FDA and other regulatory authorities to ensure that we are in compliance with the FDA’s Quality System Regulation and corresponding manufacturing requirements in other jurisdictions. If we fail to comply with those manufacturing and other quality system requirements, we may be subject to any of the sanctions described above and our ability to produce our products may be adversely affected.

We may not be able to achieve market acceptance of our eTNS system, which could cause our sales to be lower than expected.

Market acceptance of our eTNS system depends on our ability to prove to physicians, patients, third-party payers and other members of the medical community the clinical efficacy and safety of trigeminal nerve stimulation through eTNS as adjunctive treatment for DRE, MDD and other conditions. Only a small number of patients have been treated using eTNS in the EU, Canada and Australia, and many physicians are unfamiliar with this form of therapy. Furthermore, patients or their physicians may have negative perceptions of neuromodulation and associate our eTNS system with more extreme therapies such as electroconvulsive therapy, which could dissuade patients and physicians from using or prescribing our products. Market acceptance of our eTNS system is dependent on it being prescribed by a physician. It may be difficult to overcome such negative perceptions, especially with parents who are considering treatment options for their children and, in associating TNS with more extreme therapies, perceive our product to be unsafe. Further, patients or their physicians may find other therapies, including pharmacologic options, more attractive than our eTNS system in terms of familiarity,

 

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efficacy and cost, as well as reimbursement availability. Market acceptance of, and demand for, our eTNS system and any other product candidate that we may develop and commercialize will depend on many factors, including:

 

   

our ability to provide acceptable evidence of safety and efficacy and acceptance by physicians of each product as a safe and effective treatment;

 

   

our ability to overcome any potential negative perceptions of TNS;

 

   

availability, relative cost and relative efficacy of alternative and competing treatments;

 

   

the effectiveness of our marketing and distribution strategy which we have not yet begun to implement in a material way;

 

   

perceived advantages over alternative treatments;

 

   

relative convenience and ease of administration of our products;

 

   

the availability of adequate reimbursement by insurers or other third parties;

 

   

the prevalence and severity of adverse side effects related to our products currently unknown to us; and

 

   

publicity concerning our products, competing products and treatments or neuromodulation generally.

Failure of our eTNS system to gain market acceptance could have a material adverse effect on our business, financial condition and results of operations.

If we are unable to establish a sales, marketing and distribution infrastructure or enter into agreements with third parties to perform these functions, we will not be successful in commercializing our product candidates.

We do not yet have our sales, marketing and distribution infrastructure in place and no significant experience in the sale, marketing and distribution of medical devices. Developing a direct sales force is expensive and time-consuming, and delayed development of a direct sales force could affect the timing and acceptance of our eTNS system or other products. The development of a capable sales, marketing and distribution infrastructure will require substantial resources, which may divert the attention of our management and key personnel.

In select territories, we may use third parties to distribute our eTNS system through co-promotion and various other third-party arrangements. If we enter into arrangements with third parties to perform sales, marketing and distribution services, our results of operations may be adversely impacted more than if we market and sell any approved product candidates ourselves. If such third parties misrepresent our products, do not provide appropriate service and delivery, or violate U.S. law or the law in any jurisdiction where our products are labeled, advertised, promoted, transported, distributed, warehoused, imported or exported, our reputation could be harmed, and we could be subject to fines, sanctions or both.

Factors that may inhibit our efforts to develop an internal sales, marketing and distribution infrastructure include:

 

   

our inability to recruit and retain adequate numbers of effective sales and marketing personnel;

 

   

the inability of sales personnel to obtain access to the specialized physicians that we are targeting for adoption of our products or to effectively demonstrate the benefits of our products to adequate numbers of these physicians;

 

   

the lack of complementary products to be offered by sales personnel, which may put us at a competitive disadvantage relative to companies with more extensive product lines; and

 

   

unforeseen costs and expenses associated with creating a sales and marketing organization.

Because we have limited experience in marketing and selling our eTNS system, our ability to forecast demand, the infrastructure required to support such demand and the sales cycle is unproven. If we are not able to

 

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build a sales, marketing and distribution infrastructure or enter into agreements with one or more third parties to perform these functions, we may be unable to commercialize our product candidates successfully, which could have a material adverse effect on our business, financial condition and results of operations.

The success of our eTNS system and any products we may develop in the future depends upon our ability to establish and maintain support from relationships with key opinion leaders.

If we fail to establish or maintain support from relationships with KOLs, our eTNS system and any products we may develop in the future may not be developed and marketed in line with the needs and expectations of the professionals who use and support our products. It is important for these leaders to believe in the quality and reliability of our products, the data we generate and the integrity of our company. If these KOLs determine that our eTNS system or any other product candidate that we develop is not clinically effective or that alternative technologies or procedures are more effective, we will encounter significant difficulty driving adoption of or establishing our eTNS system or such other product candidates as a standard of care, which would limit our revenue growth and our ability to achieve profitability. We also rely on these KOLs to provide us with considerable guidance and feedback regarding the use of and patient experience with our products. If we are unable to establish or maintain strong relationships with KOLs or to receive their advice and input regarding our products, the development and marketing of our products could suffer. This could have a material adverse effect on our business, financial condition and results of operations.

Delays in the commencement or completion of clinical testing could result in increased costs to us and delay our ability to generate meaningful revenues.

We do not know whether ongoing or planned clinical trials, including the pivotal trial of our eTNS system as adjunctive treatment for DRE, will begin on time or be completed on schedule, or at all. The commencement or completion of clinical trials can be disrupted for a variety of reasons, including difficulties in:

 

   

recruiting and enrolling patients to participate in, and investigators to conduct, a clinical trial;

 

   

obtaining regulatory approval to commence or continue a clinical trial;

 

   

reaching agreements on acceptable terms with prospective clinical research organizations and trial sites;

 

   

manufacturing sufficient quantities of a product candidate; or

 

   

obtaining IRB approval to conduct a clinical trial at a prospective site.

A clinical trial may also be suspended or terminated by us, 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 in accordance with our clinical protocols;

 

   

inspection of the clinical trial operations or trial site by the FDA or other regulatory authorities resulting in the imposition of a clinical hold;

 

   

unforeseen safety or efficacy issues; or

 

   

lack of adequate funding to continue the clinical trial.

In addition, changes in regulatory requirements and guidance may occur, and we may need to amend clinical trial protocols to respond to such changes, which could impact the cost, timing or successful completion of a clinical trial. If we experience delays in the commencement or completion of our clinical trials, including the pivotal trial of our eTNS system as adjunctive treatment for DRE, the commercial prospects for our eTNS system and our other product candidates will be harmed, and our ability to generate meaningful product revenue will be delayed. Many of the factors that cause or lead to a delay in the commencement or completion of clinical trials may also lead to the denial of regulatory approval of a product candidate, including FDA approval of our eTNS

 

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system as adjunctive treatment for DRE. Adverse results associated with clinical trials may also lead to the suspension or withdrawal of regulatory approval of our products in those jurisdictions in which we have received such approval, including the EU, Canada and Australia.

We rely on third parties to conduct our clinical trials. If these third parties do not perform as contractually required or otherwise expected, we may not be able to obtain regulatory approval for our product candidates.

We have never conducted our own clinical trials. Instead, we have relied, and intend to continue to rely, on third parties, such as contract research organizations, medical institutions, clinical investigators and contract laboratories, to assist us with our clinical trials. Although we do not conduct our own clinical trials, we are responsible for compliance with regulations and standards, including good clinical practices, for conducting, recording and reporting the results of clinical trials to assure that data and reported results are credible and accurate and that the trial participants are adequately protected. If these third parties do not successfully carry out their contractual obligations, comply with regulatory requirements or meet expected deadlines, if such third parties need to be replaced, or if the quality or accuracy of the data they obtain is compromised due to their failure to adhere to our clinical protocols or regulatory requirements or for any other reason, our clinical trials may be extended, delayed, suspended or terminated. Further, we may not be able to obtain regulatory approval for our product candidates, including FDA approval of our eTNS system as adjunctive treatment for DRE.

The results of our clinical trials, including the pivotal trial of our eTNS system as adjunctive treatment for DRE, may not support our product candidate claims or may result in the discovery of serious adverse side effects.

Our research and development, pre-clinical testing and clinical trial activities are subject to extensive regulation and review by numerous governmental authorities, both in the United States and abroad. We intend to conduct pre-and post-market clinical studies to support the approval of our products, seek approval for the use of our products to treat additional indications and gather information about our products’ safety, efficacy and optimal use. Clinical trials must be conducted in compliance with FDA regulations or the regulations of comparable foreign agencies or such agencies may take enforcement action. The data collected from these clinical trials may ultimately be used to support marketing approval for these products. Even if our clinical trials are completed as planned, we cannot be certain that their results will support our product candidate claims or that the FDA or foreign authorities will agree with our conclusions. Success in pre-clinical studies and early clinical trials does not ensure that later clinical trials will be successful, and we cannot be sure that later trials will replicate the results of prior trials and pre-clinical studies. Further, the clinical trial process may fail to demonstrate that our product candidates are safe and effective for the proposed indicated uses, which could cause us to abandon a product candidate and may delay development of others. Any delay or termination of our clinical trials will delay the filing of our submissions with applicable regulatory authorities and, ultimately, our ability to commercialize our product candidates and generate revenues. It is also possible that patients enrolled in clinical trials will experience adverse side effects that are not currently part of the product candidate’s profile, which could cause us to alter, delay or terminate a clinical trial with respect to that product candidate. Failure to obtain FDA approval and to ultimately commercialize our products candidates and generate revenues will have a material adverse effect on our business, financial condition and results of operations.

We may not obtain approval to market our eTNS system for the treatment of indications other than DRE and MDD and, as such, we may never generate revenue from other indications.

We have conducted or supported Phase I trials of eTNS in the treatment of ADHD and PTSD and may in the future pursue other indications. One or more large-scale pivotal trials, in addition to those that we have planned for DRE and, assuming successful completion of our ongoing Phase II trial, MDD, would be required to support regulatory approval of eTNS for any additional indications. Additional clinical trials will require substantial investment, and we may not be able to obtain adequate funding to conduct such trials. If we do invest in future trials for these or any other indications, we cannot assure you that the results of such trials will be positive. If we do not elect to conduct research with regard to these or other new indications, our trial results are not positive,

 

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and as a result, we do not receive additional regulatory approvals, or the use of eTNS for the treatment of alternative indications does not prove to be commercially viable, our revenue growth, if any, would be limited to any revenue from existing approved indications, which are currently the use of our eTNS system as adjunctive treatment for DRE in the EU, Canada and Australia and for MDD in the EU and Canada, in each case for adults and children nine years and older.

We do not have the ability to manufacture clinical or commercial supplies of eTNS components on our own and rely on third parties, some of which are currently sourced by one supplier, to manufacture such components. If our suppliers or component and contract manufacturers do not comply with regulatory requirements or otherwise are unable to meet our demand or specifications for materials, components and contract services, we may be forced to qualify new vendors or change our product design, which would impair our ability to deliver products to our customers on a timely basis and adversely affect our business, results of operations and financial condition.

We currently do not intend to manufacture eTNS components in-house and instead will rely on third parties to do so. We rely upon sole-source suppliers for many of the key components, materials and contract services used in manufacturing our eTNS system, but do not currently have any long-term contracts with these suppliers. Accordingly, we may periodically experience discontinuation or unavailability of components, materials or contract services, which may require us to qualify alternative sources or, if no such alternative sources are identified, change our product design. Pursuing and qualifying alternative sources or redesigning specific components of our products, if or when necessary, could consume significant resources. In addition, such changes, including the addition of a new manufacturing site or significant manufacturing process or design changes that could affect the safety and efficacy of our eTNS system, generally require regulatory submissions and approvals. Although the FDA is required to approve or deny such submissions within 180 days, if our submission is incomplete or the FDA has questions about the submission that require additional data or information, the process can last much longer. Any extended delays in securing or an inability to secure alternative sources for these or other components, materials and contract services could result in manufacturing and product supply interruptions, which could have a material adverse effect on our business, financial condition and results of operations.

Our manufacturers may be vulnerable to damage from various types of disasters, including fires, terrorist acts, floods, power losses, communications failures and similar events. If any such disaster were to occur, we may not be able to obtain components, materials or contract services from our manufacturers. Furthermore, if we receive FDA approval for any of our products, the manufacturing facilities producing those products would require re-approval by the FDA in the event of damage, which could result in significant delays before we could manufacture products from a replacement facility. The insurance we or the manufacturer maintains may not be adequate to cover our losses resulting from disasters or other business interruptions. Therefore, any such catastrophe could have a material adverse effect on our business, financial condition and results of operations.

Our manufacturers and suppliers might not meet regulatory quality standards applicable to manufacturing and quality processes, which could have a material adverse effect on our business, financial condition and results of operations.

If we receive FDA approval, we and our contract manufacturers must comply with current good manufacturing practice requirements contained in the FDA’s Quality System Regulation, which are strictly enforced by the FDA through its establishment inspection program. These requirements include quality control, quality assurance and the maintenance of records and documentation.

We must also comply with comparable requirements in the EU, Canada and Australia. The Canadian Medical Device Regulations for Class II medical devices require medical devices to be manufactured in compliance with the ISO 13485:2003 quality management system standard. Further, although ISO 13485:2003 certification is not a prerequisite for marketing medical devices in the EU, the EU Medical Device Directives set forth stringent quality system requirements that must be met in order to obtain a CE Mark, and products

 

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manufactured in compliance with ISO 13485:2003 are presumed to comply with such requirements. We obtained a quality management system certification, ISO 13485:2003, for the design, manufacturing and distribution of a neuromodulation therapy device for the treatment of neurological and neuropsychiatric disorders. The effective date of the certification is June 22, 2012 and the expiration date is June 21, 2015. If we fail to renew this quality management system certification before June 21, 2015 or if it is revoked, our license in Canada will be suspended. Further, Failure to comply with quality management system requirements in the EU will not only prevent us from marketing our eTNS system in the EU, but may also affect our ability to market our eTNS system in Australia because we relied on our CE Mark to obtain the requisite approvals in Australia.

Further, we have little control over our contract manufacturers’ compliance with the regulations and standards applicable to manufacturing and quality processes, or with their internal quality control and quality assurance procedures, although we are responsible for their compliance. Failure to comply with these requirements by our contract manufacturers could result in the issuance of untitled letters or warning letters from authorities, as well as sanctions being imposed on us, including fines and civil penalties, suspension of production, suspension or delay in product approval, product seizure, recall or withdrawal of product approval. If the quality or safety of any product candidate supplied by contract manufacturers is compromised due to their failure to adhere to applicable laws or for any other reason, we may not be able to obtain or maintain regulatory approval for, or successfully commercialize, our eTNS system, which would have a material adverse effect on our business, financial condition and results of operations.

Our eTNS system and any products we may develop in the future may have defects that result in product recalls, which would result in substantial costs and reduced sales that would materially adversely affect our business, results of operations and financial condition.

Component failures, manufacturing, warehousing or distribution problems or hardware or software design defects could result in our eTNS system and any products we may develop in the future not delivering the therapy for which they are indicated or not otherwise performing to specifications, and could also result in other unintended consequences, including injuries to patients or other users. The occurrence of such problems or other adverse clinical reactions may lead to a voluntary or mandatory recall of our eTNS system or such other products or, in the case of our subcutaneous trigeminal nerve stimulation system, or sTNS system, if approved, require explantation and result in significant costs. Any product recall could also lead to a substantial loss of physician and patient confidence in our products and, consequently, have a material adverse effect on our growth prospects or operating results. A recall could also result in substantial litigation, including product liability claims, with liabilities well in excess of our insurance coverage limits. Further, any recall with respect to the sTNS system we intend to develop could require removal and potentially re-implantation of our sTNS device, thereby increasing the risk to the patient. Any of these events could have a material adverse effect on our reputation, business, financial condition and results of operations.

Product liability claims could adversely affect our consolidated financial condition, our earnings and our reputation.

Our business exposes us to potential product liability risks that are inherent in the design, manufacture and marketing of medical devices. In addition, our sTNS system is currently designed to be implanted in the human body for long periods of time. Component failures, manufacturing defects, design flaws or inadequate disclosure of product-related risks or product-related information with respect to the products we manufacture or sell or may manufacture or sell in the future could result in an unsafe condition or injury to, or death of, a patient. The occurrence of such an event could result in product liability claims or a recall of, or safety alert relating to, one or more of our products, which could ultimately lead to, in certain cases, the removal of such products from the body and possible claims for costs associated therewith. While we have secured product liability insurance, it may prove to be insufficient. Product liability claims or product recalls in the future, regardless of their ultimate outcome, could have a material adverse effect on our business and reputation and on our ability to attract and retain customers for our products. Recent U.S. Supreme Court case law has clarified that the FDA’s authority over medical devices

 

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preempts state tort laws, but legislation has been introduced at the federal level to allow state intervention, which could lead to increased and inconsistent regulation at the state level and increased risk of adverse product liability judgments.

We are involved in a dispute with a former advisor over a repurchase of his shares of our common stock, and if we are unable to resolve this dispute in our favor, such dispute may adversely affect our results of operations and capitalization.

In September 2008, we issued 50,000 shares of restricted common stock to Dr. Antonio A.F. De Salles, our former Senior Scientific Advisor, pursuant to a restricted stock purchase agreement designed to compensate Dr. De Salles for his services. The agreement with Dr. De Salles provides that the shares would be subject to a repurchase right which would lapse in 48 equal monthly installments so long as Dr. De Salles provided continuous service. Further, the agreement provides that Dr. De Salles would be deemed to remain in service for so long as he continued to actually and physically render services to us, solely as determined by and in accordance with directives of our board of directors. In March 2010, we consented to the transfer of the shares by Dr. De Salles to the De Salles Children’s Trust. In December 2011, we initiated a 50-for-1 stock split, such that the 50,000 shares became 2,500,000 shares. In April 2013, our board of directors determined that Dr. De Salles had not continuously and physically provided services and we repurchased all of these shares of common stock at an aggregate repurchase price of $500 (an amount equal to the original purchase price for the shares). In August 2013, we filed a claim in arbitration requesting declaratory relief with respect to the repurchase of the shares, taking the position that Dr. De Salles never actually and physically provided services to us and that pursuant to the restricted stock purchase agreement, our board of directors has the sole discretion to determine whether Dr. De Salles provided services to us, regardless of whether or what services were actually provided. Dr. De Salles disputes our right to repurchase such shares. Dr. De Salles and Alessandra Gorgulho, as co-trustees for the De Salles Children’s Trust, subsequently filed a counterclaim to invalidate our repurchase and cancellation of the 2,500,000 shares in the name of the De Salles Children’s Trust. The demand further sought reissuance of the shares, actual damages if the shares cannot be reissued, unspecified punitive and exemplary damages and other relief. On May 19, 2014, we submitted a first amended demand for arbitration and statement of claim for rescission, declaratory relief, statutory misappropriation of trade secrets, common law misappropriation, conversion, common law unfair competition, statutory unfair competition, breach of implied contract and accounting. The relief sought includes rescission of the restricted stock purchase agreement, declaratory relief, damages and/or disgorgement of improperly gained profits in excess of $2,000,000, an order trebling the amount of such award, punitive and exemplary damages, injunctive relief, an accounting, reasonable attorneys’ fees, costs of the arbitration, and prejudgment interest.

We also filed a complaint on October 29, 2013 in the U.S. District Court, Central District of California against Dr. De Salles and Alessandra Gorgulho for misappropriation of trade secrets, conversion, breach of implied contract, quantum meruit and accounting. Dr. De Salles filed a motion to compel the federal court action into arbitration and on January 31, 2014, the federal court issued an order granting Dr. De Salles’s motion to compel arbitration and to stay the federal court action as to Dr. De Salles. On January 24, 2014, Alessandra Gorgulho filed a motion to dismiss the action alleging insufficient service of process. On March 26, 2014, the federal court construed the motion to dismiss as a motion to quash, granting the motion to quash but also granting our request for jurisdictional discovery. Matters with respect to the federal court action involving Alessandra Gorgulho remain ongoing.

On December 26, 2013, we unilaterally and voluntarily entered into an escrow agreement as a protective measure designed to highlight the potential dilution to investors in this offering (as well as existing stockholders) in the event and to the extent that Dr. De Salles prevails in this dispute. Pursuant to the escrow agreement, we issued and delivered 2,500,000 shares of our common stock to an independent third party to be held in escrow until such time as the litigation matter and contractual dispute described above are resolved. Because the shares are held in escrow at this time, the capitalization stated in this prospectus reflects our capitalization as if Dr. De Salles was reissued these shares. This arbitration may be a distraction to management and if the arbitration is not

 

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decided in our favor, Dr. De Salles or the De Salles Children’s Trust may be awarded the shares or we may be required to pay damages, which may materially adversely impact our results of operations. On February 18, 2014, our insurer agreed to defend the counterclaim in this matter but reserved its right to determine that the counterclaim is not covered by the insurance policy. If our insurer so determines and we do not dispute that determination or that determination is upheld by a court, we will have to bear our own defense costs.

We expect to generate a substantial portion of our revenue internationally and are subject to various risks relating to our international activities, any of which could materially adversely affect our operating results.

We believe that a significant percentage of our future revenue will come from international sources. Our eTNS system is currently approved for use only in the EU, Canada and Australia, and we intend to expand our overseas operations. Engaging in international business involves a number of difficulties and risks, including:

 

   

required compliance with existing and changing foreign regulatory requirements and laws;

 

   

required compliance with anti-bribery laws, such as the U.S. Foreign Corrupt Practices Act, or the FCPA, and U.K. Bribery Act, privacy requirements, labor laws and anti-competition regulations;

 

   

export and import restrictions;

 

   

distribution and warehousing laws and logistics and supply chain requirements;

 

   

various reimbursement and insurance regimes;

 

   

laws and business practices favoring local companies;

 

   

longer payment cycles and difficulties in enforcing agreements and collecting receivables through certain foreign legal systems;

 

   

political and economic instability;

 

   

potentially adverse tax consequences, tariffs, customs charges, bureaucratic requirements and other trade barriers;

 

   

difficulties and costs of staffing and managing foreign operations; and

 

   

difficulties protecting or procuring intellectual property rights.

We expect to sell our products in local currency outside of the United States, principally the euro, British pound, Canadian dollar and Australian dollar. We expect that our expenses will be denominated in the currencies in which our operations are located, which is, and is expected to be, primarily in the United States. If our operations in countries outside of the United States grow, our results of operations and cash flows will be subject to fluctuations due to changes in foreign currency exchange rates, which could harm our business in the future. For example, if the value of the U.S. dollar increases relative to foreign currencies, in the absence of a corresponding change in local currency prices, our revenue could be adversely affected as we convert revenue from local currencies to U.S. dollars.

If we dedicate significant resources to our international operations and are unable to effectively manage our exposure to foreign currency fluctuations or the risks listed above, our business, financial condition and results of operations will suffer.

Intense competition and rapid technological changes could reduce our ability to market our eTNS system successfully and generate sales.

We believe that existing and future pharmaceutical therapies will be the primary competition for our eTNS system. However, we may also face competition from other medical device companies that have the technology,

 

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experience and capital resources to develop alternative devices for the treatment of DRE, MDD, and any other indications we pursue. Many of our competitors have substantially greater financial, manufacturing, marketing and technical resources than we do and have obtained third-party reimbursement approvals for their therapies. We may not have invested in the past, or may not invest in the future, sufficient resources in research and development to successfully enable our products to compete with other technologies, products or therapies for our target indications. In addition, the healthcare industry is characterized by extensive research efforts and rapid technological progress. Our competitors may develop technologies and obtain regulatory approval for products that are more effective than ours. In addition, advances in surgical techniques may make surgery a more attractive therapy for DRE, MDD or other indications we pursue. The development by others of new treatment methods with novel drugs, medical devices or surgical techniques could render our products non-competitive or obsolete. For example, the development of an effective pharmaceutical therapy for epilepsy with a significantly lower incidence of side effects than what is currently available would reduce or eliminate many of the limitations that our eTNS system is designed to address. We may not be able to compete successfully against current and future competitors, including new products, technology and surgeries such competitors may develop, which could have a material adverse effect on our business, financial condition and results of operations.

We may not be able to develop new products or enhance the capabilities of our eTNS system to keep pace with rapidly changing technology, which could have a material adverse effect on our business and operating results.

Our success depends on our ability to develop new products and applications for our technology to treat additional indications, while improving the performance and cost-effectiveness of our eTNS system. New technologies, techniques or products could emerge that might offer better combinations of price and efficacy than our eTNS system or any future products we may develop. Existing markets for our products are characterized by rapid technological change and innovation. It is critical to our success that we anticipate changes in technology and customer requirements and successfully introduce new, enhanced and competitive technologies to meet patients’ needs on a timely and cost-effective basis. At the same time, however, we must carefully manage our introduction of new products. We are in the initial stages of developing a second generation of our eTNS system in an effort to increase patient comfort, convenience and compliance. Our current second generation design includes a wire-free pulse generator that is directly affixed to the single-use patch, thus eliminating the need for lead wires. We are also in the initial stages of developing our sTNS system for patients who are responsive to eTNS and would prefer an implantable solution. If prescribing physicians or patients believe that our next generation products will offer enhanced features or be sold for a more attractive price than our current designs, they may delay purchases until such products are available. We may also have excess or obsolete inventory of older products as we transition to new products and we do not have experience in managing product transitions. Further, competitors may be able to respond more quickly and effectively than we can to new or changing opportunities, technologies, standards or requirements. We anticipate that we will face increased competition in the future as existing companies and competitors develop new or improved products and as new companies enter the market with new technologies. If we do not successfully innovate and introduce new technology into our product lines or manage the transitions to new product offerings, or if we are unable to respond to opportunities as quickly and effectively as our competitors, our business, financial condition and results of operations could be materially adversely affected.

Our government grants may subject us to government audits, which could expose us to penalties.

Given that certain of our activities are funded by government grants, we may be subject to routine audits by U.S. government agencies. In connection with these audits, these agencies may review our performance, cost structure and compliance with applicable laws, regulations and standards and the terms and conditions of the grant. If any of our costs are found to be allocated improperly, the costs may not be reimbursed and any amounts already reimbursed for such costs may have to be refunded. Accordingly, an audit could result in a material adjustment to our results of operations and financial condition. Moreover, if an audit uncovers improper or illegal activities, we may be subject to civil and criminal penalties and administrative sanctions. In addition, we may be

 

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required to devote substantial resources to our systems used to track expenditures funded by our government grants.

Unauthorized persons may attempt to distribute counterfeit eTNS systems or components, including patches, and may perform research and development activities on our products without our approval, oversight or knowledge, which could have a material adverse effect on our reputation, results of operations and financial condition.

Unauthorized persons may attempt to make counterfeit copies of our eTNS system and its components, including our proprietary disposable patches, particularly in foreign markets and may perform research and development activities on our products without our approval, oversight or knowledge. If we discover these activities, we intend to take action through local authorities and legal counsel where practical. The inability to effectively deter counterfeit efforts and unauthorized research and development activities could have a material adverse effect on our reputation, results of operations and financial condition.

Acquisitions or joint ventures could disrupt our business, cause dilution to our stockholders and otherwise harm our business.

We may acquire other businesses, products or technologies as well as pursue strategic alliances, joint ventures, technology licenses or investments in complementary businesses. We have not made any acquisitions to date, and our ability to do so successfully is unproven. Any of these transactions could be material to our business, financial condition and results of operations and expose us to many risks, including:

 

   

disruption in our relationships with customers, distributors or suppliers as a result of such a transaction;

 

   

unanticipated liabilities related to acquired companies;

 

   

difficulties integrating acquired personnel, technologies and operations into our existing business;

 

   

diversion of management time and focus from operating our business to acquisition integration challenges;

 

   

increases in our expenses and reductions in our cash available for operations and other uses; and

 

   

possible write-offs or impairment charges relating to acquired businesses.

Foreign acquisitions involve unique risks in addition to those mentioned above, including risks related to integration of operations across different cultures and languages, currency risks and the particular economic, political and regulatory risks associated with specific countries.

Also, the anticipated benefit of any acquisition may not materialize. Future acquisitions or strategic alliances could result in potentially dilutive issuances of our equity securities, the incurrence of debt, contingent liabilities or amortization expenses or write-offs of goodwill, any of which could harm our financial condition. We cannot predict the number, timing or size of future acquisitions or joint ventures, or the effect that any such transactions might have on our operating results.

The enactment of legislation implementing changes in the U.S. taxation of international business activities or the adoption of other tax reform policies could materially affect our business, financial condition and results of operations.

Recent changes to U.S. tax laws, including limitations on the ability of taxpayers to claim and utilize foreign tax credits and the deferral of certain tax deductions until earnings outside of the United States are repatriated to the United States, as well as changes to U.S. tax laws that may be enacted in the future, could impact the tax treatment of future foreign earnings. Should the scale of our international business activities expand, any changes in the U.S. taxation of such activities could increase our worldwide effective tax rate and harm our business, financial condition and results of operations.

 

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Our net operating loss carryforwards may expire unutilized or underutilized, which could prevent us from offsetting future taxable income.

We may be limited in the portion of net operating loss carryforwards, or NOLs, that we can use in the future to offset taxable income for U.S. federal income tax purposes. As of December 31, 2013, we had NOLs for federal income tax purposes and for state income tax purposes of $7.8 million and $8.3 million, respectively, which, if not used, expire through 2033. A lack of future taxable income would adversely affect our ability to utilize these NOLs. In addition, under Section 382 of the Internal Revenue Code, or Section 382, a corporation that undergoes an “ownership change” is subject to limitations on its ability to utilize its NOLs to offset future taxable income. We have not completed a Section 382 analysis to determine if an ownership change has occurred. Until such analysis is completed, we cannot be sure that the full amount of existing NOLs will be available to us, even if we do generate taxable income before their expiration. Further, our NOLs may also be impaired under similar provisions of state law. We have recorded a full valuation allowance related to our NOLs and other net deferred tax assets due to the uncertainty of the ultimate realization of the future benefits of those assets. Our NOLs may expire unutilized or underutilized, which could prevent us from offsetting future taxable income.

Risks Related to Our Finances and Capital Requirements

Our financial condition and results of operations may fluctuate on a quarterly or annual basis in the future, which may cause our stock price to decline.

Our revenues, expenses and operating results may vary significantly from quarter to quarter or from year to year for several reasons, including, without limitation:

 

   

the ability of our sales force to effectively commercialize our eTNS system or any other product we may develop, and the extent to which any of our products gain market acceptance;

 

   

the existence and timing of coverage determinations or other reimbursement policies by third-party payers;

 

   

the rate and amount of expenditures incurred on our clinical, manufacturing, sales, marketing and product development efforts;

 

   

our ability to obtain and retain qualified personnel;

 

   

the availability of key components, materials and contract services, which depends on, among other things, our ability to forecast sales, as well as the ability of our suppliers to timely provide us with such key components, materials and contract services;

 

   

investigations of our business and business-related activities by regulatory or other governmental authorities;

 

   

variations in the quantity of product orders at quarter- or year-end;

 

   

temporary manufacturing interruptions or disruptions;

 

   

the timing and success of new product and new market introductions;

 

   

changes or delays in our ability to obtain domestic or foreign regulatory approvals for our products;

 

   

increased competition, patent expirations or new technologies or treatments;

 

   

product recalls or safety alerts;

 

   

positive or negative media coverage of our products, our competitors’ products or our industry;

 

   

the availability of grant income to supplement our product development efforts;

 

   

litigation, including product liability, patent, employment, securities class action, stockholder derivative, general commercial and other lawsuits; and

 

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the affordability of our eTNS system and any other product candidates to our customers, given the current economic environment.

As a result of any of these factors, our consolidated results of operations may fluctuate significantly and may be below security analyst expectations, which may in turn cause our stock price to decline substantially.

Our near-term expense estimates will be based, in large part, on estimates of our development costs and costs to build our commercial infrastructure, which are difficult to predict.

We expect to base our near-term expense levels on our operating forecasts and estimates of future development costs and costs to build our commercial infrastructure. Operating results are difficult to forecast, particularly given our limited operating and product sales history. We expect that a significant portion of our expenses will be fixed, and as a result, we may be unable to adjust spending quickly enough to offset any expense obligations. Any failure to accurately predict our expense estimates could cause our operating results in any given quarter, or a series of quarters, to be lower than expected, which could cause the price of our common stock to decline.

We may require additional funding and may be unable to raise capital when needed, which would force us to delay, reduce or eliminate our development programs or commercialization efforts.

We expect our negative cash flows from operations to increase for the foreseeable future. The development and regulatory approval of our eTNS system and other product candidates and the development of our sales and marketing capabilities will require the commitment of substantial funds. Our future capital requirements will depend on, and could increase significantly as a result of, many factors, including:

 

   

the rate of progress and cost of our clinical trials and other development activities;

 

   

the costs and timing of obtaining and maintaining regulatory approval;

 

   

the costs of establishing or contracting for sales and marketing capabilities;

 

   

the extent to which we acquire or in-license new products, technologies or businesses;

 

   

the effect of competing technological and market developments; and

 

   

the costs of filing, prosecuting, defending and enforcing any patent claims and other intellectual property rights.

We may seek additional funding through strategic alliances or through public or private sales of our equity securities, or through debt financing. Strategic alliances, additional equity financing or debt financing may not be available on terms favorable to us, if at all. If adequate funds are not available, we may be required to delay, reduce the scope of, or eliminate one or more of our then existing or planned development, commercialization or expansion activities. Any of these events could have a material adverse effect on our business, financial condition and results of operations.

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

To the extent that we raise additional capital by issuing equity securities, our existing stockholders’ ownership will be diluted. Further, any debt financing we obtain may involve covenants that restrict our operations. These restrictive covenants may include limitations on additional borrowing and specific restrictions on the use of our assets, as well as prohibitions on our ability to create liens, pay dividends, redeem our stock or make investments. In addition, if we raise additional funds through licensing arrangements, it may be necessary to relinquish potentially valuable rights to our products or proprietary technologies, or grant licenses on terms that are not favorable to us. Any of these developments could have a material adverse effect on our business, results of operations and financial condition.

 

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Risks Related to Our Legal and Regulatory Environment

We are subject to many laws and governmental regulations, both domestically and internationally, and any adverse regulatory action may materially adversely affect our business, financial condition and results of operations.

Our products are subject to regulation by numerous government agencies, including the FDA and comparable foreign agencies. To varying degrees, each of these agencies requires us to comply with laws and regulations governing the development, design, testing, manufacture, labeling, marketing and distribution of our products. We cannot guarantee that we will be able to obtain marketing clearance or approval for our existing or new products, or enhancements or modifications to existing products, and if we do, such approval may:

 

   

take a significant amount of time;

 

   

require the expenditure of substantial resources;

 

   

involve stringent clinical and pre-clinical testing, as well as post-market surveillance or post-market studies;

 

   

involve modifications or replacements of our products; and

 

   

result in limitations on the indications for use of our products.

We cannot be certain that we will receive required approval or clearance from the FDA and foreign regulatory agencies for our existing products, any new products or modifications to existing products on a timely basis. The failure to receive approval or clearance for our products on a timely basis could have a material adverse effect on our financial condition and results of operations.

Both before and after an approved product is commercially released, we will have ongoing responsibilities under United States, EU, Canadian and Australian regulations. We will also be subject to periodic inspections by the FDA and comparable foreign authorities to determine compliance with regulatory requirements, such as the Quality System Regulation of the FDA, Canada’s Food and Drugs Act and Regulations, medical device reporting regulations, vigilance in reporting of adverse events and regulations regarding notification, corrections and recalls. These inspections can result in inspectional observations or reports, warning letters or other forms of enforcement action. If the FDA or comparable foreign authorities conclude that we are not in compliance with applicable laws or regulations, or that any of our products are ineffective or pose an unreasonable health risk, such authorities could ban these products, suspend or cancel our medical device licenses, impose “stop-sale” and “stop-import” orders, detain or seize adulterated or misbranded products, order a recall, repair, replacement, correction or refund of such products, refuse to approve pending PMA applications or require us to notify health professionals and others that the products present unreasonable risks of substantial harm to the public health. Furthermore, in the EU, Canada and Australia, where we have obtained approval to market our eTNS system for specified indications, we may lose such approval. Discovery of previously unknown problems with a product, manufacturer, or facility, such as previously undiscovered side effects, or design or manufacturing defects, may result in restrictions on the use of our eTNS system, restrictions placed on us or our manufacturers, or withdrawal of the existing regulatory approval of our eTNS system. The FDA or comparable foreign authorities may also impose operating restrictions, enjoin and restrain certain violations of applicable law pertaining to medical devices, assess civil or criminal penalties against our officers, employees or us or recommend criminal prosecution of our company. Adverse regulatory action of a certain magnitude may restrict us from effectively marketing and selling our products. In addition, negative publicity and product liability claims resulting from any adverse regulatory action could have a material adverse effect on our business, financial condition and results of operations.

Foreign governmental regulations have become increasingly stringent and more extensive, and we may become subject to even more rigorous regulation by foreign governmental authorities in the future. Penalties for a company’s noncompliance with foreign governmental regulation could be severe, including revocation or

 

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suspension of a company’s business license and criminal sanctions. In some jurisdictions, such as Germany, any violation of a law related to medical devices is also considered to be a violation of unfair competition law. In such cases, governmental authorities, our competitors and business or consumer associations may then file lawsuits to prohibit us from commercializing our eTNS system in such jurisdictions. Our competitors may also sue us for damages. Any domestic or foreign governmental law or regulation imposed in the future may have a material adverse effect on our business, financial condition and results of operations.

We are also subject to various environmental laws and regulations both within and outside of the United States. Our operations involve the use of substances regulated under environmental laws, primarily those used in manufacturing and sterilization processes. We cannot completely eliminate the risk of accidental contamination or injury from the use, storage, handling or disposal of these materials. In the event of contamination or injury, we could be held liable for damages that result, and any liability could exceed our resources or the insurance we carry to cover such claims. Failure to comply with environmental protection laws and regulations could have a material adverse impact on our business, financial condition and results of operations.

Healthcare reform legislation and other administration and legislative proposals could have a material adverse effect on our business, financial condition, results of operations.

The Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act of 2010, or, together, the Affordable Care Act, were enacted in March 2010. As a U.S.-based company with significant anticipated sales in the United States if we receive the necessary FDA approval for any of our products, these health care reform laws will materially impact our business. Certain provisions of the Affordable Care Act will become effective in future years and the administrative agencies responsible for issuing regulations that implement some aspects of the laws have yet to do so. Accordingly, the consequences of this legislation are not yet fully understood. The Affordable Care Act imposes, among other things, an annual excise tax of 2.3% on any entity that manufactures or imports medical devices offered for sale in the United States beginning in 2013. This new tax may adversely affect our gross margins, results of operations and cash flows. The Affordable Care Act also contains a number of provisions aimed at improving quality and decreasing costs in the Medicare program. It is uncertain at this point what negative unintended consequences these provisions will have on patient access to new technologies and what impact these provisions will have on Medicare reimbursement rates. The Medicare provisions include value-based payment programs, increased funding for comparative effectiveness research, reduced hospital payments for avoidable readmissions and hospital acquired conditions, and pilot programs to evaluate alternative payment methodologies that promote care coordination (such as bundled physician and hospital payments). Additionally, the Affordable Care Act includes a reduction in the annual rate of inflation for hospitals that began in 2011 and the establishment of an independent payment advisory board to recommend ways of reducing the rate of growth in Medicare spending beginning in 2014. Recently, there have been challenges accompanying the implementation of the individual requirement to buy coverage under the Affordable Care Act. The impact of this implementation and any similar challenges associated with the implementation of any other parts of the Affordable Care Act on the overall insured population in the United States have not yet been fully realized. We cannot predict what additional healthcare programs and regulations will be implemented at the federal or state level, or the effect of the recent or any future legislation or regulation on our business. However, any changes that lower potential reimbursement for our products, reduce the potential number of people eligible for reimbursement for the use of our products, or otherwise reduce demand for our products could adversely affect our business, financial condition and results of operations.

In addition, the Physician Payment Sunshine Act, or the Sunshine Act, was enacted by the U.S. Congress as part of the Affordable Care Act to increase the transparency of manufacturers’ interactions with U.S. healthcare providers. Pursuant to the Sunshine Act, as implemented by CMS, we are required by law to annually disclose certain information about payments and other transfers of value to U.S. physicians and teaching hospitals effective August 1, 2013. Also, certain states have enacted similar transparency laws that require annual disclosure of payments and other transfers of value to healthcare professionals licensed in those states. A few

 

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states have also enacted gift prohibition laws that prohibit or restrict certain interactions between medical device manufacturers and health care professionals licensed in those states. Failure to comply with these requirements could result in significant penalties and adversely affect our business, financial condition and results of operations.

Certain state governments have also enacted legislation aimed at increasing transparency of our interactions with healthcare professionals. As a result, we are required by law to disclose payments and other transfers for value to healthcare professionals licensed by certain states, and will be required to do the same at the federal level in the future. Any failure to comply with enhanced legal and regulatory requirements could have a material adverse effect on our business, financial condition and results of operations.

If we do not continue to comply with applicable laws and regulations, we could lose our ability to market and sell our products or be subject to substantial fines or other penalties.

The design, pre-clinical and clinical testing, manufacturing, labeling, sale, distribution, servicing and promotion of our eTNS system and any other product candidates are subject to extensive and rigorous laws and regulations, including regulations from the U.S. Department of Health and Human Services (related to Medicare, Medicaid, the Health Insurance Portability and Accountability Act of 1996, or HIPAA, and the FDA) and comparable state and international agencies. If we receive approval to market our eTNS system or any other product candidate in the United States, we must ensure that our marketing and sales practices comply with all applicable laws and regulations. Commercial distribution in foreign countries is also subject to regulatory approvals from the appropriate authorities in such countries.

The process of obtaining FDA and other required regulatory approvals is lengthy, expensive and uncertain. Moreover, regulatory approvals may include restrictions on the indicated uses for which a product may be marketed. Failure to comply with applicable regulatory requirements can result in, among other things, warning letters, fines, civil money penalties, suspension or withdrawal of approvals, seizures or recalls of products, operating restrictions, injunctions and criminal prosecution. Adverse results in post-approval studies may result in limitations on or withdrawal of previously granted approvals. Furthermore, changes in existing regulations or adoption of new regulations could prevent us from obtaining, or affect the timing of, future regulatory approvals. We may not be able to obtain additional future regulatory approvals on a timely basis or at all. Delays in receipt of, or failure to receive, such future approvals, suspension or withdrawal of previously received approvals, or recalls of products could severely harm our ability to market and sell our current and future products. Also, any adverse regulatory action, depending on its breadth, may have a material adverse effect our business, financial condition and results of operations.

Failure to provide the quarterly reports or final report required under the conditions of our Health Canada license may result in the suspension of our license to market our eTNS system in Canada, and even if we fulfill these reporting obligations, Health Canada may reclassify the risk class associated with our eTNS system or may suspend our device license. In any such case, our ability to generate revenues in Canada could be materially adversely affected.

Our eTNS system received a Class II medical device license, with conditions, from Health Canada for the treatment of DRE, MDD and TRD for adults and children nine years and older. It is unusual for Health Canada to issue a Class II medical device license with conditions. The original condition attached to this license required that we provide to Health Canada, before June 1, 2014, a clinical report discussing Phase III trial results from a larger patient population as additional evidence of clinical safety and efficacy of our eTNS system for the approved indications. On August 6, 2013, in response to our request submitted on July 30, 2013, Health Canada agreed to extend this clinical report deadline to June 1, 2016, provided that we submit quarterly updates to Health Canada on patient enrollment and any safety issues that may occur in the Phase III trial. Our quarterly reporting obligation commenced on January 15, 2014 and concludes on April 15, 2016, with the final clinical report discussing Phase III

 

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trial results due June 1, 2016. Failure to provide the quarterly reports by these dates or failure to provide the final clinical report by June 1, 2016 may result in the suspension of our Health Canada license.

Even if we provide these reports by these deadlines, our eTNS system may not continue to be licensed because Health Canada may suspend our license if it is not satisfied with the evidence that we provide regarding the clinical safety and efficacy of our eTNS system. Further, Health Canada may reclassify the risk class associated with our eTNS system or may suspend our device license for many reasons, including:

 

   

our eTNS may not be demonstrated to be safe or effective to Health Canada’s satisfaction;

 

   

the manufacturing process or facilities we use may not meet applicable requirements; and

 

   

changes in Health Canada approval policies or adoption of new regulations may require additional data.

Any failure to maintain our Health Canada license for our eTNS system as treatment for DRE and MDD could materially adversely affect our ability to generate revenues in Canada. Further, any delay in or failure to obtain or maintain a Health Canada license for our eTNS system as treatment for any other indications, or any delay in or failure to obtain or maintain a Health Canada license for any other product we may develop, could also have a material adverse effect on our ability to generate revenues in Canada.

The FDA-proposed draft guidance for an Expedited Access PMA program for medical devices may never be finalized and the program may not be implemented. Even if the program is implemented, our eTNS system may not qualify for the program.

In April 2014, the FDA proposed draft guidance for an Expedited Access PMA program for medical devices, or EAP. The draft guidance was subject to a 90-day comment period and may never be finalized. Even if the FDA proposed draft guidance is finalized, it will not create or confer any rights for or on any person and does not operate to bind the FDA or the public but rather only represents the FDA’s current views with respect to this topic. The FDA may never implement this EAP and the FDA will only implement the EAP if such program satisfies the requirements of the applicable statutes and regulations. Furthermore, even if the EAP is implemented, the FDA may determine that our eTNS system is not a candidate for the program or we may determine that we do not wish to apply for this program. Additionally, even if our eTNS system is deemed a candidate for the program and we achieve clinical results sufficient to receive conditional PMA approval thereunder permitting us to market and sell our eTNS system in the United States, our final pivotal trial results may not support such approval and could cause the FDA to withdraw such conditional approval.

The medical device industry is experiencing greater scrutiny and regulation by governmental authorities and is the subject of numerous investigations, often involving marketing and other business practices. These investigations could result in the commencement of civil and criminal proceedings; lead to substantial fines, penalties and administrative remedies; divert the attention of our management; lead to greater governmental regulation in the future; impose administrative costs and have a material adverse effect on our business, financial condition and results of operations.

We are subject to certain laws and regulations, including the federal Anti-Kickback Statute, the federal False Claims Act, or the FCA, HIPAA and the FCPA, which govern the sales and marketing practices of healthcare companies. The federal Anti-Kickback Statute, which prohibits, among other things, persons from knowingly and willfully soliciting, offering, receiving or providing remuneration, directly or indirectly, in cash or in kind, to induce or reward, or in return for, either the referral of an individual for, or the purchase, order or recommendation of, any good or service, for which payment may be made under federal healthcare programs such as Medicare or Medicaid. The Anti-Kickback Statute contains both civil and criminal sanctions, which are enforced by the Office of the Inspector General of the U.S. Department of Health and Human Services, or the OIG, and the U.S. Department of Justice, or the DOJ. Over the past several years, the U.S. government has accused an increasing number of pharmaceutical and medical device manufacturers of violating the federal Anti-Kickback Statute and the FCPA based on certain marketing and sales practices and compensation arrangements

 

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with referral sources. The FCPA prohibits payments or the provision of anything of value to foreign officials for the purpose of obtaining or keeping business. Pharmaceutical and medical device manufacturers also have been accused of alleged violations of the FCA, which imposes civil liability (including substantial monetary penalties and damages) on any person or corporation that (1) knowingly presents a false or fraudulent claim for payment to the U.S. government, (2) knowingly uses a false record or statement to obtain payment or (3) engages in a conspiracy to defraud the federal government to obtain allowance for a false claim.

Under the whistleblower provisions of the FCA, private parties may bring actions on behalf of the U.S. government. These private parties are entitled to share in any amounts recovered by the government through trial or settlement. Both direct enforcement activity by the government and whistleblower lawsuits have increased significantly in recent years and have increased the risk that we may be forced to defend a prosecution under the federal Anti-Kickback Statute or the FCPA, be forced to defend against a false claims action, be liable for monetary fines, or be excluded from the Medicare and Medicaid programs as a result of an investigation resulting from an enforcement action or a whistleblower case. We are subject to HIPAA, which imposes criminal and civil liability for executing a scheme to defraud any healthcare benefit program or making false statements relating to healthcare matters. Under HIPAA, as amended by the Health Information Technology for Economic and Clinical Health Act of 2009, or HITECH, and their respective implementing regulations, subjects obligations on covered healthcare providers, health plans and healthcare clearinghouses, as well as their business associates that create, receive, maintain or transmit individually identifiable health information for or on behalf of a covered entity, with respect to safeguarding the privacy, security and transmission of individually identifiable health information.

Analogous state and foreign laws and regulations, such as state anti-kickback and false claims laws, may also apply to our sales and marketing activities. We anticipate that the government will continue to scrutinize our industry closely and that we will continue to be subject to rigorous regulation by governmental authorities in the future. Efforts to ensure that our business arrangements with third parties will comply with applicable healthcare laws and regulations may involve substantial costs. It is possible that governmental authorities will conclude that our business practices do not comply with current or future statutes, regulations or case law involving applicable fraud and abuse or other healthcare laws and regulations. If our operations are found to be in violation of any of these laws or any other governmental regulations that may apply to us, we may be subject to significant civil, criminal and administrative penalties, including, without limitation, adverse regulatory action, which, in certain instances, may restrict us from effectively marketing and selling our products damages, fines, imprisonment, exclusion from participation in government healthcare programs and the curtailment or restructuring of our operations, any of which would have a material adverse effect on our business. In addition, negative publicity resulting from any adverse regulatory action could have a material adverse effect on our business, financial condition and results of operations. Additionally, penalties for a company’s noncompliance with governmental regulation could be severe, including revocation or suspension of a company’s business license and criminal sanctions. If any of the physicians or other providers or entities with whom we do business is found not to be in compliance with applicable laws, they may be subject to similar sanctions, which could also materially adversely affect our business. Any domestic or foreign governmental law or regulation imposed in the future may have a material adverse effect on our business, financial condition and results of operations.

Cost containment pressures and domestic and foreign legislative or administrative reforms resulting in restrictive reimbursement practices of third-party payers or preferences for alternate therapies could decrease the demand for our products from healthcare providers and the prices they are willing to pay for those products.

Major third-party payers for healthcare services in the United States and abroad continue to work to contain healthcare costs. The introduction of cost containment incentives, combined with closer scrutiny of healthcare expenditures by both private health insurers and employers, could result in increased discounts and contractual adjustments to healthcare provider charges for services performed. Initiatives to limit the growth of healthcare costs, including price regulation, are also underway in several countries. Implementation of healthcare reforms in the United States and in significant overseas markets such as Germany, and in other countries may limit the price of, or the level at which, reimbursement is provided for our products and adversely affect both our pricing

 

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flexibility and the demand for our products. Healthcare providers may respond to such cost-containment pressures by substituting lower cost products or other therapies for our products.

Legislative or administrative reforms to the U.S. or international reimbursement systems that significantly reduce reimbursement for the cost of eTNS treatment, or adverse decisions relating to our products by administrators of such systems in coverage or issues, would have an adverse impact on the products purchased by our customers and the prices our customers are willing to pay for them. This in turn would have an adverse effect on our business, financial condition and results of operations.

We plan to operate in multiple regulatory environments that require costly and time-consuming approvals.

Even if we obtain regulatory approvals to commercialize our eTNS system or any other product that we may develop, sales of our products across different jurisdictions will be subject to regulatory requirements that vary from country to country. The time and cost required to obtain approvals from these countries may be longer or shorter than that required for FDA approval, and requirements for licensing may differ from those of the FDA. Laws and regulations regarding the manufacture and sale of our products are subject to future changes, as are administrative interpretations and policies of regulatory agencies. If we fail to comply with applicable foreign, federal, state or local market laws or regulations, we could be subject to enforcement actions. Enforcement actions could include product seizures, recalls, withdrawal of clearances or approvals, and civil and criminal penalties, which in each case could have a material adverse effect on our business, financial condition and results of operations.

Risks Related to Our Intellectual Property

If we are unable to maintain and enforce our proprietary rights, we may not be able to compete effectively or operate profitably.

Our commercial success will depend, in part, on obtaining and maintaining patent, trade secret, trademark and other intellectual property protection of our proprietary technology and information as well as successfully defending against third-party challenges to our proprietary technology and information. We will be able to protect our proprietary technology and information from use by third parties only to the extent that valid and enforceable patents, trade secrets, trademarks or other intellectual property protection cover them and we have exclusive rights to utilize them.

Our commercial success will continue to depend in part on the patent rights we own, the patent rights we have licensed, the patent rights of our collaborators and suppliers and the patent rights we plan to obtain related to future products we may market. Our success also depends on our and our licensors’, collaborators’ and suppliers’ ability to maintain and defend these patent rights against third-party challenges to their validity, scope, ownership, inventorship or enforceability. Further, we do not control the patent prosecution of our licensed patent applications. There is a risk that our licensors will not devote the same resources or attention to the prosecution of the licensed patent applications as we would if we controlled the prosecution of the patent applications, and the resulting patent protection, if any, may not be as strong or comprehensive as if we had prosecuted the applications ourselves. In addition, because UCLA owns much of the intellectual property on which our eTNS system is based, we may depend upon UCLA to enforce these intellectual property rights against third parties. While our licensing agreements with UCLA contain obligations by UCLA to assist us in the enforcement of these intellectual property rights, it may not do so on a timely basis or at all or it may not devote sufficient resources to such enforcement efforts. Depending upon the circumstances of the litigation, we may be required to pay our own litigation legal fees and costs and those of UCLA.

The patent positions of medical device companies can be highly uncertain and involve complex legal and factual questions for which important legal principles remain unresolved. No consistent policy regarding the breadth of claims allowed in such companies’ patents has emerged to date in the United States. The patent situation outside the United States is even more uncertain. Changes in either the patent laws or in interpretations of patent laws in the United States or other countries may diminish the value of our intellectual property.

 

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Accordingly, we cannot predict the breadth of claims that may be allowed or enforced in our patents or in third-party patents. For example:

 

   

we or our licensors might not have been the first to make the inventions covered by each of our pending patent applications and issued patents;

 

   

we or our licensors might not have been the first to file patent applications for these inventions;

 

   

others may independently develop similar or alternative technologies or duplicate any of our technologies;

 

   

it is possible that none of our pending patent applications or the pending patent applications of our licensors will result in issued patents;

 

   

it is possible that our patents or the patents of our licensors, or any patents issuing from pending patent applications, will be found to be invalid, unenforceable, owned by others or invented by others;

 

   

as the patent office rules require a duty of disclosure of material, non-cumulative references, failure to do so can result in a patent being found unenforceable, and it is possible that an undisclosed reference could be found to be material and non-cumulative in the context of litigation;

 

   

our issued patents and the issued patents of our licensors may not provide a basis for commercially viable products, or may not provide us with any competitive advantages, or may be challenged and invalidated by third parties;

 

   

we may not develop additional proprietary technologies or product candidates that are patentable; or

 

   

the patents of others may have an adverse effect on our business.

We also rely on trade secrets to protect our technology, especially where we do not believe patent protection is appropriate or obtainable. However, trade secrets are difficult to protect. While we seek to protect confidential information, in part, by confidentiality agreements with our employees, consultants, contractors, or scientific and other advisors, they may unintentionally or willfully disclose our information to competitors. If we were to enforce a claim that a third party had illegally obtained and was using our trade secrets, it would be expensive and time consuming, and the outcome would be unpredictable. In addition, courts outside the United States are sometimes less willing to protect trade secrets.

If we are not able to defend the patent or trade secret protection position of our technologies and product candidates, then we will not be able to exclude competitors from developing or marketing competing products, and we may not generate enough revenue from product sales to justify the cost of development of our product candidates and to achieve or maintain profitability.

We depend on certain technologies that are licensed to us. If we fail to comply with our obligations in our intellectual property licenses with third parties, we could lose rights that are important to our business.

We rely on licenses from UCLA in order to be able to use various proprietary technologies that are material to our business, including our eTNS system. We do not own the patents that underlie these licenses. Our rights to use these technologies and employ the inventions claimed in the licensed patents are subject to the continuation of and compliance with the terms of those licenses, which include diligence, development and commercialization timelines, milestone payment, royalty, insurance and other obligations on us. Under our existing licensing agreements, we are obligated to pay royalties on net product sales of product candidates or related technologies to the extent they are covered by such agreements. If we fail to comply with our obligations under current or future licensing agreements, our counterparties may have the right to terminate these agreements, in which event we might not be able to develop, manufacture or market any product that is covered by these licensing agreements or may face other penalties under the agreements. Such an occurrence could materially adversely affect the value of product candidates being developed using rights licensed to us under any such agreement, including our eTNS system. Termination of these licensing agreements or reduction or elimination of our rights

 

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under these agreements may result in our having to negotiate new agreements with less favorable terms, or cause us to lose our rights under these agreements, including our rights to important intellectual property or technology, which could have a material adverse effect on our business, financial condition and results of operations.

We may engage in litigation to protect our intellectual property and other proprietary rights, causing us to suffer significant expenses.

There has been substantial litigation regarding patent and other intellectual property rights in the medical device industry. Litigation, which could result in substantial cost to and diversion of effort by us, may be necessary to enforce patents issued or licensed to us, to protect trade secrets or know-how owned by us, or to determine the scope and validity of the proprietary rights of others. Adverse determinations in litigation could subject us to significant liabilities to third parties, could require us to seek licenses from third parties and could prevent us from manufacturing, selling or using our eTNS system, our proposed sTNS system or products we may develop using TNS technology, any of which could have a material adverse effect on our business, financial condition and results of operations.

If we are sued for infringing intellectual property rights of other parties, such litigation will be costly and time consuming, and an unfavorable outcome would have a material adverse effect on our business, financial condition and results of operations.

Although we believe that we would have valid defenses to any allegations that our current product candidates, production methods and other activities infringe the valid and enforceable intellectual property rights of any third parties of which we are aware, we cannot be certain that a third party will not challenge our position in the future. It is possible that other parties may own patent rights that might be infringed by our products or other activities. There has been, and we believe that there will continue to be, significant litigation and demands for licenses in our industry regarding patent and other intellectual property rights. Our competitors or other patent holders may assert that our products and the methods we employ are covered by their patents. These parties could bring claims against us that would cause us to incur substantial expenses and, if successful against us, could cause us to pay substantial damages. Further, if a patent infringement suit were brought against us, we could be forced to stop or delay research, development, manufacturing, use or sales of the product or product candidate that is the subject of the suit.

Pursuant to our licensing agreement with UCLA, as amended, UCLA granted us a worldwide exclusive license under certain patents and patent applications generally relating to transcutaneous and subcutaneous bilateral neurostimulation for the treatment of neuropsychiatric and neurological disorders. However, as a result of patent infringement claims, or in order to avoid potential claims, we may choose to seek, or be required to seek, a license from the third party and would most likely be required to pay license fees, royalties or both. These licenses may not be available on acceptable terms, or at all. Even if we were able to obtain a license, the rights may be non-exclusive, which would give our competitors access to the same intellectual property. Ultimately, we could be prevented from commercializing a product, or be forced to cease some aspect of our business operations if, as a result of actual or threatened patent infringement claims, we or our collaborators are unable to enter into licenses on acceptable terms. This could have a material adverse effect on our business, financial condition and results of operations.

We may be subject to damages resulting from claims that our employees or we have wrongfully used or disclosed alleged trade secrets of their former employers.

Some of our employees were previously employed at universities or other biotechnology or medical device companies. Although no claims against us are currently pending, we may be subject to claims that these employees or we have inadvertently or otherwise used or disclosed trade secrets or other proprietary information of their former employers. Litigation may be necessary to defend against these claims. If we fail to successfully defend against such claims, in addition to paying monetary damages, we may lose valuable intellectual property

 

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rights or personnel. A loss of key research personnel or their work product could hinder or prevent our ability to commercialize certain potential products. Even if we are successful in defending against these claims, litigation could result in substantial costs and be a distraction to management. Any such event could severely harm our business, financial condition and results of operations.

Periodic maintenance fees, renewal fees, annuity fees and various other governmental fees on patents or applications will be due to be paid to the United States Patent and Trademark Office and various foreign governmental patent agencies in several stages over the lifetime of the patents or applications.

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 similar provisions during the patent application process. We intend to employ professionals to help us comply, and in many cases, an inadvertent lapse can be cured by payment of a late fee or by other means in accordance with the applicable rules. However, there are situations in which noncompliance can result in abandonment or lapse of the patent or patent application, resulting in partial or complete loss of patent rights in the relevant jurisdiction. If this occurs, our competitors might be able to enter the market, which could have a material adverse effect on our business, financial condition and results of operations.

Risks Related to This Offering and Our Common Stock

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. Although we expect that our common stock will be approved for listing on The NASDAQ Global Market, or NASDAQ, an active trading market may not develop following the completion of this offering or, if developed, may not be sustained. The initial price to public for our common stock was determined through negotiations with the underwriters, and the negotiated price may not be indicative of the market price of the common stock after the offering. Based on the estimated offering price of our common stock in this offering, our initial market capitalization is expected to be modest and as a result our common stock may not be an attractive investment for a number of institutional investors, which could reduce the trading activity in our stock. The lack of an active trading 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 trading market may also reduce the fair market value or the trading price of your shares. An inactive trading market may also impair our ability to raise capital to continue to fund operations through equity offerings and may impair our ability to acquire other companies or technologies by using our shares as consideration.

Our stock price may be volatile, and you may not be able to resell shares of our common stock at or above the price you paid.

Our stock price after the completion of this offering may be highly volatile and subject to wide fluctuations in response to various factors, some of which are beyond our control, and this volatility may be enhanced if the trading market for our common stock is not very active. These factors include those discussed elsewhere in this section of the prospectus and others such as:

 

   

failure to obtain or delays in obtaining product approvals or clearances from the FDA or regulators outside of the United States;

 

   

successful commercialization of our eTNS system or other products we may develop;

 

   

adverse regulatory or reimbursement decisions or announcements;

 

   

a slowdown in the medical device industry or the general economy;

 

   

actual or anticipated quarterly or annual variations in our results of operations or those of our competitors;

 

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actual or anticipated changes in our growth rate relative to our competitors;

 

   

changes in earnings estimates or recommendations by securities analysts;

 

   

fluctuations in the values of companies perceived by investors to be comparable to us;

 

   

announcements by us or our competitors of new products or services, significant contracts, commercial relationships, capital commitments or acquisitions;

 

   

competition from existing technologies and products or new technologies and products that may emerge;

 

   

the entry into, modification or termination of agreements with our sales representatives or distributors;

 

   

developments with respect to intellectual property rights;

 

   

sales, or the anticipation of sales, of our securities by us, our insiders or our other stockholders, including upon the expiration of contractual lock-up agreements;

 

   

our ability to develop and market new and enhanced products on a timely basis;

 

   

our commencement of, or involvement in, litigation or other disputes; and

 

   

additions or departures of key management or technical personnel, or failure to attract such personnel.

In recent years, the stock markets generally have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many companies, and such fluctuations have often been unrelated or disproportionate to the operating performance of those companies. Broad market and industry factors may significantly 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 common stock shortly following this offering. If the market price of shares of our common stock after this offering does not ever exceed the initial price to public, you may not realize any return on your investment in us and may lose some or all of your investment.

In addition, class action litigation has often been instituted against companies whose securities have experienced periods of volatility in market price. Securities litigation brought against us following volatility in our stock price, regardless of the merit or ultimate results of such litigation, could result in substantial costs, which would hurt our financial condition and results of operations and divert management’s attention and resources from our business.

Securities analysts may not publish favorable research or reports about our business or may publish no information at all, which could cause our stock price or trading volume to decline.

If a trading market for our common stock develops, the trading market will be influenced to some extent by the research and reports that industry or financial analysts publish about us and our business. We do not control these analysts. As a newly public company that may have a modest market capitalization, we may be slow to attract research coverage and the analysts who publish information about our common stock will have had relatively little experience with our company, which could affect their ability to accurately forecast our results and could make it more likely that we fail to meet their estimates. If we obtain securities or industry analyst coverage, and any of the analysts who cover us provide inaccurate or unfavorable research or issue an adverse opinion regarding our stock price, our stock price could decline. If one or more of these analysts cease coverage of our company or fail to publish reports covering us regularly, we could lose visibility in the market, which in turn could cause our stock price or trading volume to decline.

We are an “emerging growth company” and we cannot be certain if the reduced disclosure requirements applicable to “emerging growth companies” will make our common stock less attractive to investors.

We are an “emerging growth company,” as defined in the JOBS Act, and we may take advantage of certain exemptions and relief from various reporting requirements that are applicable to other public companies that are

 

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not “emerging growth companies.” In particular, while we are an “emerging growth company” (1) we will not be required to comply with the auditor attestation requirements of Section 404(b) of the Sarbanes-Oxley Act, (2) we will be exempt from any rules that may be adopted by the Public Company Accounting Oversight Board requiring mandatory audit firm rotations or a supplement to the auditor’s report on financial statements, (3) we will be subject to reduced disclosure obligations regarding executive compensation in our periodic reports and proxy statements and (4) we will not be required to hold nonbinding advisory votes on executive compensation or stockholder approval of any golden parachute payments not previously approved. In addition, while we are an “emerging growth company,” we are allowed to delay compliance with new financial accounting standard until such standard is generally applicable to private companies. However, we have elected not to avail ourselves of this extended transition period under the JOBS Act, which means that the financial statements included in this prospectus, as well as any financial statements that we file in the future, will be subject to new or revised accounting standards generally available to public companies. Our election not to take advantage of the extended transition period is irrevocable.

We will remain an “emerging growth company” until the earlier of (1) the last day of the fiscal year following the fifth anniversary of the completion of this offering, (2) the last day of the fiscal year in which we have total annual gross revenue of at least $1.0 billion, (3) the date on which we are deemed to be a large accelerated filer (this means the market value of our common stock that is held by non-affiliates exceeds $700 million as of the end of the second quarter of that fiscal year), and (4) the date on which we have issued more than $1.0 billion in non-convertible debt securities during the prior three-year period.

We cannot assure you that we will be able to take advantage of all of the benefits of the JOBS Act. In addition, investors may find our common stock less attractive if we rely on the exemptions and relief granted by the JOBS Act. 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 decline or become more volatile.

Our management might apply the proceeds from this offering in ways that do not increase the value of your investment.

Our management will have broad discretion as to the use of the net proceeds from this offering and you will be relying on the judgment of our management regarding the application of these proceeds. We might apply the net proceeds of this offering in ways with which you do not agree, or in ways that do not yield a favorable return. If our management applies these proceeds in a manner that does not yield a significant return, if any, on our investment of these net proceeds, it would adversely affect the market price of our common stock. Until the proceeds are used, we may also invest the net proceeds from this offering in a manner that does not produce income or that loses value. For more information on our planned use of proceeds, please see the section of this prospectus captioned “Use of Proceeds.”

Future sales of shares by existing stockholders could cause our stock price to decline.

If our existing stockholders sell, or indicate an intention to sell, substantial amounts of our common stock in the public market after the lock-up and other legal restrictions on resale discussed in this prospectus lapse, the trading price of our common stock could decline. These sales, or the possibility that these sales may occur, also might make it more difficult for us to sell equity securities in the future at a time and at a price that we deem appropriate. Based on shares outstanding as of June 30, 2014, upon completion of this offering, we will have outstanding a total of             shares of common stock, assuming no exercise of the underwriters’ over-allotment option. Of these shares, only the shares of common stock sold in this offering by us will be freely tradable, without restriction or further registration under the Securities Act of 1933, as amended, or the Securities Act, in the public market. Our underwriters, however, may, in their sole discretion, permit our officers, directors and other current stockholders who are subject to the contractual lock-up to sell shares prior to the expiration of the lock-up agreements.

 

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We expect that the lock-up agreements pertaining to this offering will expire 180 days from the date of this prospectus. After the lock-up agreements expire, based on shares outstanding as of                    , 2014, up to an additional             shares of common stock will be eligible for sale in the public market,             of which are held by directors, executive officers and other affiliates and will be subject to volume limitations under Rule 144 under the Securities Act and various vesting agreements. In addition,                  shares of our common stock issuable upon the exercise of outstanding stock options,                  shares of our common stock issuable upon the exercise of outstanding warrants, and the             shares reserved for future issuance under the 2010 Plan and the 2014 Plan will become eligible for sale in the public market to the extent permitted by the provisions of various vesting agreements, the lock-up agreements and Rules 144 and 701 promulgated under the Securities Act. If these additional shares 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.

In addition, we may issue additional shares of common stock or other equity or debt securities convertible into common stock in connection with a future financing, acquisition, litigation settlement, employment arrangement or otherwise. Any such issuance could result in substantial dilution to our existing stockholders and could cause our stock price to decline.

Our auditors identified a material weakness in our internal control over financial reporting as of December 31, 2012, which has been remediated. If we fail to maintain proper and effective internal controls, our ability to produce accurate and timely financial statements could be impaired, which could harm our operating results, our ability to operate our business and investors’ views of us and have a material adverse effect on our common stock price.

Although as of December 31, 2013 we had no material weakness in our internal control over financial reporting, as of December 31, 2012, our auditors identified an adjustment related to inventories capitalized on our balance sheet prior to receipt of marketing approval. The adjustment to reduce the carrying amount of inventory resulted from the lack of a designed control to perform a detailed inventory recoverability analysis on a timely basis. As a result of this audit finding, we have determined that we had a material weakness relating to our internal control over financial reporting as of December 31, 2012. A material weakness in internal control over financial reporting 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 our annual or interim financial statements will not be prevented or detected on a timely basis by our internal controls.

In order to ensure inventory is carried at its net recoverable amount and to prevent this error from recurring, during 2013 we established an internal control requiring the preparation, review and approval of an analysis of the net realizability of inventory prior to the issuance of our 2012 consolidated financial statements. This internal control provides for detailed assessments of the recoverability of inventory at the time of purchase as well as subsequent expectations related to utilizing such inventory for clinical purposes and recoverability through commercial sale. This internal control is performed on a quarterly basis and is executed by personnel with knowledge of accepted accounting practices common to our industry. As such, we believe we have fully remediated the material weakness.

Despite our efforts, similar or different material weaknesses may be identified in the future, and we may be unable to conclude on an ongoing basis that we have effective internal control over financial reporting in accordance with Section 404 and the related rules and regulations of the SEC when required. If we cannot in the future favorably assess, or our independent registered public accounting firm, when required, is unable to provide an unqualified attestation report on, the effectiveness of our internal control over financial reporting, investor confidence in the reliability of our financial reports may be adversely affected, which could have a material adverse effect on our stock price. In addition, any failure to report our financial results on an accurate and timely basis could result in sanctions, lawsuits, delisting of our shares from NASDAQ or other adverse consequences that would materially harm our business.

 

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We will incur significant costs as a result of operating as a public company and our management expects to devote substantial time to public company compliance programs.

As a public company, we will incur significant legal, accounting and other expenses due to our compliance with regulations and disclosure obligations applicable to us, including compliance with the Sarbanes-Oxley Act, as well as rules implemented by the Securities and Exchange Commission, or the SEC, and NASDAQ. The SEC and other regulators have continued to adopt new rules and regulations and make additional changes to existing regulations that will require our compliance. In July 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act, or the Dodd-Frank Act, was enacted. There are significant corporate governance and executive compensation related provisions in the Dodd-Frank Act that have required the SEC to adopt additional rules and regulations in these areas. Stockholder activism, the current political environment, and the current high level of government intervention and regulatory reform may lead to substantial new regulations and disclosure obligations, which may lead to additional compliance costs and impact, in ways we cannot currently anticipate, the manner in which we operate our business. Our management and other personnel will devote a substantial amount of time to these compliance programs and monitoring of public company reporting obligations and as a result of the new corporate governance and executive compensation related rules, regulations, and guidelines prompted by the Dodd-Frank Act and further regulations and disclosure obligations expected in the future, we will likely need to devote additional time and costs to comply with such compliance programs and rules. These rules and regulations will cause us to incur significant legal and financial compliance costs and will make some activities more time-consuming and costly.

To comply with the requirements of being a public company, we may need to undertake various actions, including implementing new internal controls and procedures and hiring new accounting staff. The Sarbanes-Oxley Act requires that we maintain effective disclosure controls and procedures and internal control over financial reporting. We are continuing to develop and refine our disclosure controls and other procedures that are designed to ensure that information required to be disclosed by us in the reports that we will file with the SEC is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms, and that information required to be disclosed in reports under the Securities Exchange Act of 1934, or the Exchange Act, is accumulated and communicated to our principal executive and financial officers. Our current controls and any new controls that we develop may become inadequate and weaknesses in our internal control over financial reporting may be discovered in the future. Any failure to develop or maintain effective controls could adversely affect the results of periodic management evaluations and annual independent registered public accounting firm attestation reports regarding the effectiveness of our internal control over financial reporting that we may be required to include in our periodic reports we will file with the SEC under Section 404 of the Sarbanes-Oxley Act, harm our operating results, cause us to fail to meet our reporting obligations, or result in a restatement of our prior period financial statements. In the event that we are not able to demonstrate compliance with the Sarbanes-Oxley Act, that our internal control over financial reporting is perceived as inadequate or that we are unable to produce timely or accurate financial statements, investors may lose confidence in our operating results and the price of shares of our common stock could decline. In addition, if we are unable to continue to meet these requirements, we may not be able to remain listed on NASDAQ.

We are not currently required to comply with the SEC rules that implement Section 404 of the Sarbanes-Oxley Act, and are therefore not yet required to make a formal assessment of the effectiveness of our internal control over financial reporting for that purpose. Upon becoming a public company, we will be required to comply with certain of these rules, which will require management to certify financial and other information in our quarterly and annual reports and provide an annual management report on the effectiveness of our internal control over financial reporting commencing with our second annual report. This assessment will need to include the disclosure of any material weaknesses in our internal control over financial reporting identified by our management or our independent registered public accounting firm. We are just beginning the costly and challenging process of compiling the system and processing documentation needed to comply with such requirements. We may not be able to complete our evaluation, testing and any required remediation in a timely fashion. During the evaluation and testing process, if we identify one or more material weaknesses in our internal control over financial reporting, we will be unable to assert that our internal control over financial reporting is effective.

 

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Our independent registered public accounting firm may not be required to formally attest to the effectiveness of our internal control over financial reporting until the later of our second annual report or the first annual report required to be filed with the SEC following the date we are no longer an “emerging growth company” as defined in the JOBS Act, depending on whether we choose to rely on certain exemptions set forth in the JOBS Act. We cannot assure you that there will not be material weaknesses or significant deficiencies in our internal controls in the future. If we are unable to assert that our internal control over financial reporting is effective, or if our independent registered public accounting firm is unable to express an opinion on the effectiveness of our internal control over financial reporting, we could lose investor confidence in the accuracy and completeness of our financial reports, which could have a material adverse effect on the price of our common stock.

If the ownership of our common stock continues to be highly concentrated, it may prevent you and other stockholders from influencing significant corporate decisions and may result in conflicts of interest that could cause our stock price to decline.

Our executive officers, directors and their affiliates will beneficially own or control approximately     % of the outstanding shares of our common stock (after giving effect to the exercise of all outstanding vested and unvested options and warrants), following the completion of this offering. Accordingly, these executive officers, directors and their affiliates, acting as a group, will have substantial influence over the outcome of corporate actions requiring stockholder approval, including the election of directors, any merger, consolidation or sale of all or substantially all of our assets or any other significant corporate transactions. These stockholders may also delay or prevent a change of control of us, even if such a change of control would benefit our other stockholders. The significant concentration of stock ownership may adversely affect the trading price of our common stock due to investors’ perception that conflicts of interest may exist or arise.

Anti-takeover provisions in our charter documents and under Delaware law could make an acquisition of us, which may be beneficial to our stockholders, more difficult and may prevent attempts by our stockholders to replace or remove our current management.

Provisions of our amended and restated certificate of incorporation and amended and restated bylaws to be effective immediately prior to the completion of this offering may delay or discourage transactions involving an actual or potential change in our control or change in our management, including transactions in which stockholders might otherwise receive a premium for their shares, or transactions that our stockholders might otherwise deem to be in their best interests. Therefore, these provisions could adversely affect the price of our stock. Among other things, the amended and restated certificate of incorporation and amended and restated bylaws will:

 

   

permit our board of directors to issue up to 5,000,000 shares of preferred stock, with any rights, preferences and privileges that our board of directors may designate;

 

   

provide that the authorized number of directors may be changed only by resolution of our board of directors;

 

   

provide that all vacancies, including newly-created directorships, may, except as otherwise required by law or an applicable preferred stockholder agreement, if any, be filled by the affirmative vote of a majority of directors then in office, even if less than a quorum;

 

   

divide our board of directors into three classes;

 

   

provide that, unless otherwise specified in a preferred stockholder agreement, a director may only be removed from the board of directors by a majority vote of the stockholders for cause;

 

   

require that any action to be taken by our stockholders must be effected at a duly called annual or special meeting of stockholders and may not be taken by written consent;

 

   

provide that stockholders seeking to present proposals before a meeting of stockholders or to nominate candidates for election as directors at a meeting of stockholders must provide notice in writing in a timely manner, and meet specific requirements as to the form and content of a stockholder’s notice;

 

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not provide for cumulative voting rights (therefore allowing the holders of a plurality of the shares of common stock entitled to vote in any election of directors to elect all of the directors standing for election, if they should so choose);

 

   

provide that special meetings of our stockholders may be called only by a majority of the members of our board of directors or by our president; and

 

   

provide that stockholders will be permitted to amend the bylaws only with the affirmative vote of the holders of not less than a majority of the total voting power of all of our outstanding securities then entitled to vote generally in the election of directors.

Because we are incorporated in Delaware, we are governed by the provisions of Section 203 of the Delaware General Corporation Law which prohibits stockholders owning in excess of 15% of our outstanding voting stock from merging or combining with us. Although we believe these provisions collectively provide for an opportunity to receive higher bids by requiring potential acquirors to negotiate with our board of directors, they would apply even if the offer may be considered beneficial by some stockholders. In addition, these provisions may frustrate or prevent any attempts by our stockholders to replace or remove our current management by making it more difficult for stockholders to replace members of our board of directors, which is responsible for appointing the members of our management.

 

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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

This prospectus, particularly in the sections captioned “Prospectus Summary,” “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Business,” contains forward-looking statements within the meaning of the federal securities laws, which statements involve substantial risks and uncertainties. In some cases you can identify forward-looking statements because they contain words such as “anticipate,” “believe,” “estimate,” “expect,” “intend,” “may,” “plan” and “project” or the negative of these words or other similar terms or that concern our expectations, strategy, plans or intentions.

Although we believe that we have a reasonable basis for each forward-looking statement contained in this prospectus, we caution you that these statements are based on a combination of facts and factors currently known by us and our expectations of the future, about which we cannot be certain. Forward-looking statements in this prospectus include, but are not limited to, statements about:

 

   

our ability to obtain regulatory approval to market our eTNS system in the United States, and the timing and costs associated with such approval;

 

   

our ability to achieve market acceptance of and, to successfully commercialize, our eTNS system in the EU, Canada, Australia and, assuming we receive the necessary regulatory approval, the United States;

 

   

whether market acceptance and successful commercialization of eTNS will lead to profitability;

 

   

the timing and results of the pivotal trial of our eTNS system as adjunctive treatment for DRE and the costs associated with such trial;

 

   

the timing and results of our ongoing Phase II clinical trial of our eTNS system for the treatment of MDD;

 

   

our ability to obtain third-party reimbursement for the costs of eTNS treatment;

 

   

the development, satisfactory completion and results of clinical trials of products in our TNS pipeline for various indications;

 

   

the design, specifications and features of our second generation eTNS device and our sTNS device;

 

   

the potential impact of our second generation eTNS device on market penetration;

 

   

our ability to establish and maintain strong relationships with KOLs;

 

   

our future plans regarding the manufacture of eTNS components for our clinical trials or on a commercial scale;

 

   

the ability of our current suppliers to meet the projected demand for our products and our future plans related to expanding suppliers;

 

   

the timing and cost to obtain approvals to commercialize our eTNS system internationally;

 

   

the extent to which future revenue will be generated internationally and the risks associated with foreign currency exchanges;

 

   

the effect of changes in healthcare laws domestically and internationally;

 

   

the sufficiency of our policies and standards relating to compliance with applicable healthcare laws domestically and internationally;

 

   

our ability to obtain broad intellectual property rights covering TNS, to protect our existing intellectual property, and to remain in compliance with, and receive rights under, our existing and future licensing agreements;

 

   

the extent that PMA approval will enhance our competitive position;

 

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our ability to react to increased competition in the future as improved or new technologies emerge;

 

   

the outcome of our pending dispute with Dr. De Salles;

 

   

the extent of product failure rates and warranty costs;

 

   

the extent and effect of the costs of, and the timing of payments under, the UCLA licensing agreement on our costs;

 

   

the extent of our reliance on equity funding as a source of funds;

 

   

our ability to attract and retain skilled personnel for our product development and commercialization efforts;

 

   

our ability to effectively manage our growth;

 

   

whether and to what extent our expenses grow as a result of growth in additional personnel and increased product sales revenue;

 

   

statements regarding future revenue, expenses and operating results;

 

   

whether successful completion of this offering will raise sufficient capital to enable commercialization of our eTNS system; and

 

   

our expected use of proceeds from this offering.

You should refer to the section of this prospectus captioned “Risk Factors” for a discussion of important factors that may cause our actual results to differ materially from those expressed or implied by our forward-looking statements. As a result of these factors, we cannot assure you that the forward-looking statements in this prospectus will prove to be accurate. Furthermore, if our forward-looking statements prove to be inaccurate, the inaccuracy may be material. In light of the significant uncertainties in these forward-looking statements, you should not regard these statements as a representation or warranty by us or any other person that we will achieve our objectives and plans in any specified time frame or at all. We undertake no obligation to publicly update any forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law. The Private Securities Litigation Reform Act of 1995 and Section 27A of the Securities Act do not protect any forward-looking statements that we make in connection with this offering.

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 contains market data and industry forecasts that were obtained from industry publications. These data involve a number of assumptions and limitations, and you are cautioned not to give undue weight to such estimates. We have not independently verified any third-party information. While we believe the market position, market opportunity and market size information included in this prospectus is generally reliable, such information is inherently imprecise.

 

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USE OF PROCEEDS

We estimate that the net proceeds from the sale of the common stock that we are offering will be approximately $         million, or approximately $         if the underwriters exercise their over-allotment option in full, assuming an initial price to public of $         per share, which is the midpoint of the price range set forth on the cover page of this prospectus, and after deducting estimated underwriting discounts and commissions and estimated offering expenses.

Each $1.00 increase or decrease in the assumed initial price to public of $         per share, which is the midpoint of the range set forth on the cover page of this prospectus, would increase or decrease the net proceeds to us from this offering by approximately $        , 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 estimated underwriting discounts and commissions and estimated offering expenses. We may also increase or decrease the number of shares we are offering. Each increase or decrease of shares in the number of shares offered by us would increase or decrease the net proceeds to us from this offering by approximately $        , assuming that the assumed initial price to public remains the same, and after deducting estimated underwriting discounts and commissions and estimated offering expenses. We do not expect that a change in the initial price to public or the number of shares by these amounts would have a material effect on uses of the proceeds from this offering, although it may accelerate the time at which we will need to seek additional capital.

We intend to use the net proceeds from this offering as follows:

 

   

under $10.0 million to fund the pivotal trial of our eTNS system as adjunctive treatment for DRE in support of FDA approval;

 

   

approximately $7.0 million to build out our sales, marketing and medical affairs functions;

 

   

approximately $3.0 million to develop our wire-free second generation eTNS system;

 

   

approximately $6.0 million to advance clinical studies of our eTNS system for neuropsychiatric indications;

 

   

approximately $2.0 million to fund observational trials outside the United States and accumulate health economics and quality-of-life data to facilitate reimbursement;

 

   

approximately $6.1 million to repay the aggregate principal amount and related interest on certain promissory notes including $2.4 million that will automatically become due upon the closing of this offering; and

 

   

the remainder for working capital and other general corporate purposes.

We may also use a portion of the net proceeds from this offering to acquire, license and invest in complementary products, technologies or businesses; however, we currently have no agreements or commitments to complete any such transactions.

As stated above, we will use a portion of the net proceeds from this offering to repay the aggregate principal amount and the related interest thereon for certain of our promissory notes due 2015. These promissory notes have a simple interest rate of 12% per year. The principal and related interest on these notes is due and payable in full on the earlier of (1) July 1, 2015 and (2) the closing of one or more equity financings that generates aggregate gross proceeds to us in excess of $25.0 million. We used the proceeds from the sale and issuance of these notes for general corporate purposes.

We cannot specify with certainty all of the particular uses of the net proceeds that we will receive from this offering. Accordingly, we will have broad discretion in using these proceeds. Furthermore, the amount and

 

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timing of our actual expenditures will depend on numerous factors, including the cash used in or generated by our operations, the status of our development, the level of our sales and marketing activities, the pace of our international expansion plans and our investments or any acquisitions. Pending the use of proceeds from this offering as described above, we plan to invest the net proceeds that we receive in this offering in short-term and intermediate-term interest-bearing obligations, investment-grade investments, certificates of deposit or direct or guaranteed obligations of the U.S. government. We cannot predict whether the invested proceeds will yield a favorable return.

 

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DIVIDEND POLICY

We have never declared nor paid cash dividends on our common 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 dividends on our common stock in the foreseeable future. In addition, instruments governing debt we may incur in the future may materially restrict our ability to pay dividends on our common stock. Any future determination to declare 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, including total indebtedness (which includes the beneficial redemption feature and the accelerated repayment feature on certain promissory notes) as of June 30, 2014 as follows:

 

   

on an actual basis;

 

   

on a pro forma basis to reflect (1) $699,987 of proceeds from the issuance of a promissory note by us subsequent to June 30, 2014; (2) the assumed conversion on                     , 2014 of the principal and accrued interest on a $2,000,000 principal amount convertible promissory note into              shares of common stock at a conversion price equal to 80% of the initial price to public, assuming an initial price to public of $             per share, which is the midpoint of the range set forth on the cover of this prospectus; (3) the issuance of              shares of common stock upon the net exercise of warrants immediately prior to completion of this offering, which warrants were outstanding as of June 30, 2014 and will expire if not exercised prior to the completion of this offering, and assuming an initial price to public of $             per share, which is the midpoint of the range set forth on the cover of this prospectus; and (4) the issuance of 51,249 shares of common stock subsequent to June 30, 2014 upon the exercise of warrants at an exercise price of $2.74 per share and the receipt of the aggregate exercise price of $140,422 subsequent to June 30, 2014 with respect to such exercises; and

 

   

on a pro forma basis as adjusted to reflect (1) the pro forma adjustments set forth in the bullet above; (2) the issuance and sale by us of                  shares of common stock in this offering at an assumed initial price to public of $         per share, which is the midpoint of the range set forth on the cover page of this prospectus, after deducting estimated underwriting discounts and commissions and estimated offering expenses; (3) the application of approximately $2,400,000 of the net proceeds of this offering as described in the section of this prospectus captioned “Use of Proceeds” for the repayment of $2,140,000 in aggregate principal amount of promissory notes and the related interest thereon that will automatically become due upon the closing of this offering; and (4) the filing of our amended and restated certificate of incorporation in Delaware, which will occur in connection with the completion of this offering.

You should read this table in conjunction with the sections of this prospectus captioned “Selected Consolidated Financial Data,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Description of Capital Stock” and our consolidated financial statements and related notes included elsewhere in this prospectus.

 

     As of June 30, 2014  
     Actual     Pro Forma(1)      Pro Forma
As Adjusted(2)
 
     (unaudited)               

Total indebtedness

   $ 6,135,721        

Contingently redeemable restricted common stock

     2,858,209        

Stockholders’ (deficit) equity:

       

Common stock and additional paid-in capital, $0.0001 par value, 30,000,000 shares authorized, 22,415,640 shares issued and outstanding, actual; 30,000,000 shares authorized,                  shares issued and outstanding, pro forma; 70,000,000 shares authorized,                  shares issued and outstanding, pro forma as adjusted

     18,813,506        

Accumulated deficit

     (25,569,637     

Non-controlling interests

     (149,684     
  

 

 

   

 

 

    

 

 

 

Total stockholders’ (deficit) equity

     (6,905,815     
  

 

 

   

 

 

    

 

 

 

Total capitalization

   $ 2,088,115      $                    $                
  

 

 

   

 

 

    

 

 

 

 

(1)

The number of shares of common stock issuable upon conversion of the outstanding principal and accrued interest on the convertible promissory note depends, in part, on the initial price to public and the date on

 

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which this offering is completed. As a result, the actual number of shares of common stock issued upon such conversion may differ from the number of shares set forth above. Assuming an initial price to public of $             per share, which is the midpoint of the range set forth on the cover of this prospectus, if the holder so elects, the outstanding principal and accrued interest on the convertible promissory note, which converts at a conversion price equal to 80% of the initial price to public, or $             per share, and assuming the completion of this offering on                     , 2014, would convert into              shares of common stock. Each $1.00 increase in the assumed initial price to public of $             per share would decrease the number of shares issuable upon such conversion by              shares. Each $1.00 decrease in the assumed initial public offering price of $             per share would increase the number of shares issuable upon such conversion by              shares. If the holder does not elect to convert the convertible promissory note upon the completion of this offering, the holder would no longer have the right to convert the principal and interest thereon into shares of common stock and we would be required to repay such principal and accrued interest on the contractual maturity date of February 28, 2016.

(2) Each $1.00 increase or decrease in the assumed initial price to public of $         per share, which is the midpoint of the range set forth on the cover page of this prospectus, would increase or decrease each of cash, additional paid-in capital, total stockholders’ (deficit) equity and total capitalization by approximately $        , 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 estimated underwriting discounts and commissions and estimated offering expenses. We may also increase or decrease the number of shares we are offering. Each increase or decrease of shares in the number of shares offered by us would increase or decrease each of cash, additional paid-in capital, total stockholders’ (deficit) equity and total capitalization by approximately $        , assuming that the assumed initial price to public remains the same, and after deducting estimated underwriting discounts and commissions and estimated offering expenses. The pro forma as adjusted information discussed above is illustrative only and will adjust based on the actual initial price to public and other terms of this offering determined at pricing.

The share information in the table above excludes:

 

   

3,990,000 shares of common stock issuable upon the exercise of options outstanding as of June 30, 2014, at a weighted-average exercise price of $2.44 per share;

 

   

1,237,042 shares of common stock reserved for future issuance under the 2010 Plan, which will become available under the 2014 Plan in connection with the completion of this offering;

 

   

         shares of common stock reserved for future issuance under the 2014 Plan, which will become effective in connection with the completion of this offering;

 

   

242,645 shares of common stock issuable upon the exercise of warrants outstanding as of June 30, 2014, at a weighted-average exercise price of $7.26 per share; and

 

   

21,008 shares of common stock issuable upon the exercise of warrants that were issued after June 30, 2014, at an exercise price of $8.33 per share.

To the extent that new options are issued under the 2014 Plan or we issue additional shares of common stock in the future, there will be further dilution to investors participating in this offering.

 

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DILUTION

If you invest in our common stock in this offering, your interest will immediately be diluted to the extent of the difference between the initial price to public per share of our common stock in this offering and the as adjusted net tangible book value per share of our common stock upon the completion of this offering.

Our historical net tangible book (deficit) value per share is determined by dividing our total tangible assets less our total liabilities by the number of shares of our common stock outstanding. Our net tangible book (deficit) value as of June 30, 2014 was $(6,905,815), or $(0.31) per share of common stock.

Our pro forma net tangible book (deficit) value as of June 30, 2014 was $         million, or $         per share of common stock. Pro forma net tangible book (deficit) value per share represents the amount of our total tangible assets less our total liabilities, divided by the pro forma number of shares of our common stock outstanding on June 30, 2014, after giving effect to (1) $699,987 of proceeds from the issuance of a promissory note by us subsequent to June 30, 2014, (2) the assumed conversion of the $2,000,000 principal amount and accrued interest on a convertible promissory note on             , 2014 into          shares of common stock at a conversion price equal to 80% of the initial price to public, assuming an initial price to public of $         per share, which is the midpoint of the range set forth on the cover of this prospectus, (3) the issuance of         shares of common stock upon the net exercise of warrants immediately prior to completion of this offering, which warrants were outstanding as of June 30, 2014 and will expire if not exercised prior to the completion of this offering, and assuming an initial price to public of $         per share, which is the midpoint of the range set forth on the cover of this prospectus, and (4) the issuance of 51,249 shares of common stock subsequent to June 30, 2014 upon the exercise of warrants at an exercise price of $2.74 per share and the receipt of the aggregate exercise price of $140,422 subsequent to June 30, 2014 with respect to such exercises.

After giving effect to the receipt of net proceeds from sale of shares of common stock in this offering at an assumed initial price to public of $         per share, which is the midpoint of the range set forth on the cover page of this prospectus, after deducting estimated underwriting discounts and commissions and estimated offering expenses, and our intended use of approximately $2,400,000 of the net proceeds from this offering to repay certain promissory notes due 2015 described in the section of the prospectus captioned “Use of Proceeds,” our pro forma as adjusted net tangible book value as of June 30, 2014 would have been approximately $        , or $         per share. This represents an immediate increase in net tangible book value of $         per share to our existing stockholders and an immediate dilution of $         per share to investors purchasing shares in this offering.

The following table illustrates this per share dilution:

 

Assumed initial price to public per share

     $                

Historical net tangible book (deficit) value per share as of June 30, 2014

   $ (0.31  

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

   $       
  

 

 

   

Pro forma net tangible book (deficit) value as of June 30, 2014

   $       

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

   $                  
  

 

 

   

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

     $                
    

 

 

 

Dilution in net tangible book value per share to investors participating in this offering

     $                
    

 

 

 

Each $1.00 increase or decrease in the assumed initial price to public of $         per share, which is the midpoint of the range set forth on the cover page of this prospectus, would increase or decrease the pro forma as adjusted net tangible book value by approximately $        , or approximately $         per share, and increase or decrease the dilution per share to investors in this offering by approximately $         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

 

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estimated underwriting discounts and commissions and estimated offering expenses. We may also increase or decrease the number of shares we are offering. An increase of          shares in the number of shares offered by us would increase the pro forma as adjusted net tangible book value by approximately $        , or $         per share, and the dilution per share to investors in this offering would be $         per share, assuming that the assumed initial price to public remains the same, and after deducting estimated underwriting discounts and commissions and estimated offering expenses. Similarly, a decrease of          shares in the number of shares offered by us would decrease the pro forma as adjusted net tangible book value by approximately $        , or $         per share, and the dilution per share to investors in this offering would be $         per share, assuming that the assumed initial price to public remains the same, and after deducting estimated underwriting discounts and commissions and estimated offering expenses. The pro forma as adjusted information discussed above is illustrative only and will adjust based on the actual initial price to public 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 giving effect to this offering would be approximately $         per share, and the dilution in net tangible book value per share to investors in this offering would be approximately $         per share. In addition, new investors will experience further dilution to the extent any outstanding options to purchase common stock are exercised.

The following table summarizes, on a pro forma as adjusted basis as of June 30, 2014, the differences between the number of shares of our common stock purchased from us, the total consideration paid and the average price per share paid by our existing stockholders and by our new investors purchasing shares in this offering at the assumed initial price to public of $         per share, which is the midpoint of the range set forth on the cover page of this prospectus, before deducting estimated underwriting discounts and commissions and estimated offering expenses:

 

     Shares Purchased     Total Consideration     Average Price
Per Share
 
     Number    Percent     Amount      Percent    

Existing stockholders

                       $                                     $     

New investors

            
  

 

  

 

 

   

 

 

    

 

 

   

 

 

 

Total

        100   $                      100   $                
  

 

  

 

 

   

 

 

    

 

 

   

 

 

 

Each $1.00 increase or decrease in the assumed initial price to public of $         per share would increase or decrease total consideration paid by new investors by approximately $        , assuming that the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same. We may also increase or decrease the number of shares we are offering. An increase or decrease of          shares in the number of shares offered by us would increase or decrease total consideration paid by new investors by $        , assuming that the assumed initial price to public remains the same.

The share information in the table above excludes:

 

   

3,990,000 shares of common stock issuable upon the exercise of options outstanding as of June 30, 2014, at a weighted-average exercise price of $2.44 per share;

 

   

1,237,042 shares of common stock reserved for future issuance under the 2010 Plan, which will become available under the 2014 Plan in connection with the completion of this offering;

 

   

         shares of common stock reserved for future issuance under the 2014 Plan, which will become effective in connection with the completion of this offering;

 

   

242,645 shares of common stock issuable upon the exercise of warrants outstanding as of June 30, 2014, at a weighted-average exercise price of $7.26 per share; and

 

   

21,008 shares of common stock issuable upon the exercise of warrants that were issued after June 30, 2014, at an exercise price of $8.33 per share.

 

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SELECTED CONSOLIDATED FINANCIAL DATA

We derived the following selected consolidated statements of operations data for 2012 and 2013, as well as the consolidated balance sheet data as of December 31, 2012 and 2013 from our audited consolidated financial statements included elsewhere in this prospectus. We derived the consolidated statement of operations data for 2011 from our audited consolidated financial statements not included in this prospectus. We derived the consolidated statements of operations data for the six months ended June 30, 2013 and 2014, as well as the consolidated balance sheet data as of June 30, 2014 from our unaudited consolidated financial statements included elsewhere in this prospectus. Our unaudited consolidated financial statements have been prepared on the same basis as our audited consolidated financial statements and reflect, in our opinion, all adjustments, consisting only of normal recurring adjustments that we consider necessary for the fair presentation of the financial information set forth in those statements. Our historical results are not necessarily indicative of results for any future period and our results for the six months ended June 30, 2014 are not necessarily indicative of the results that may be expected for the full year ending December 31, 2014. You should read the following selected consolidated financial data in conjunction with the section of this prospectus captioned “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,     Six Months Ended
June 30,
 
    2011     2012     2013     2013     2014  

Consolidated Statement of Operations Data:

          (unaudited)   

Product revenue, net

  $ —        $ —        $ 35,832      $ 8,091      $ 23,923   

Cost of goods sold

    —          —          47,945        2,700        12,108   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit (loss)

    —          —          (12,113     5,391        11,815   

Operating expenses:

         

Research and development(1)

    1,099,993        2,799,657        3,576,382        1,674,690        1,088,022   

Selling, general and administrative(1)

    2,362,161        2,916,427        2,618,449        1,042,637        5,809,858   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

    3,462,154        5,716,084        6,194,831        2,717,327        6,897,880   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Loss from operations

    (3,462,154     (5,716,084     (6,206,944     (2,711,936     (6,886,065

Other income (expense):

         

Grant income

    35,890        513,905        539,966        251,130        213,531   

Interest expense including related party

    (1,478,912     (839     (153,293     (6,866     (654,900

Re-measurement of accelerated repayment feature

    —          —          (5,600     —          80,000   

Re-measurement of beneficial redemption feature

    —          —          —         
—  
  
   
(14,100

Other expense including related party

    —          —          —         
—  
  
   
(265,306

 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total other income (expense), net

    (1,443,022     513,066        381,073     

 

 

 

 

 

 

 

244,264

 

 

 

  

 

 

 

 

 

 

 

 

 

 

(640,775

 

 

 

 

 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Loss before income taxes

    (4,905,176     (5,203,018     (5,825,871  

 

 

 

 

 

(2,467,672

 

 

 

 

 

 

 

 

 

 

(7,526,840

 

 

 

Provision for income taxes

    (800     (800     (1,600  

 

 

 

(1,600

 

 

 

 

 

(1,600

 

 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

    (4,905,976     (5,203,818     (5,827,471  

 

 

 

 

 

(2,469,272

 

 

 

 

 

 

 

 

 

 

(7,528,440

 

 

 

Less: net loss, non-controlling interests

    52,463        30,838        39,196     

 

 

 

13,869

 

  

 

 

 

 

28,724

 

  

 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss attributable to NeuroSigma

  $ (4,853,513   $ (5,172,980   $ (5,788,275  

 

 

 

$

 

 

 

(2,455,403

 

 

 

 

 

 

 

 

$

 

 

 

 

(7,499,716

 

 

 

 

 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss per share attributable to NeuroSigma—basic and diluted

  $ (0.30   $ (0.28   $ (0.33  

 

 

 

$

 

 

 

(0.13

 

 

 

 

 

 

 

 

$

 

 

 

 

(0.44

 

 

 

 

 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Shares used in calculating basic and diluted net loss per share attributable to NeuroSigma

    16,010,277        18,683,067        17,660,485     

 

 

 

 

 

 

 

18,363,102

 

 

 

  

 

 

 

 

 

 

 

 

 

 

17,063,499

 

 

 

 

  

 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

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     As of December 31,     As of
June 30,
 
     2012     2013     2014  
                 (unaudited)  

Consolidated Balance Sheet Data:

      

Cash

   $ 830,056      $ 1,408,688      $ 1,558,944   

Working capital (deficit)

     696,108        (265,905     317,816   

Total assets

     1,181,551        2,998,284        4,118,595   

Total liabilities

     432,675        4,893,927        8,166,201   

Contingently redeemable restricted common stock

     —          —          2,858,209   

Accumulated deficit

     (12,281,646     (18,069,921     (25,569,637

Total stockholders’ (deficit) equity

     748,876        (1,895,643     (6,905,815

 

(1) The following table presents stock-based compensation, including expense related to vesting common stock, in each expense category:

 

    Year Ended December 31,     Six Months Ended
June 30,
 
    2011     2012     2013     2013     2014  
                      (unaudited)  

Research and development

  $ 787,189      $ 1,923,242      $ 2,424,858      $ 1,029,466      $ 556,937   

Selling, general and administrative

    1,102,366        1,213,934        167,047        51,298        3,884,119   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total stock-based compensation expense

  $ 1,889,555      $ 3,137,176      $ 2,591,905      $ 1,080,764      $ 4,441,056   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

You should read the following discussion of our financial condition and results of operations in conjunction with the audited consolidated financial statements and related notes thereto included elsewhere in this prospectus. The following discussion contains forward-looking statements that are subject to risks and uncertainties. See “Special Note Regarding Forward-Looking Statements” for a discussion of the uncertainties, risks and assumptions associated with such statements. Actual results could differ materially from those discussed in or implied by forward-looking statements as a result of various factors, including those discussed below and elsewhere in this prospectus, particularly in the section of this prospectus captioned “Risk Factors.”

Overview

We are a life sciences company focused on developing bioelectronic products to treat patients suffering from major neurological and neuropsychiatric disorders such as epilepsy and depression. Our non-invasive eTNS system employs trigeminal nerve stimulation, or TNS, as adjunctive therapy for drug-resistant epilepsy and major depressive disorder. Adjunctive therapies, including adjunctive medications, are used in combination with one or more other therapies and are commonly used by patients who do not respond to first-line treatment with the desired stabilization or improvement of their condition. eTNS is a novel medical treatment that delivers low-intensity electrical current through a single-use patch to stimulate branches of the trigeminal nerve near the surface of the forehead, thereby non-invasively modulating activity in targeted brain regions.

We were formed in March 2008 to pursue neurostimulation therapies. Key milestones in our history include the following:

 

   

In July 2010, we obtained an exclusive, worldwide license to patented and patent-pending technologies relating to transcutaneous and subcutaneous bilateral neurostimulation for the treatment of neuropsychiatric and neurological disorders from the University of California, Los Angeles, or UCLA.

 

   

In August 2012, we received CE Mark approval in the European Union, or the EU, to market our eTNS system as adjunctive treatment for drug-resistant epilepsy, or DRE, and major depressive disorder, or MDD, for adults and children nine years and older.

 

   

In January 2013, the results of the Phase II clinical trial of our eTNS system as adjunctive treatment for DRE were published in the online issue of Neurology, the medical journal of the American Academy of Neurology.

 

   

In April 2013, we received a medical device license from Health Canada, which allows us to market our eTNS system for the treatment of DRE and MDD for adults and children nine years and older.

 

   

In June 2013, we commenced commercialization of our eTNS system in the EU and Canada.

 

   

In December 2013, the U.S. Food and Drug Administration, or the FDA, unconditionally approved our Investigational Device Exemption, or IDE, application, allowing us to commence a pivotal trial of our eTNS system as adjunctive treatment for DRE.

 

   

In March 2014, we received approval to include our eTNS system in the Australian Register of Therapeutic Goods, which allows us to market our eTNS system as adjunctive treatment for DRE for adults and children nine years and older in Australia.

Prior to 2013, we were a development stage company primarily focused on research and development. We have funded our operations primarily through the sale and issuance of common stock and promissory notes, and from grants received from the National Institutes of Health, or the NIH, pursuant to the Small Business Technology Transfer Program.

 

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In June 2013, we commenced commercialization of our eTNS system in the EU and Canada and began generating minimal product revenue. We generate revenue from the sale of our eTNS system as well as from recurring sales of our proprietary, single-use patches. Currently, the list price of a four-week supply of patches is comparable to that of a four-week supply of branded adjunctive anti-epileptic drugs, or AEDs. Through the date of this prospectus, substantially all patients and customers have paid for our eTNS system and patches at the time of sale because the cost of eTNS treatment is not eligible for reimbursement in any of the jurisdictions in which we have received regulatory approval.

Initially, we plan to focus our commercialization efforts on DRE. The large patient population with DRE is treated by a relatively small number of specialist physicians, and we believe we can address a significant portion of this patient population with a targeted sales and marketing infrastructure. During the second half of 2014, we plan to commence the establishment of our medical affairs function in the EU, Canada and Australia to target epilepsy specialists and neurologists in each territory. One of the primary responsibilities of our medical affairs function will be to oversee observational trials at major epilepsy centers in those territories to generate “in-territory” data in support of our activities to secure reimbursement. Subsequent to establishing our medical affairs function we will commence development of a direct sales force in the EU, Canada and Australia. In 2015 and beyond, we intend to target psychiatrists and the primary care physicians who focus on neurological and neuropsychiatric disorders. In select territories, we may use third parties to distribute our eTNS system through co-promotion and various other third-party arrangements. In advance of our full commercial launch, we are raising awareness, trial and usage of our eTNS system through educating and training key opinion leaders, or KOLs, and clinicians at academic medical centers in the EU, Canada and Australia. We are also seeking approval from third-party payers for reimbursement of the cost of eTNS treatment in key markets where our system has received regulatory approval, which we believe will remove barriers to adoption and thus drive greater sales volume.

A key element of our growth strategy is obtaining FDA approval to market our eTNS system as adjunctive treatment for DRE in the United States. In late 2014, we plan to initiate a large-scale pivotal trial of our eTNS system as adjunctive treatment for DRE to generate data to support a premarket approval, or PMA, application to the FDA, with projected submission in the second half of 2016, with an expected decision from the FDA on our PMA application in the second half of 2017. We are also conducting a Phase II study of our eTNS system as adjunctive treatment for MDD, which we expect to complete in the second half of 2014. If this Phase II trial is successful, we anticipate commencing enrollment for a Phase IIb trial to verify our findings in a larger patient population. Successful results from the Phase IIb trial would then be used to seek an IDE for another large-scale pivotal trial and, if the FDA approves the IDE, promptly initiate such trial. If such pivotal trial generates positive results demonstrating the safety and efficacy of our eTNS system for the treatment of MDD, we intend to submit a PMA application for the MDD indication. We have contracted, and plan to continue to contract, with clinical investigators and clinical trial sites to conduct our clinical trials. To date, our clinical trials have been conducted at UCLA and the University of Southern California, or USC. For the planned large-scale pivotal trial relating to DRE, we intend to contract with a clinical research organization, or CRO, and we are in the late stages of evaluating proposals received from prominent CROs.

Our collaborative approach with academic institutions allowed us to develop our eTNS system for less than $10 million, which includes cash expenditures paid to such institutions relating to licensing and patent and clinical development costs but does not include potential future milestone payments that are contingent upon achieving specified regulatory criteria. In addition, we have leveraged grants to supplement our research and development investments. For example, in January 2013, the NIH awarded us a grant that provides up to $3.6 million in milestone-based funding to accelerate the development of our subcutaneous trigeminal nerve stimulation system, or sTNS system. We began using the initial amounts available, $618,603, under the grant in February 2013, and through June 30, 2014, we had utilized $152,814. We expect to utilize the remaining $3.0 million in milestone-based funding as we perform the underlying research and development activities through January 2018. To the extent we successfully complete this offering, the amount utilized in any year through 2018 is not expected to be a significant source of cash flows for any such year. The amounts that can be used under this milestone-

 

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based funding are subject to the availability of funds by the NIH in future periods and satisfactory research and development progress. Required remaining milestones include fabricating and testing prototypes and conducting pre-clinical animal studies and human clinical trials. We also expect to dedicate future grant income we may be awarded to pursue additional indications for eTNS, including attention deficit hyperactivity disorder, and post-traumatic stress disorder. Further, we are in the initial stages of developing a second generation of our eTNS system, which is designed with a small form factor and a wire-free pulse generator that is directly affixed to the single-use patch, thus eliminating the need for lead wires and increasing the ease-of-use. We plan to continue these development activities in a capital-efficient manner.

Historically, we have utilized a flexible and efficient cost structure by collaborating with academic institutions and using consultant and other third-party service providers to advance our research and development activities. As we execute our strategic plan, we will allocate an increasing amount of resources to build our domestic and international operations infrastructure. Following the completion of this offering, we intend to hire as many additional employees as necessary to meet the needs of various Company initiatives, including sales and marketing, research and development, regulatory affairs, operations and general, administrative and business development activities, and we anticipate that this will require a significant increase in our head count.

Given the low volume of production to date, we have contracted with single sources to manufacture the components of our eTNS system, although we do not currently have long-term contracts with these suppliers. We test and package our eTNS systems at, and ship them from, our Los Angeles facility. We expect to continue such approach through at least 2014, although over the longer term we plan to expand our network of suppliers and production capacity with a view towards improving our margins through economies of scale and mitigating risks associated with single-source suppliers. In order to mitigate any adverse impacts from a disruption of supply, we attempt to maintain an adequate supply of purchased inventory components.

We have a limited operating history and have experienced net losses in each year since our inception. As of June 30, 2014, we had an accumulated deficit of approximately $25.6 million, which is inclusive of our stock-based compensation and vesting common stock expenses of $12.6 million. Our ongoing and future efforts to develop, seek regulatory approvals for, commercialize and seek third-party reimbursement for our products will require increased spending for a variety of activities, including clinical trials, pre- and post-market clinical studies and patent prosecution. In addition, we also need to develop sales, marketing and administrative infrastructures. As a result, we expect to incur increasing operating losses for the foreseeable future.

Key Components of Our Results of Operations

Product Revenue, Net

We received regulatory approval to market our eTNS system in the EU, Canada and Australia and commenced sales in the EU in June 2013. We generate our product revenue in the EU through the sale of our eTNS system as well as from recurring sales of our proprietary single-use patches to KOLs and to patients with a prescription. We recognize product revenue when (1) persuasive evidence of an arrangement exists, (2) the product is shipped and title and risk of loss have passed, (3) the price to the buyer is fixed or determinable and (4) collectability is reasonably assured. We do not offer a right of return other than for warranty claims. Product revenue is recognized net of discounts, which are provided at the time of sale. Although we have only granted very limited discounts at the time of sale to date, going forward we may grant other sales allowances, such as volume-based rebates. In the future, we expect to sell to medical institutions and governmental agencies and will provide these customers with customary credit terms.

The current list price of our eTNS system, which includes a one-month supply of single-use patches, is €800. Our single-use patches are currently priced such that the cost of a month’s supply is comparable to that of a month’s supply of branded adjunctive AEDs. The cost of eTNS treatment is not currently eligible for reimbursement in any of the jurisdictions in which we have received regulatory approval to market our eTNS system, and many of our customers to date have paid for our eTNS system and our patches at the time of sale.

 

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In the near term, the prices of our products will continue to be denominated in a currency other than the U.S. dollar. Therefore, we have foreign currency risks related to our revenue denominated in currencies other than the U.S. dollar. Because we expect our product revenue in the EU, Canada and Australia to grow as a result of our commercialization efforts, our results of operations and cash flows will become increasingly subject to fluctuations due to changes in foreign currency exchange rates, particularly with respect to the U.S. dollar versus the euro and the British pound. Further, our revenue may fluctuate, to some degree, from period to period due to changes in foreign currency rates compared to the U.S. dollar.

Cost of Goods Sold

Cost of goods sold primarily consists of the cost of our purchased component parts, shipping and handling costs, royalty obligations and inventory impairment charges, if any.

We warrant our products to be free from defects in material and workmanship under normal use and service for a period of two years from the date of sale. Under the terms of the warranty, we have the discretion to repair or replace the product that is considered defective. A provision for estimated future costs related to warranty is recorded when products are shipped and revenue recognized. Our estimate of future costs to satisfy warranty obligations is primarily based on estimates of future defects in material and workmanship as well as estimates of replacement costs. If future actual failure rates or future actual costs differ from our estimates, we will record the impact in subsequent periods. Although our estimates of failure rates and warranty costs have been insignificant through June 30, 2014, cost of goods sold will be impacted by potential changes in those estimates.

Direct labor and related overhead such as warehousing costs have not been significant through June 30, 2014. As we anticipate our product revenue to increase, we expect to incur greater direct labor costs and overhead costs such as increased warehousing costs, which will be included in cost of goods sold. Cost of goods sold will also be impacted by the provisions of our license agreement with UCLA, which includes certain payments upon the achievement of regulatory milestones. For additional information about our agreement with UCLA, see the section of this prospectus captioned “Business—Intellectual Property.”

Research and Development Expenses

Our research and development expenses primarily consist of product development costs, engineering expenses, clinical trial expenses, including supplies and devices used in such trials, regulatory fees and expenses and materials costs. Research and development expenses also include personnel-related expenses for employees and consultants engaged in the development of our products, including stock-based compensation and consulting fees. We expense research and development costs as they are incurred. We expect research and development expenses to grow significantly as we use the proceeds from this offering to fund clinical trials of our eTNS system for DRE and for other targeted indications, as well as development of the second generation of our eTNS system and the development of our sTNS system.

Selling, General and Administrative Expenses

Our selling, general and administrative expenses primarily consist of compensation for executive, finance, market development and administrative personnel, including stock-based compensation, as well as costs of patent prosecution and legal services related to our efforts to obtain and maintain broad protection for our intellectual property. Other significant expenses include costs associated with attending medical conferences, professional fees for legal and accounting services, consulting fees and travel expenses. We expect selling, general and administrative expenses to grow significantly as we hire additional executive, finance, selling, market development and administrative personnel.

Grant Income

We have applied for and have been awarded NIH grants, which have financed a portion of our research and development costs. Grant income consists of NIH grants for the development of eTNS, sTNS and other programs.

 

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We receive grant income as reimbursement for expenses that have been previously incurred for research and development activities. Under the terms of the grants, we are obligated to comply with certain stipulations and regulations including, but not limited to, research and development protocols. Grant funds must be applied toward the research and development programs specified by the NIH, rather than for all of our programs generally. We have applied, and in the future, we expect to continue to apply for NIH and other U.S. agency grants, but our receipt of any such future grants will be subject to their availability and the discretion of that U.S. agency.

Interest Expense

Interest expense relates to the debt instruments we have issued, which have been used as a significant source of financing since our inception. For 2011, in addition to the stated interest cost on the borrowings outstanding, interest expense also included the fair value of common stock warrants issued to the lenders as well as interest expense relating to a conversion discount provided to holders of our convertible promissory notes that were outstanding and converted to common stock in 2011. In 2013 and for the six months ended June 30, 2014, interest expense consisted of the interest cost associated with the stated interest rate on the promissory notes and the amortization of the discount associated with allocating a portion of the proceeds from the promissory note issuances to the common stock warrants and to the accelerated repayment feature and beneficial redemption feature included within certain promissory notes.

Results of Operations

Six Months Ended June 30, 2014 Compared to Six Months Ended June 30, 2013

Product Revenue, Net, Cost of Goods Sold and Gross Profit

Product revenue, net was $23,923 for the six months ended June 30, 2014, compared to $8,091 for the six months ended June 30, 2013. Cost of goods sold was $12,108 for the six months ended June 30, 2014 compared to $2,700 for the six months ended June 30, 2013. Each of these increases was due to the commencement of commercial product sales in the EU in June 2013.

Given that we commenced commercial sales in June 2013, we believe that the gross profit for the six months ended June 30, 2014 does not reflect our gross profit expected in future periods. In the near term, we may experience cost of goods sold in excess of our product revenue due to investments we plan to make in our operations, including hiring additional direct labor and increased overhead costs primarily related to additional warehousing costs. Over the long term, we expect our gross profit to improve as product revenue grows and we make improvements to our operational cost structure.

Operating Expenses

 

     Six Months Ended
June 30,
     Increase
(Decrease)
    %  Increase
(Decrease)
 
     2013      2014       
     (unaudited)               

Operating expenses:

          

Research and development(1)

   $ 1,674,690       $ 1,088,022       $ (586,668     (35.0 )% 

Selling, general and administrative(1)

     1,042,637         5,809,858         4,767,221        457.2   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total operating expenses

   $ 2,717,327       $ 6,897,880       $ 4,180,553        153.8
  

 

 

    

 

 

    

 

 

   

 

 

 

 

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(1) The following table presents stock-based compensation included in each expense category:

 

     Six Months Ended
June 30,
     Increase
(Decrease)
    %  Increase
(Decrease)
 
       
     2013      2014       
     (unaudited)               

Research and development

   $ 1,029,466       $ 556,937       $ (472,529     (45.9 )% 

Selling, general and administrative

     51,298         3,884,119         3,832,821        7,471.7   
  

 

 

    

 

 

    

 

 

   

 

 

 

Total stock-based compensation expense

   $ 1,080,764       $ 4,441,056       $ 3,360,292        310.9
  

 

 

    

 

 

    

 

 

   

 

 

 

Research and Development. The decrease in research and development expense for the six months ended June 30, 2014 as compared to the same period in 2013 was primarily due to a decrease in the number of non-employee stock options that vested during the period. These non-employee stock options had vested by December 31, 2013 and therefore, there was no related expense during the six months ended June 30, 2014, primarily contributing to a $472,529 decrease in stock-based compensation expense attributable to outstanding stock options. The remaining decrease was primarily driven by reduced clinical trial and product development activity associated with our eTNS technology.

Selling, General and Administrative. The increase in selling, general and administrative expense for the six months ended June 30, 2014 as compared to the same period in 2013 was primarily due to (1) $3,832,821 increase in stock-based compensation, primarily due to restricted shares of common stock issued to several key employees and directors in February and March of 2014, (2) $307,189 increase in accounting and auditing fees and (3) $668,779 increase in compensation related costs primarily due to the hiring of several key employees during the six months ended June 30, 2014. The aforementioned increases were partially offset by decreases in travel expenses.

Grant Income

Grant income was $213,531 for the six months ended June 30, 2014, compared to $251,130 for the six months ended June 30, 2013. The $37,599 decrease in grant income recognized resulted from a decline in reimbursable research and development activities performed under the related grants.

Interest Expense

Interest expense was $654,900 for the six months ended June 30, 2014, compared to $6,866 for the six months ended June 30, 2013. The $648,034 increase was primarily attributable to the increase in notes payable from June 30, 2013 to June 30, 2014. For the six months ended June 30, 2014, interest expense consisted primarily of $318,704 in stated interest expense on notes payables which ranged from 10% to 12% per year and $335,423 related to the amortization of the discounts associated with allocating a portion of the proceeds from certain promissory note issuances to the common stock warrants, the accelerated repayment feature and the beneficial redemption feature included within certain promissory notes (see Note 5, Borrowings, of our consolidated financial statements included elsewhere in this prospectus).

2013 Compared to 2012

Product Revenue, Net, Cost of Goods Sold and Gross Loss

Product revenue, net was $35,832 for 2013, compared to $0 for 2012. Cost of goods sold was $47,945 for 2013, compared to $0 for 2012. Each of these increases was due to the commencement of commercial product sales in the EU in June 2013. Cost of goods sold for 2013 included a $21,418 impairment charge related to inventory components that are expected to expire prior to being used in saleable products.

 

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Given that we commenced commercial sales in June 2013 and due to the inventory component impairment charge of $21,418, we believe that the gross loss for 2013 does not reflect our gross profit expected in future periods. In the near term, we may continue to experience cost of goods sold in excess of our product revenue due to investments we plan to make in our operations, including hiring additional direct labor and increased overhead costs primarily related to additional warehousing costs. Over the long term, we expect our gross profit to improve as product revenue grows and we make improvements to our operational cost structure.

Operating Expenses

 

     Year Ended
December 31,
     Increase
(Decrease)
    %  Increase
(Decrease)
 
     2012      2013       

Operating expenses:

        

Research and development(1)

   $ 2,799,657       $ 3,576,382       $ 776,725        27.7

Selling, general and administrative(1)

     2,916,427         2,618,449         (297,978     (10.2
  

 

 

    

 

 

    

 

 

   

 

 

 

Total operating expenses

   $ 5,716,084       $ 6,194,831       $ 478,747        8.4
  

 

 

    

 

 

    

 

 

   

 

 

 

 

(1) The following table presents stock-based compensation, including expense relating to vesting common stock, included in each expense category:

 

     Year Ended
December 31,
     Increase
(Decrease)
    %  Increase
(Decrease)
 
     2012      2013       

Research and development

   $ 1,923,242       $ 2,424,858       $ 501,616        26.1

Selling, general and administrative

     1,213,934         167,047         (1,046,887     (86.2
  

 

 

    

 

 

    

 

 

   

 

 

 

Total stock-based compensation expense

   $ 3,137,176       $ 2,591,905       $ (545,271     (17.4 )% 
  

 

 

    

 

 

    

 

 

   

 

 

 

Research and Development. The increase in research and development expense for 2013 as compared to 2012 was primarily due to (1) an increase in the fair value of our common stock and an increase in the number of stock options that vested during the period, resulting in a $501,616 increase in stock-based compensation expense and (2) an increase in clinical trial activities primarily related to our eTNS technology.

Selling, General and Administrative. The decrease in selling, general and administrative expense for 2013 as compared to 2012 was primarily driven by a $1,046,887 decrease in expenses related to vesting common stock issued to a non-employee that had fully vested in 2012 and, therefore, there was no related expense during 2013. The decrease in stock-based compensation expense was partially offset by increases in professional fees, rent expense for our expanded office facility and travel expenses.

Grant Income

Grant income was $539,966 for 2013, compared to $513,905 for 2012. The amount of grant income recognized during 2013 was comparable to the amount of grant income recognized during 2012 because reimbursable research and development activities underlying the grants were comparable between the two years.

Interest Expense

Interest expense was $153,293 for 2013 compared to $839 for 2012. In 2013, we issued promissory notes with an aggregate principal amount of $3,369,007 to related parties and other investors. In connection with the 2013 promissory note issuances, we also issued the noteholders warrants to purchase shares of our common stock. The 2013 interest expense was due to the stated interest rate on the promissory notes and the amortization

 

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of the discount associated with allocating a portion of the proceeds from the 2013 promissory note issuances to the common stock warrants and to the accelerated repayment feature included within certain promissory notes (see Note 5, Borrowings, of our consolidated financial statements included elsewhere in this prospectus).

Liquidity and Capital Resources

Since our inception, we have incurred net losses and negative cash flows from our operations. We incurred net losses of $5,827,471 and $7,528,440, and used $2,563,463 and $2,076,858 of cash in our operating activities for 2013 and the six months ended June 30, 2014, respectively. At June 30, 2014, we had an accumulated deficit of $25,569,637.

Historically, we have funded our operations primarily through the sale and issuance of common stock and promissory notes, and grants received from the NIH pursuant to the Small Business Technology Transfer Program. From inception through June 30, 2014, these private placements have generated approximately $12,849,000, and we have received $1,149,649 under NIH grants. As of June 30, 2014, our principal source of liquidity was cash totaling $1,558,944. Our cash accounts are located in checking and savings accounts at two separate FDIC-insured financial institutions.

We expect to continue to incur substantial and increasing losses for the foreseeable future. We also expect our cash expenditures to increase in the near term as we fund the pivotal trial of our eTNS system as adjunctive treatment for DRE and build our domestic and international operations infrastructure. Additionally, as a public company, we will incur significant audit, legal and other expenses that we do not incur as a private company. We believe that our existing cash on hand, together with the net proceeds from this offering, will be sufficient to fund our operations for at least the next 12 months. We anticipate making capital expenditures in 2014 of approximately $400,000 to $600,000, primarily related to (1) enterprise resource planning implementation, (2) computer hardware and (3) networking equipment and leasehold improvements.

In order to meet our future liquidity needs, we are reliant upon additional financing (either through this offering or otherwise) for our operations and growth. Additional financing may not be available on a timely basis or on terms acceptable to us. Historically, our majority stockholder has been a significant source of funding. Certain significant stockholders have provided support letters to our independent registered public accountants indicating that they have the ability and the intent to provide additional funding to meet our liquidity needs through at least December 31, 2014; however, there is no guarantee that these stockholders will fund us to the point where our operations will generate positive cash flows on a consistent basis. If adequate funds are not available from our significant stockholders or other sources of financing, we may have to delay development of new products or reduce other operating expenses. Any of these factors could harm our business and financial condition, results of operations, and cash flows.

The following table shows a summary of our cash flows for 2012 and 2013 and for the six months ended June 30, 2013 and 2014:

 

     Year Ended
December 31,
    Six Months
Ended June 30,
 
     2012     2013     2013     2014  
                 (unaudited)  

Consolidated Statements of Cash Flows Data:

      

Net cash provided by (used in) operating activities

   $ (2,133,827   $ (2,563,463   $ (1,138,479   $ (2,076,858

Net cash provided by (used in) investing activities

     (28,818     (35,007     (35,950     (12,973

Net cash provided by (used in) financing activities

     2,125,738        3,177,102        919,500        2,240,087   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net increase (decrease) in cash

   $ (36,907   $ 578,632      $ (254,929   $ 150,256   
  

 

 

   

 

 

   

 

 

   

 

 

 

 

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Operating Activities

Net cash used in operating activities for the six months ended June 30, 2014 consisted primarily of net loss of $7,528,440 offset by non-cash expenses for stock-based compensation of $4,441,056, amortization of note discounts of $335,423 and fair value of warrants issued of $265,306. The significant items effecting the change in operating assets and liabilities included an increase in interest payable of $318,704, an increase in accounts payable of $95,681 and a $136,398 increase in accrued compensation. The increase in interest payable was primarily due to promissory note issuances and the increase in accrued compensation was primarily due to the hiring of several key employees during the six months ended June 30, 2014. The increase in accounts payable was primarily due to the timing of payments.

Net cash used in operating activities for the six months ended June 30, 2013 consisted primarily of net loss of $2,469,272 offset by non-cash expenses for stock-based compensation of $1,080,764. The significant items in the change in operating assets and liabilities included an increase in grants receivable of $125,466 offset by an increase in accounts payable of $330,566. The increase in grants receivable was primarily due to the timing of collection of payments for the NIH grants and the increase in accounts payable was primarily due to the timing of payments.

Net cash used in operating activities for 2013 consisted primarily of net loss of $5,827,471 offset by non-cash expenses for stock-based compensation of $2,591,905. The significant items in the change in operating assets and liabilities included an increase in accounts payable of $392,932, and a decrease in inventory of $58,097. The increase in accounts payable was primarily due to an increase in professional fees payable, including legal and accounting fees, as of December 31, 2013. The decrease in inventory was primarily due to usage of inventory to support commercial sales in the EU, which commenced in 2013, and inventory provided for clinical trials and product evaluations.

Net cash used in operating activities for 2012 consisted primarily of net loss of $5,203,818 offset by non-cash expenses for stock-based compensation and re-measurement of vesting common stock of $3,137,176. The significant items in the change in operating assets and liabilities included an increase in accounts payable of $167,809, an increase in inventory of $139,696, and an increase in grant receivable of $89,774. The increase in accounts payable was primarily due to the timing of payments. The increase in inventory was primarily due to purchases of inventory in anticipation of commercial sales in the EU commencing in 2013. The increase in grant receivable was primarily due to the performance of our obligations under two NIH grants during 2012 as compared to a single grant in 2011, as well as the timing of grant collections.

Investing Activities

Net cash used in investing activities for 2013 and 2012 and the six months ended June 30, 2014 and 2013 consisted of purchases of property and equipment. Net cash used in investing activities for 2012 also reflected the payment of a security deposit for our additional office space.

Financing Activities

Net cash provided by financing activities for the six months ended June 30, 2014 primarily related to proceeds from the issuances of promissory notes, the related accelerated repayment and beneficial redemption features and common stock warrants totaling $3,200,000 and exercises of common stock warrants totaling $475,001, partially offset by payments for initial public offering costs totaling $1,434,915. Net cash provided by financing activities for the six months ended June 30, 2013 related primarily to proceeds from issuance of promissory notes totaling $900,000.

Net cash provided by financing activities for 2013 primarily related to proceeds from the issuances of promissory notes, the related accelerated repayment features and common stock warrants totaling $3,340,000.

 

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Net cash provided by financing activities for 2012 was primarily related to proceeds from issuances of common stock totaling $2,128,259.

Off-Balance Sheet Arrangements

As of June 30, 2014, we did not have any off-balance sheet arrangements, as defined in Item 303(a)(4)(ii) of Regulation S-K, such as the use of unconsolidated subsidiaries, structured finance, special purpose entities or variable interest entities.

Contractual Obligations and Commitments

The following table summarizes our long-term contractual cash obligations as of December 31, 2013:

 

     Payments due by period  

Contractual Obligations

   Total      Less than
1 year
     1-3 years      3-5 years      More than
5 years
 

Debt, including interest(1)

   $ 4,040,140       $      —         $ 4,040,140       $      —         $      —     

Operating lease obligations

     493,354         159,762         333,592              —                —     

Purchase obligations(2)

     44,164        
44,164
  
     —           —           —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 4,577,658       $ 203,926       $ 4,373,732       $ —         $ —     
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(1) Represents the principal and accrued interest payable on our outstanding promissory notes based on the contractual repayment date of July 1, 2015. Certain of the promissory notes include an accelerated repayment feature whereby the principal and accrued interest would become due and payable upon the closing of one or more equity financings that generates aggregate gross proceeds to us in excess of $25.0 million.
(2) Purchase obligations relate to research and development commitments (including those related to clinical trials) and open purchase orders for the acquisition of inventory.

In addition to amounts in the table above, we are contractually obligated to pay additional amounts, which in the aggregate would be material, upon our achievement of various development and regulatory milestones for license agreements we have entered into with the third parties. Such milestone events relate to enrolling the first subject in a company-sponsored clinical trial, regulatory approval to market product candidates, and receipt of a reimbursement code from the Centers for Medicare & Medicaid Services. These payments are contingent upon the occurrence of various future events, all of which have some level of uncertainty of occurring. These contingent payments have not been included in the table above. As of December 31, 2013, under our license arrangements, we may be required to make milestone payments aggregating $530,000 (including $165,000 for each TNS product candidate) if the applicable milestone events relating to product candidates we are pursuing are achieved. To date, we have not been obligated to make any milestone payments required by the license arrangements. During 2014, we expect to enroll the first patient in a company-sponsored clinical trial, which would require us to pay a milestone payment of $15,000. We do not expect to be required to make any further milestone payments prior to December 31, 2014.

Subsequent to December 31, 2013, through the date of this prospectus, we issued promissory notes with an aggregate principal amount of approximately $3,900,000, consisting, in part, of a $2,000,000 principal amount convertible promissory note that accrues interest at 10% per year, with the principal and accrued interest due and payable on February 28, 2016. The convertible promissory note includes a provision that allows the noteholder to convert the principal and accrued interest into shares of common stock upon the closing of the next equity financing in which we receive aggregate gross proceeds of not less than $50.0 million, which principal and accrued interest is convertible into shares of common stock at a conversion price equal to 80% of the price of common stock sold in such financing. The remaining approximately $1,900,000 in aggregate principal amount of promissory notes accrue interest at 12% per year, with $1,200,000 of the principal and interest due and payable in

 

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full upon the earlier of (1) July 1, 2015 and (2) the closing of one or more equity financings that generate aggregate gross proceeds to us in excess of $25.0 million and the remaining approximately $700,000 of the principal due on July 1, 2015. The approximately $3,900,000 in aggregate principal amount of promissory notes issued subsequent to December 31, 2013 are not included in the table above.

Quantitative and Qualitative Disclosures About Market Risk

Market risk is the risk of loss to future earnings, to fair values or to future cash flows that may result from changes in the price of a financial instrument. The value of a financial instrument may change as a result of changes in interest rates, exchange rates, equity prices and other market changes. We are exposed to market risk related to changes in interest rates and foreign currency exchange rates.

Interest Rate Risk

Due to the fixed interest rate of our borrowings, we do not currently have any exposure to changes in our interest expense as a result of changes in interest rates.

Foreign Currency Exchange Risk

In the near term, the prices of our products will continue to be denominated in a currency other than the U.S. dollar. As we expect our product revenue in the EU, Canada and Australia to grow, our results of operations and cash flows will become increasingly subject to fluctuations due to changes in foreign currency exchange rates, particularly with respect to the U.S. dollar versus the euro and the British pound. To date, we have not had foreign denominated cash, receivables and payables but believe that we will have foreign denominated accounts receivable in the near future. To date, we have not entered into any material foreign currency hedging contracts.

Critical Accounting Policies and Significant Judgments and Estimates

The preparation of financial statements in conformity with GAAP requires us to make estimates and assumptions that affect the amounts reported in our consolidated financial statements and related notes. Actual results could differ materially from those estimates. We consider many factors in selecting appropriate financial accounting policies and in developing the estimates and assumptions that are used in the preparation of our consolidated financial statements. We must apply significant judgment in this process. In addition, other factors may affect estimates, including expected business and operational changes, sensitivity and volatility associated with the assumptions used in developing estimates, and whether historical trends are expected to be representative of future trends. The estimation process often may yield a range of potentially reasonable estimates of the ultimate future outcomes, and we must select an amount that falls within that range of reasonable estimates. This process may result in actual results differing materially from those estimated amounts used in the preparation of our consolidated financial statements.

While our significant accounting policies are described in the notes to our consolidated financial statements included elsewhere in this prospectus, we believe that the following critical policies are most important to understanding and evaluating our reported financial results.

Revenue Recognition

We recognize product revenue when (1) persuasive evidence of an arrangement exists, (2) the product is shipped and title and risk of loss have passed, (3) the price to the buyer is fixed or determinable and (4) collectability is reasonably assured. We do not offer a right of return other than for warranty claims. Product revenue is recognized net of any discounts offered at the time of sale.

 

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Warranty Provisions

We warrant our products to be free from defects in materials and workmanship under normal use and service for a period of two years from the date of sale. Under the terms of the warranty, we have the discretion to repair or replace the product that is considered defective. A provision for estimated future costs related to warranty is recorded when products are shipped and revenue recognized. Our estimate of future costs to satisfy warranty obligations is primarily based on estimates of future defects in materials and workmanship as well as replacement cost. If future actual failure rates or future actual costs differ from our estimates, we will record the impact in subsequent periods. As of June 30, 2014, our failure rate estimates are not significant.

Clinical Trials

We contract with clinical trial sites and clinical investigators to conduct our clinical trials. Generally, we contract with clinical trial sites to screen and enroll patients, provide patients with equipment and training, conduct in-clinic studies, prepare patient report forms and collect and aggregate trial data. Clinical trial site fees generally include a set-up fee, a per-patient trial management fee and an overhead charge. We contract with clinical investigators to implement our trial protocol, secure institutional review board approval, supervise the staff who instruct the subjects in the use of our eTNS system and who perform assessments of the subjects, and generally ensure that the study is conducted in a safe and ethical manner. Our contracts with clinical trial sites and clinical investigators require that the parties comply with regulations and guidelines issued for the type of study being performed. The financial terms of these contracts are subject to negotiation, which vary from contract to contract and to date have resulted in payment flows that match the periods over which materials or services are provided to us under such contracts. Accordingly, we reflect clinical trial expenses and the related amounts owed in our consolidated financial statements by matching those expenses with the period in which services and efforts are expended. Amounts payable for clinical trial expenses incurred that have not yet been paid are included in accounts payable on our consolidated balance sheets.

Stock-Based Compensation

We account for stock-based awards granted to employees and directors by recording compensation expense based on the awards’ grant date estimated fair values. Stock-based awards granted to our non-employees (excluding non-employee directors acting in their role as a member of our board of directors) are re-measured as they vest. The stock-based compensation is recognized in our consolidated statements of operations during the period the related services are rendered. We expect that our expense related to stock-based compensation will increase over time.

Significant Factors, Assumptions and Methodologies Used in Determining Fair Value

We estimate the fair value of our common stock option awards using the Black-Scholes option-pricing model. Determining the fair value of stock-based awards under this model requires judgment, including estimating the value per share of our common stock, expected volatility of our common stock, expected term of the awards, the risk-free interest rate and expected dividend yield. The assumptions used in calculating the fair value of stock-based awards represent our best estimates, based on management’s judgment and subjective future expectations. These estimates involve inherent uncertainties. If any of the assumptions used in the model change significantly, stock-based compensation recorded for future periods may differ materially from that recorded for prior periods. The fair value of restricted stock is based on the estimated value per share of our common stock on the date of award for employees and directors and on the date of vesting for non-employees (excluding non-employee directors).

The determination of the estimated value per share of our common stock is discussed below. Due to our limited operating history and a lack of company-specific historical and implied volatility data, we use the historical volatility of a group of comparable companies as an estimate for our common stock’s expected

 

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volatility. When selecting these comparable public companies, we considered a number of factors such as industry, stage of life cycle, size and financial leverage, as well as the availability and sufficiency of historical share price information. The historical volatility data was computed using the daily reported closing prices for the selected companies’ shares for a period similar in length to the expected term of our stock-based awards. We will continue to employ this process until a sufficient amount of historical information regarding the volatility of our own common stock price becomes available. For purposes of determining the expected term of the employee and director awards, in the absence of sufficient historical data relating to stock-option exercises by our employees and directors, we apply a simplified approach in which the expected term of an award is presumed to be the midpoint between the vesting date and the expiration date of the award. The risk-free interest rates for periods within the expected life of the option are based on the U.S. Treasury yield curve in effect during the period the options were granted. Our expected dividend yield is zero, as we have not and do not currently intend to declare dividends in the foreseeable future.

Once we have determined the estimated fair value of our employee and director stock-based awards, we recognize the portion of that value that corresponds to the portion of the award that is ultimately expected to vest, taking estimated forfeitures into account. This amount is recognized as an expense over the vesting period of the award using the straight-line, single option method. We estimate forfeitures based upon our historical experience. To the extent that actual forfeitures differ from our estimates, the difference will be recorded as a cumulative adjustment in the period the estimates are revised. To date, there have been no employee forfeitures of common stock options and restricted stock. Stock options and restricted stock granted to our non-employees (excluding non-employee directors) are re-measured as they vest.

No common stock options were granted during 2013, and we did not issue any restricted shares of common stock in 2012 or 2013. In February and March 2014, our board of directors authorized the issuance of an aggregate of 2,772,958 restricted shares of common stock and options to purchase an aggregate of 300,000 shares of our common stock to employees, directors and non-employees. The assumptions used to estimate the fair value of common stock options granted to employees during 2012 and the three months ended March 31, 2014 using the Black-Scholes option-pricing model were as follows:

 

     Year Ended
December 31,
2012
    Three Months
Ended

March 31,
2014
 
              

Expected volatility

     70     62

Expected term (in years)

     5.7        5.0   

Weighted-average risk free interest rate

     0.94     1.47

Expected dividends

     0.00     0.00

Employee and non-employee stock-based compensation expense, which includes employee and non-employee common stock options and restricted shares of common stock, and expense relating to vesting common stock recognized in the statements of operations were allocated as follows:

 

     Year Ended December 31,      Six Months Ended June 30,  
           2012                  2013                     2013                         2014            
                   (unaudited)  

Research and development

   $ 1,923,242       $ 2,424,858       $ 1,029,466       $ 556,937   

Selling, general and administrative

     1,213,934         167,047         51,298         3,884,119   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total stock-based compensation expense

   $ 3,137,176       $ 2,591,905       $ 1,080,764       $ 4,441,056   
  

 

 

    

 

 

    

 

 

    

 

 

 

As of June 30, 2014, there was $19,929,825 of unrecognized compensation cost related to unvested restricted shares of common stock, which is expected to be recognized over a weighted-average period of approximately 3.1 years. As of June 30, 2014, there was $1,839,025 of unrecognized compensation cost related

 

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to unvested employee common stock options, which is expected to be recognized over a weighted-average period of approximately 1.6 years.

Fair Value Estimate of Common Stock

We are required to estimate the fair value of our common stock underlying our stock-based awards when performing the fair value calculations utilizing the Black-Scholes option-pricing model. The fair value of the common stock underlying our stock-based awards was determined on each grant date by our board of directors based on input from management. 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. Given the absence of a public trading market prior to this offering, our board of directors exercised its reasonable judgment and considered numerous objective and subjective factors to determine the best estimate of the fair value of our common stock at the time of granting the award. These factors included, among others, the most recent valuation of our common stock available prior to the dates of grant, which considered the methods outlined in the American Institute of Certified Public Accountants, or AICPA, Audit and Accounting Practice Aid Series: Valuation of Privately Held Company Equity Securities Issued as Compensation, or the AICPA Practice Guide, sales of common stock to new and existing investors, operating and financial performance, lack of liquidity of our common stock, the likelihood of achieving a discrete liquidity event, such as an initial public offering and general and industry specific economic outlook. Until completion of this offering, at which time our common stock will start trading on NASDAQ, our board of directors will continue to determine the fair value of our common stock underlying stock options. Following the completion of this offering, the fair value of the shares of our common stock underlying stock options will be the closing price of our common stock on the date such common stock options are granted.

The following table includes the grant dates and related exercise prices of stock options granted and restricted shares of common stock awards issued between January 1, 2012 and August 25, 2014. The per share estimated fair value of common stock also included in the table below represents the determination by our board of directors of the estimated fair value of our common stock as of the date of grant, taking into consideration the various objective and subjective factors described above, including the conclusions, as applicable, of contemporaneous valuations of our common stock performed with the assistance of an independent third-party as of December 31, 2011 and December 31, 2013 as discussed below, and the sale of common stock to new investors in connection with the valuation as of December 31, 2012. We did not grant any common stock options during 2013.

 

Date of Grant

 

Type of Award

  Aggregate Number of
Underlying Shares
    Stock Option
Exercise  Price Per Share
    Per Share Estimated Fair
Value of Common Stock
 

May 10, 2012

 

Stock option

    380,000      $ 2.78      $ 2.78   

August 22, 2012

 

Stock option

    1,895,000        2.78        2.78   

February 7, 2014

 

Stock option

    300,000        8.33        8.33   

February 14, 2014

 

Restricted common stock

    2,517,958        N/A        8.33   

February 21, 2014

 

Restricted common stock

    30,000        N/A        8.33   

March 19, 2014

 

Restricted common stock

    225,000        N/A        8.33   

In determining the exercise prices of the common stock option grants above, our board of directors considered the most recent valuation of our common stock, which was performed as of December 31, 2011 for stock option grants during 2012 and as of December 31, 2013 for stock option grants on February 7, 2014, as well as the other factors described below and determined that no other significant events or circumstances had occurred between December 31, 2011 and May 10, 2012, December 31, 2011 and August 22, 2012 or December 31, 2013 and February 7, 2014, in each case that would indicate there was a change in the fair value of our common stock during such period.

 

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Estimated Fair Value of Common Stock as of December 31, 2011. We obtained the assistance of an independent third-party valuation firm in estimating the fair value of our common stock as of December 31, 2011 using an income approach. We first estimated our enterprise value, which incorporated a discounted cash flow valuation and a market approach for determining the terminal value within the income approach. The valuation applied a discount rate of 47.5% based on the risks attributable to our size, industry and stage of operations. We then added our cash on hand to arrive at a total market value of our equity of approximately $93 million and applied a 40.0% discount for lack of marketability to arrive at an estimated fair value at December 31, 2011 of $2.78 per share of our common stock.

Estimated Fair Value of Common Stock as of December 31, 2012. We concluded that the estimated fair value of our common stock remained relatively unchanged from December 31, 2011 to December 31, 2012. This was primarily attributable to the fact that while we did receive CE Mark approval to market our eTNS system in the EU, the CE Mark approval and the associated cash flows were anticipated in our December 31, 2011 valuation. Additionally, during 2012, the contribution to the value of our common stock from the progress of our research and development activities was substantially offset by our revised pricing strategies and continued efforts to obtain financing to support our liquidity needs, which resulted in delays in the timing and execution of our business plan and the associated timing of future expected cash flows. Throughout 2012, we continued to fund our operations primarily through the issuance of approximately 777,000 shares of our common stock, all of which were issued at a price of $2.74 per share. While a significant portion of the common stock transactions involved existing investors, there were issuances of 21,897 shares in June 2012, 36,496 shares in October 2012, and 36,496 shares in November 2012 to two new investors at a price of $2.74. Based on the above, our board of directors estimated the fair value of our common stock to be $2.78 per share at December 31, 2012.

Estimated Fair Value of Common Stock as of December 31, 2013. We obtained the assistance of an independent third-party valuation firm in estimating the fair value of our common stock as of December 31, 2013 by utilizing the probability-weighted expected return method to allocate the enterprise value to our common stock. Under this method, the per share value of our common stock was estimated based upon the probability-weighted present value of expected future equity values for our common stock, under various possible future liquidity event scenarios, discounted for a lack of marketability. The future liquidity event scenarios were: (1) an initial public offering within five months; (2) a merger or sale of our company at a control premium within five months; (3) a liquidation or dissolution of our company within two years; and (4) a stay private scenario with a liquidity event within five years. The timing of the future liquidity event scenarios was determined based primarily on input from our board of directors and management. A probability weighting of 70.0% was used for the initial public offering scenario, 12.5% was used for the merger or sale scenario, 2.5% was used for the liquidation or dissolution scenario and 15% was used for the stay private scenario. The future value of our common stock in the initial public offering scenario was estimated by application of a market approach based on certain key assumptions, including our expected pre-money initial public offering valuation based on recently completed initial public offerings of similar stage life sciences and medical technology companies and the expected date for a future liquidity event. The future value of our common stock under the merger or sale scenario was estimated based on a combination of an income approach, which incorporated a discounted cash flow valuation, and a market approach, using our expected pre-money initial public offering valuation, as adjusted to reflect a control premium. For the initial public offering and merger or sale exit scenarios, a cost of equity of 30% was utilized to discount the expected common stock values at the exit date to the present value as of December 31, 2013. For the stay private scenario, we used an option-pricing method. Under the option-pricing method, each class of capital stock, such as common stock, common stock options, and common stock warrants, is modeled as a call option with a distinct claim on the total equity value of our company. The option’s exercise price is the total equity enterprise value. We first estimated our equity enterprise value of $159 million using a combination of an income approach, which incorporated a discounted cash flow valuation, and a market approach. Within the option-pricing model, we estimated a volatility input of 65% based on the historically observed volatilities of selected comparable public companies and a risk-free rate of 1.76%. We applied a 17% lack of marketability discount to the probability-weighted scenario values to arrive at an estimated fair value of our common stock of $8.33 as of December 31, 2013.

 

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Estimated Fair Value of Common Stock as of March 31, 2014. We concluded that no significant events had occurred during the first quarter that would result in a material change in our enterprise value. Accordingly, we updated our December 31, 2013 valuation to reflect the probability-weighted present value of the expected future equity values for our common stock based on (a) the timing and probability of possible future liquidity event scenarios, (b) the issuance of restricted common stock and common stock options and the issuance and exercise of common stock warrants during the first quarter, and (c) the application of a discount for the lack of marketability based on the estimated timing of the future liquidity event scenarios. The updated future liquidity event scenarios were: (1) an initial public offering within three months; (2) a merger or sale of our company at a control premium within three months; (3) a liquidation or dissolution of our company within two years; and (4) a stay private scenario with a liquidity event within five years. The timing of the future liquidity event scenarios was determined based primarily on input from our board of directors and management. A probability weighting of 70.0% was used for the initial public offering scenario, 12.5% was used for the merger or sale scenario, 2.5% was used for the liquidation or dissolution scenario and 15% was used for the stay private scenario. For the initial public offering and merger or sale exit scenarios, a cost of equity of 30% was utilized to discount the expected common stock values at the exit date to the present value as of March 31, 2014. For the stay private scenario, we utilized an option-pricing model and updated the input assumptions, including an estimated volatility of 62% and a risk-free rate of 1.73%. We applied a 9% lack of marketability discount to the probability-weighted scenario values to arrive at an estimated fair value of our common stock of $8.36 as of March 31, 2014.

No common stock options or restricted shares of common stock were granted subsequent to March 31, 2014.

Common Stock Warrants

In connection with our financing activities, we issued fully vested and exercisable common stock purchase warrants. The fair value of the warrants was estimated at the date of grant using the Black-Scholes option-pricing model.

Accelerated Repayment Feature

The terms of certain of our outstanding promissory notes require us to repay the amount borrowed plus interest upon the closing of one or more equity financings that generates aggregate gross proceeds in excess of $25.0 million to us, which we refer to as the “accelerated repayment feature.” For accounting purposes, the accelerated repayment feature represents a separate financial instrument and is remeasured at fair value on a recurring basis, with the change in fair value, if any, reflected as other income (expense) in the consolidated statement of operations. In valuing the accelerated repayment feature, we use a model that incorporates a number of subjective assumptions, including the likelihood and timing of an accelerated repayment event occurring, discounted to the measurement date.

Beneficial Redemption Feature

One of our promissory notes includes a provision that allows the noteholder to convert the principal and accrued interest into shares of our common stock upon the closing of the next equity financing in which we receive gross aggregate proceeds of not less than $50.0 million, at a 20% discount to the price of our common stock in such financing, which we refer to as the “beneficial redemption feature”. For accounting purposes, the beneficial redemption feature represents a separate financial instrument and is remeasured at fair value on a recurring basis, with the change in fair value, if any, reflected as other income (expense) in the consolidated statement of operations. In valuing the beneficial redemption feature, we use a model that incorporates a number of subjective assumptions, including the likelihood and timing of a beneficial redemption event occurring, discounted to the measurement date.

 

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Contingencies and Assessments

During the ordinary course of business, we may become involved in various matters of contractual disputes or litigation. We consider the likelihood of the loss or the incurrence of a liability, as well as our ability to reasonably estimate the amount of loss in determining loss contingencies and assessments. An estimated loss contingency or assessment is accrued when it is probable that a liability has been incurred and the amount of loss can be reasonably estimated. We regularly evaluate current information available to us to determine whether such accruals should be adjusted.

Deferred Taxes Valuation and Tax Exposures

We recognize deferred tax assets and liabilities for temporary differences between the financial reporting basis and tax basis of our assets and liabilities, along with net operating losses and tax credit carryovers. These differences are measured using the enacted tax rates and laws that are expected to be in effect when the temporary differences are expected to reverse. A valuation allowance is recorded against our deferred tax assets if, based on the weighted available evidence, it is more likely than not that all or a portion of the deferred tax assets will not be realized. We have considered estimated taxable income and ongoing prudent and feasible tax planning strategies in assessing the amount of the valuation allowance. When we establish or reduce the valuation allowance against our deferred tax assets, our provision for income taxes will increase or decrease, respectively; in the period such determination is made. A full valuation allowance has been recognized for all periods presented.

Additionally, we recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. The tax benefit recognized in the consolidated financial statements for a particular tax position is based on the largest benefit that is more likely than not to be realized upon settlement. If necessary, we establish reserves for uncertain tax positions. Interest expense and penalties for uncertain tax positions would be classified in the consolidated financial statements as income tax expense. We do not have any reserves for uncertain tax positions for all periods presented.

Recently Adopted Accounting Standards and JOBS Act

We have not recently adopted any accounting standards that have had a significant impact on our consolidated financial statements. In May 2014, a new accounting standard was issued that amends the guidance for the recognition of revenue from contracts with customers to transfer goods and services. This new standard will be effective for interim and annual periods beginning January 1, 2017, and is required to be adopted retrospectively. We are currently evaluating the impact this new standard will have on our consolidated financial statements.

In April 2012, the JOBS Act was enacted. Section 107 of the JOBS Act provides that an emerging growth company can take advantage of the extended transition period provided in Section 7(a)(2)(B) of the Securities Act for complying with new or revised accounting standards. Thus, an emerging growth company can delay the adoption of certain accounting standards until those standards would otherwise apply to private companies. We have irrevocably elected not to avail ourselves of this extended transition period and, as a result, we will adopt new or revised accounting standards on the relevant dates on which adoption of such standards is required for other companies.

 

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BUSINESS

Overview

We are a life sciences company focused on developing bioelectronic products with the potential to transform the lives of patients suffering from major neurological and neuropsychiatric disorders such as epilepsy and depression. We currently have approval to market our lead product in the European Union for the adjunctive treatment of epilepsy, in Canada for the treatment of drug-resistant epilepsy, and in Australia for the adjunctive treatment of drug-resistant epilepsy. The approvals in the European Union, Canada and Australia are for adults and children nine years and older. Approximately 4.6 million people in these regions suffer from epilepsy. Additionally, we have approval to market our lead product in the European Union for the adjunctive treatment of major depressive disorder and in Canada for the treatment of major depressive disorder, in each case for adults and children nine years and older. In the European Union and Canada, approximately 31.6 million people suffer from major depressive disorder in a given year. We intend to seek, though have not obtained, approval to market our lead product in the United States for the treatment of epilepsy and major depressive disorder, where approximately 2.9 million people suffer from epilepsy and approximately 17.0 million people suffer from major depressive disorder in a given year. A portion of the proceeds from this offering will be used to initiate a pivotal trial of our lead product as adjunctive treatment for drug-resistant epilepsy in the United States. We also intend to seek, but have not obtained, approval to market our lead product in Australia for major depressive disorder, where approximately 963,000 adults suffer from this disease in a given year. Despite the availability of numerous pharmaceutical and device treatments, approximately one-third of the patients with epilepsy and one-third of the patients with major depression continue to endure debilitating symptoms following first-line treatment. We believe an innovative, safe, non-invasive and affordable treatment alternative with minimal side effects is urgently needed for these subsets of patients. We have developed a neuromodulation technology that non-invasively stimulates the trigeminal nerve to treat epilepsy and depression and have begun efforts toward commercialization of this technology in the European Union, Canada and Australia.

Although our primary commercialization efforts target the treatment of epilepsy, we are also leveraging our technology to advance initiatives for the treatment of depression, attention deficit hyperactivity disorder and post-traumatic stress disorder. Early clinical studies have produced promising data in each of these potential indications and, based on these findings, we plan to conduct clinical trials to demonstrate the safety and efficacy of our technology for each of these indications. As with other products marketed for these medical conditions, the U.S. Food and Drug Administration, or the FDA, regulates the marketing of our product in the United States, and we intend to seek approval to market our product in accordance with its regulatory pathways.

Our non-invasive external trigeminal nerve stimulation system, or eTNS system, employs trigeminal nerve stimulation, or TNS, as adjunctive therapy for drug-resistant epilepsy and major depressive disorder. Adjunctive therapies, including adjunctive medications, are used in combination with one or more other therapies, and are commonly used by patients who do not respond to first-line treatment with the desired stabilization or improvement of their condition. eTNS is a novel medical treatment that delivers low-intensity electrical current through a single-use patch to stimulate branches of the trigeminal nerve near the surface of the forehead, thereby non-invasively modulating activity in targeted brain regions. Clinical studies have provided evidence that our eTNS system did not present the potentially severe side effects associated with other therapies for the indications we target. Patients may conveniently self-administer our eTNS system at home and typically use the device while sleeping. We sell our disposable patches at a price comparable to branded adjunctive medications and our eTNS pulse generator at a significantly lower price than invasive treatment alternatives. We believe this recurring revenue model is similar to the pharmaceutical sales model, and, if properly executed, should position us for rapid growth.

Epilepsy affects approximately 4.2 million individuals in the European Union, or the EU, according to an analysis by the World Health Organization, or the WHO, more than 200,000 Canadians according to Epilepsy Canada, approximately 200,000 Australians according to the Epilepsy Foundation of Victoria and approximately 2.9 million Americans according to data from the U.S. Centers for Disease Control and Prevention, or the CDC, and the National Survey of Children’s Health. Although we have not received approval from the U.S. Food and

 

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Drug Administration, or the FDA, to market our eTNS system in the United States, we are seeking such approval and, if received, we intend to target the United States market. Based on scientific literature, approximately 30% to 37% of people with epilepsy have drug-resistant epilepsy, or DRE, meaning they failed to achieve seizure control after utilizing two or more medications. Treatment options for DRE currently include adjunctive anti-epileptic drugs, brain surgery, invasive vagus nerve stimulation and invasive deep brain stimulation, each of which has risks of serious side effects or complications. In addition, the therapeutic effect of surgery and invasive treatment options cannot be accurately assessed prior to the procedure.

In a given year, major depressive disorder, or MDD, affects approximately 30.3 million people in the EU according to a report from the European College of Neuropsychopharmacology, or the ECNP, and the European Brain Council, or the EBC, approximately 1.3 million people in Canada according to data from the Canadian Community Health Survey, approximately 963,000 Australian adults according to the Australian Bureau of Statistics and approximately 17.0 million Americans according to research supported by the National Institutes of Health, or the NIH, and the CDC. Although we have not received approval from the Therapeutic Goods Administration, or TGA, or the FDA to market our eTNS system in Australia or the United States, respectively, as adjunctive treatment for MDD, we intend to seek such approval and, if received, we intend to target the Australian and United States markets. MDD is typically treated with medication, psychotherapy and, to a lesser extent, invasive vagus nerve stimulation and invasive deep brain stimulation. According to the NIH Sequenced Treatment Alternatives to Relieve Depression, or STAR*D, trial, approximately one-third of patients with MDD are resistant to conventional pharmaceutical treatment. In addition, medication and invasive brain stimulation methods often have significant side effects or risks, and the therapeutic effect of invasive brain stimulation therapies cannot be accurately assessed prior to the procedure.

In August 2012, we received CE Mark approval to market our eTNS system in the EU as adjunctive treatment for DRE and MDD for adults and children nine years and older, and in April 2013, we received a medical device license from Health Canada allowing us to market our eTNS system for the treatment of DRE and MDD for adults and children nine years and older in Canada. In March 2014, we received approval to include our eTNS system in the Australia Register of Therapeutic Goods, which allows us to market our eTNS system as adjunctive treatment for DRE for adults and children nine years and older in Australia. We have not received approval from the FDA to market our eTNS system in the United States. In order to obtain FDA approval of a premarket approval, or PMA, application, which would allow us to market our eTNS system in the United States, the FDA requires that we (1) obtain an investigational device exemption, or IDE, (2) conduct pilot studies, such as Phase I and Phase II trials, to demonstrate the initial safety of the therapy and to gather preliminary efficacy data in a small number of subjects, (3) conduct a pivotal trial to demonstrate reasonable scientific evidence of safety and efficacy in the indications for which we intend to seek regulatory approval and (4) submit a premarket approval, or PMA, application to the FDA. We have already completed a 12-subject Phase I clinical trial and a 50-subject Phase II clinical trial of eTNS for DRE and in December 2013, the FDA approved an IDE for the pivotal trial of eTNS for DRE. We plan to commence a multi-center, double-blind randomized controlled pivotal trial of our eTNS system as adjunctive treatment for DRE in late 2014, with a targeted enrollment of up to 350 subjects. If the data from this trial demonstrates the safety and efficacy of our eTNS system as adjunctive treatment for DRE, we will use such data to support a PMA application to the FDA, with expected submission in the second half of 2016 and an expected decision from the FDA on our PMA application in the second half of 2017. Additionally, in April 2014 the FDA proposed draft guidance for an Expedited Access PMA program for medical devices, or EAP, that, in its current from, contemplates a quicker path for companies to receive FDA approval to market “non-implantable” devices designed to treat “life-threatening or irreversibly debilitating diseases or conditions.” If the EAP is implemented, we will evaluate whether to pursue this accelerated pathway. Acceptance into this proposed program would likely be conditioned upon the completion of post-market evaluation and reporting requirements but could result in a faster pathway to approval and commencement of United States sales. While we intend to meet and confer with the FDA concerning the EAP if it is implemented, we will not delay commencement of our pivotal trial. Now that the 90-day comment period with respect to the draft guidance has expired, the FDA will review the submitted comments and consider revisions. The FDA has not announced a date by which it anticipates finalizing the guidance.

 

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We are also leveraging our eTNS technology to advance initiatives for the treatment of other indications. We are conducting a 40-subject Phase II study of eTNS for the treatment of MDD and have completed a 22-subject Phase I study for attention deficit hyperactivity disorder, or ADHD, and a 12-subject Phase I study for post-traumatic stress disorder, or PTSD. We are conducting these trials pursuant to the FDA’s abbreviated IDE process. The purpose of these studies is to obtain clinical data on safety and efficacy, and we intend to use these data along with data from additional studies to support applications for approval by the FDA to market our eTNS system for these additional indications. Additionally, data gathered from Phase II studies is used to determine the patient population, stimulation parameters and treatment duration of a pivotal trial.

Our targeted marketing strategy includes raising awareness, trial and usage of our eTNS system through educating and training key opinion leaders, or KOLs, and clinicians at academic medical centers in the EU, Canada and Australia. We are also seeking approval from third-party payers for reimbursement of the cost of our eTNS system in key markets where our system has received regulatory approval. During the second half of 2014, we plan to commence the establishment of our medical affairs function in the EU, Canada and Australia to target epilepsy specialists and neurologists in each territory. One of the primary responsibilities of our medical affairs function will be to oversee observational trials at major epilepsy centers in these territories to generate “in-territory” data in support of our activities to secure reimbursement. Subsequent to the establishment of our medical affairs function we will commence development of a direct sales force in the EU, Canada and Australia. In 2015 and beyond, we also intend to target psychiatrists and primary care physicians who focus on neurological and neuropsychiatric disorders. In select territories, we may use third parties to distribute our eTNS system through co-promotion and various other third-party arrangements.

Our Solution

We believe there is a substantial unmet medical need and commercial opportunity to treat a large number of patients suffering from DRE and MDD. Our eTNS system is composed of a pulse generator that delivers preprogrammed electrical signals to the trigeminal nerve through lead wires to a single-use patch that is applied to the forehead. Due to the unique anatomy of the trigeminal nerve, which is the largest of the cranial nerves and serves as a direct conduit to targeted areas of the brain, we are able to deliver these signals non-invasively.

Data from preclinical studies in animals and clinical studies in humans have shown that the signals from eTNS produce changes in cortical excitability. Cortical excitability is a measurement of how easily neurons in the brain react to other electrical or chemical signals, and elevated cortical excitability has been observed in patents with epilepsy. Preclinical and human data indicate that eTNS reduces cortical excitability in brain regions linked to epileptic seizures, much like other anti-epileptic treatments. These findings are complemented by human neuroimaging data showing that brain activity is acutely decreased in brain regions associated with seizures among subjects using the device for the first time. Additionally, in June 2014 investigators from King’s College London reported data on direct measurements of cortical excitability in five adult DRE patients undergoing eTNS treatment for 18 weeks. Brief magnetic pulses were used to assess cortical function before and after a course of treatment, in an effort to evaluate the mechanism of action of eTNS. Measures of cortical excitability consistently decreased with the use of eTNS, consistent with an increase in GABA activity, which is the brain’s primary inhibitory neurotransmitter. Other anti-epileptic therapies have previously been shown to affect GABA and to reduce measures of cortical excitability.

Phase I and Phase II clinical trials of eTNS for DRE demonstrated reductions in seizure frequency comparable to those observed in pivotal trials of invasive neuromodulation devices and of adjunctive pharmaceutical treatments. Although Phase I and Phase II clinical trials of eTNS involved relatively small patient samples with results that may not prove to be as reliable as those obtained from a pivotal trial or efficacy data for commercially available tested products, these trials have provided promising evidence that our eTNS solution offers DRE patients, as well as their prescribing medical professionals, a non-invasive, easy-to-use therapeutic system, with minimal reported side effects. A 12-subject Phase I clinical trial of eTNS for DRE showed a mean reduction in seizure frequency of 66% after three months of therapy. Further, a 50-subject Phase II, double-blind randomized controlled trial of eTNS for DRE showed an increase in responder rate among patients in the treatment group from 17.8% at 6 weeks to 40.5%

 

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after 18 weeks of treatment. Additionally, in July 2014, investigators at King’s College London reported preliminary findings with respect to seven patients ages 10 to 17, representing the first pediatric patients to undergo eTNS treatment. The July 2014 King’s College London preliminary findings were similar to the results of the Phase I and Phase II trials. Three children (43% of the group) reported a 50% or more reduction in seizure frequency after 18 weeks.

Based on the results of the Phase II study of eTNS, the FDA approved our IDE application, permitting us to proceed with a pivotal trial of eTNS for DRE. We have also completed an 11-subject Phase I clinical trial of eTNS for MDD that showed improvements in depression symptoms ranging from 50% to 58% on four commonly used scales for measuring the severity of depression in clinical trials, and we are conducting a 40-subject Phase II clinical trial of eTNS for MDD. In all clinical trials of eTNS to date, the reported side effects have been minimal and there have been no device-related serious adverse events in over ten years of clinical follow-up.

In the EU, Canada and Australia, our eTNS system is currently available by prescription as adjunctive therapy, which we believe will help to optimize the therapeutic benefit of conventional therapy. In addition, our eTNS system does not present the drug-drug interactions common to anti-epileptic drugs, or AEDs, and we believe that physicians can start and discontinue eTNS treatment without the concerns associated with drug dosage management. While our eTNS system is not currently eligible for reimbursement by third-party payers in any jurisdiction, we believe the combination of patient need, the low upfront cost of our eTNS system and the pay-as-you-go cost of our consumable patches places us, with respect to the prospect of reimbursement and the related payment structure, in a position comparable to that of branded adjunctive AEDs, which currently receive third-party reimbursement in many jurisdictions.

Our pulse generator is approximately the size of a cell phone, powered by a rechargeable nine-volt battery and manufactured to our specifications using standard components. Our proprietary single-use patch conducts the electrical signal to the trigeminal nerve and is designed for bilateral nerve stimulation and easy patient application. Because of these features, we believe our eTNS system offers patients an easy-to-use therapeutic treatment option.

 

LOGO

Neuroimaging data suggests that TNS may be effective for the treatment of additional indications, and we are currently investigating eTNS treatment for DRE, MDD, ADHD and PTSD. We are also in the initial stages of developing a second generation of our eTNS system, which is designed with a small form factor and a wire-free pulse generator that is directly affixed to the single-use patch, thus eliminating the need for lead wires and increasing the ease-of-use. For patients who are responsive to eTNS and would prefer an implantable solution, we are developing a TNS device that is placed just below the surface of the skin, or subcutaneously. We have been awarded a multi-phase,

 

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milestone-based grant from the NIH, pursuant to which we are entitled to receive up to $3.6 million in milestone funding to accelerate development of this subcutaneous trigeminal nerve stimulation, or sTNS, system.

Investment Opportunity

 

   

Multiple Opportunities to Address Significant Unmet Medical Need of Large Patient Populations. We have the requisite regulatory approval to begin marketing our eTNS system to the approximately 1.4 million DRE patients in the EU, Canada and Australia and the over 10.5 million MDD patients who are resistant to first-line treatment in the EU and Canada. To date we have not received the requisite approval from the FDA to market our eTNS system in the United States but we are seeking such approval for DRE and intend to seek such approval for MDD. If we receive the necessary approval, we intend to begin marketing to the approximately 864,000 people suffering from DRE and the estimated 5.7 million people suffering from MDD who are resistant to first-line treatment in the United States. Additionally, we have not received the requisite approval from the TGA to market our eTNS system for MDD in Australia. If we receive the necessary approval, we intend to begin marketing to the approximately 963,000 MDD patients ages 16 to 85 in Australia who are resistant to first-line treatment. We plan to commence our pivotal trial of eTNS for the treatment of DRE in late 2014, and expect results from our ongoing Phase II clinical trial of eTNS for the treatment of MDD to be available in the second half of 2014. Based on the data we have gathered in our clinical trials described below, we believe we are well-positioned to leverage our TNS platform technology to treat DRE and MDD, as well as ADHD and PTSD.

 

   

Easy-to-Use Neuromodulation Therapy with Compelling Clinical Results. In contrast to other neuromodulation devices, eTNS does not require an invasive procedure or frequent doctor visits. Our intuitive, cell phone-sized system is designed for ease-of-use to reduce the training burden on prescribing healthcare professionals and to make eTNS therapy accessible to a broad group of patients. Patients can conveniently self-administer our eTNS system at home and typically use the device while sleeping. A 50-subject Phase II, double-blind randomized controlled trial of eTNS for DRE provided encouraging results and was the basis for the FDA’s approval of our IDE application, permitting us to proceed with a pivotal trial of eTNS for DRE. We have also completed an 11-subject Phase I clinical trial of eTNS for MDD, which showed improvements in depression symptoms ranging from 50% to 58% on four commonly used scales for measuring the severity of depression in clinical trials. Clinical trials of eTNS to date have not shown the severe side effects associated with AEDs or the cardiac risk associated with vagus nerve stimulation devices. Further, because eTNS is not a drug, there are no drug-drug interactions and we believe eTNS may be added or removed from the patient’s treatment regimen without these risks.

 

   

Cost-Effective, Recurring Revenue Model. Our eTNS system is designed for cost-effective, ongoing adjunctive treatment of patients with severe chronic neurological and neuropsychiatric conditions. The prescribed therapeutic effect of our eTNS system is delivered through an adhesive single-use patch that the patient places on the forehead for each treatment. With our device-plus-consumables business model, we plan to sell our eTNS pulse generator at a significantly lower price than invasive treatment alternatives and our single-use patches at a price comparable to branded adjunctive AEDs and antidepressants. We believe this recurring revenue sales model is similar to the pharmaceutical sales model and, if properly executed, should position us for rapid growth.

 

   

Capital-Efficient Approach to Clinical Development and Product Commercialization. Our collaborative approach with academic institutions allowed us to develop our eTNS system for less than $10 million, which includes cash expenditures paid to such institutions relating to licensing and patent and clinical development costs but does not include potential future milestone payments that are contingent upon achieving specified regulatory criteria. We plan to continue to grow in a capital-efficient manner. We expect that the relatively low manufacturing and treatment costs associated with our eTNS system will allow us to conduct a large-scale pivotal trial of our eTNS system as adjunctive treatment for DRE for less than $10 million. In addition, because the large patient population with DRE is treated by a relatively small number of specialist physicians, we believe we can effectively reach this customer base with a targeted sales and marketing infrastructure.

 

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Significant Technology Leadership and Intellectual Property Position. Our team of medical experts pioneered an innovative neuromodulation technology that forms the basis of our eTNS system. We are the only company to have received approval to market TNS as adjunctive treatment for DRE in the EU, Canada and Australia and to have received approval of an IDE to commence a pivotal trial of eTNS as adjunctive treatment for DRE. If the results of such pivotal trial demonstrate the safety and efficacy of eTNS as adjunctive treatment for DRE, we plan to submit a PMA application in the second half of 2016 that, if approved, will strengthen our competitive position given the time and expense potential competitors would need to invest to obtain a similar approval. We also hold a broad portfolio of intellectual property relating to TNS through exclusive licenses that do not expire before 2030, as well as through development of our own patents and other intellectual property.

Our Growth Strategy

Our goal is to develop and commercialize TNS treatments for patients suffering from a number of major neurological and neuropsychiatric disorders. To achieve our goal, we are pursuing the following strategies:

 

   

Achieve Broad-Based Adoption of eTNS. Initially, we plan to focus our commercialization efforts on DRE. The large patient population with DRE is treated by a relatively small number of specialist physicians, and we believe we can address a significant portion of these patients with a targeted sales and marketing infrastructure. During the second half of 2014, we plan to commence the establishment of our medical affairs function in the EU, Canada and Australia to target epilepsy specialists and neurologists in each territory. One of the primary responsibilities of our medical affairs function will be to oversee observational trials at major epilepsy centers in those territories to generate “in-territory” data in support of our activities to secure reimbursement. Subsequent to establishing our medical affairs function we will commence development of a direct sales force in the EU, Canada and Australia. We also plan to eventually develop a direct sales force in certain territories where we have received marketing approval to treat depression and will target select psychologists, psychiatrists and primary care physicians with a large number of depression patients. In certain territories, we may use third parties to distribute our eTNS system through co-promotion and various other third-party arrangements. In advance of our full commercial launch, we are raising awareness of our eTNS system through educating and training KOLs and clinicians at academic medical centers in the EU, Canada and Australia.

 

   

Seek Third-Party Reimbursement. We plan to pursue third-party reimbursement from both government and private insurance providers for the cost of eTNS treatment in all applicable jurisdictions. While eTNS has not been approved for reimbursement in any jurisdiction, we have commenced reimbursement initiatives for the adjunctive treatment of DRE in the United Kingdom and Canada. To further support our reimbursement strategy, we also plan to conduct pre- and post-market clinical studies aimed at demonstrating both the long-term efficacy and the cost savings associated with eTNS as compared to competing adjunctive treatments. We may face challenges in obtaining reimbursement approval, including closer scrutiny of healthcare expenditures and uncertainty accompanying treatment using new technology, such as our eTNS system, as well as variations in reimbursement systems from country to country. In the United States and the EU, however, many existing drug and medical device therapies receive third-party reimbursement for the treatment of DRE. Compared to these existing therapies, we believe that our eTNS system will offer cost advantages that, along with the safety and efficacy data from our clinical trials to date, will serve as the basis for our reimbursement initiatives.

 

   

Complete Our Pivotal Trial and Seek FDA Approval. We have not received approval from the FDA to market our eTNS system in the United States. In December 2013, the FDA approved our IDE application, permitting us to conduct a pivotal trial of our eTNS system as adjunctive treatment for DRE. We plan to commence this multi-center, double-blind randomized controlled pivotal trial, which will have a targeted enrollment of up to 350 subjects, in late 2014 to generate data to support a PMA application to the FDA. We are considering the advantages and disadvantages of requesting that the FDA allow us to utilize an interim analysis with a sample size readjustment to the pivotal trial design. While an interim analysis with

 

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sample size readjustment could provide for a potentially faster time to trial completion and a potentially higher probability of trial success, we would incur a statistical penalty that would require us to achieve a higher standard of statistical significance than otherwise would be required for a successful trial. If the pivotal trial provides data demonstrating the safety and efficacy of eTNS as adjunctive treatment for DRE, we expect to submit our PMA application in the second half of 2016, with an expected decision from the FDA on our PMA application in the second half of 2017. A successful pivotal trial would also provide support for our third-party reimbursement initiatives. In addition, FDA draft guidance, in its current form, contemplates early commercialization of certain non-implantable devices pursuant to an EAP. If implemented, the EAP may allow us to apply for accelerated commercialization. While we will consider meeting with the FDA concerning the EAP if it is implemented before we complete our PMA application, we will not delay commencement of our pivotal trial.

 

   

Expand Our Targeted Indications and Product Portfolio. In addition to our commercialization efforts relating to epilepsy and depression, we are also focused on exploring the use of our eTNS system to treat ADHD and PTSD. Our 22-subject Phase I trial of eTNS for the treatment of ADHD and 12-subject Phase I trial of eTNS for the treatment of PTSD, both conducted at UCLA, showed improvements in symptom severity of 47% and 32%, respectively. We intend to continue to pursue regulatory approval to market our eTNS system for the treatment of ADHD and PTSD, and independent investigators have received federal grant funds from the NIH (in the case of ADHD) and the U.S. Army (in the case of PTSD) to commence Phase II, double-blind randomized controlled trials in the second half of 2014 for each of these indications. We are also investing in innovative product enhancements, including a second generation of our eTNS system, which is designed with a small form factor and a wire-free pulse generator that is affixed directly to the single-use patch. We believe this second generation product will further increase patient comfort and convenience, and thereby increase market penetration. For patients who are responsive to our eTNS system and would prefer an implantable solution, we are also developing our subcutaneous sTNS system.

The following chart summarizes the status of clinical trials and regulatory approvals for the indications that we are targeting with our TNS technology:

 

LOGO

Target Indications

Epilepsy

Epilepsy is a potentially fatal chronic neurological disorder characterized by the spontaneous recurrence of unprovoked seizures, severe convulsions, loss of consciousness, falls and distorted vision. Until reliable seizure control has been achieved, patients are forced to adjust their lifestyles to avoid activities that a seizure can

 

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significantly disrupt or render life-threatening. Epilepsy can have significant life-altering consequences for patients such as a loss of the ability to drive, loss of employment, disruption of school attendance, academic underachievement and disruption of social life. Additionally, patients with DRE have an increased risk of disability and, according to a 2010 article published in the New England Journal of Medicine, a mortality rate up to three times higher than the general population.

Prevalence

The WHO reports that epilepsy affects more than 50 million people worldwide and is the fourth leading neurological cause of disability, exceeding Parkinson’s Disease, multiple sclerosis, tetanus and meningitis. According to an analysis by the WHO, approximately 0.8% of the European population, or the equivalent of approximately 4.2 million people in the EU suffer from epilepsy. According to Epilepsy Canada, epilepsy affects approximately 0.6% of the Canadian population, or approximately 210,000 people. The Epilepsy Foundation of Victoria estimates that approximately 0.9% of Australians suffer from epilepsy, which is the equivalent of approximately 205,000 people. In the United States, data from the CDC and the National Survey of Children’s Health indicate that epilepsy affects approximately 1.0% of adults, or approximately 2.4 million people, and nearly 500,000 children. Further, according to the CDC, nearly 150,000 Americans are diagnosed with epilepsy each year. The Epilepsy Foundation of America estimates that 30% to 37% of people with epilepsy have DRE.

Current Epilepsy Treatment Options

Anti-Epileptic Drugs (AEDs). AEDs are currently the “first-line” treatment option for epilepsy, with more than 30 medications approved by the FDA for use in the management of epilepsy. Even among patients with DRE, these medications form the backbone of treatment, with many patients cycling through different combinations to find an optimal regimen that provides some level of seizure control while minimizing side effects. According to IMS Health Incorporated, U.S. sales of AEDs were approximately $5.9 billion in 2011 and according to EvaluatePharma, a leading research and advisory firm for pharmaceutical and healthcare issues, the global market for AEDs was nearly $10 billion in 2012. AEDs can be classified as first, second or third generation based on how long they have been used clinically. First generation AEDs were successful at controlling seizures in approximately two-thirds of patients with epilepsy, but often at the cost of severe side effects, including fatigue, dizziness, nausea, weight gain, severe allergy, sexual dysfunction, depression and risk of suicide and birth defects. Due to the severity of the side effects, as well as the burden of frequent dosing, patient non-compliance is a common cause of breakthrough seizures with these medications.

The limitations of first-generation epilepsy medications prompted the development of the second generation AEDs, which first entered the market in the 1990s. These medications were typically introduced as adjunctive treatment for drug-resistant patients, and had fewer side effects and dosing issues as compared with the first generation drugs, but ultimately failed to change the percentage of patients with DRE. The second generation AEDs were commercially successful, with multiple drugs in this category achieving blockbuster status with annual sales of greater than $1 billion.

In recent years, third generation AEDs have been begun to enter the marketplace in response to continuing demand from patients and physicians for new solutions to reduce the incidence of DRE, as well as the commercial success of the second generation drugs. In 2009, Vimpat (lacosamide) became the first approved third-generation AED, with competing pharmaceutical products such as Potiga (ezogabine) and Fycompa (perampanel) gaining FDA approval in 2011 and 2012, respectively. All of these medications were approved as adjunctive treatment for DRE, with Phase III trials demonstrating responder rates between 33% and 47%; however, this success was at the expense of significant side effects, including dizziness, nausea, headache, retinal abnormalities, skin color changes, homicidal ideation, fatigue, irritability, aggression and hostility. In the case of Potiga and Fycompa, “Black Box Warnings” were required to be included on their labeling indicating that they carry a significant risk of serious or life-threatening adverse events.

Despite these limitations, early indications suggest that the third generation AEDs may enjoy commercial success and rapid adoption similar to their second generation predecessors. For example, Vimpat had global sales

 

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of approximately $554 million in 2013. Such significant sales within five years of launch suggest that there is substantial patient and physician demand in the marketplace for new anti-epileptic therapeutics.

Vagus Nerve Stimulation (VNS). Vagus nerve stimulation, or VNS, is an invasive neuromodulation technique designed to prevent seizures with an implanted device that delivers electrical pulses through the vagus nerve to targeted regions in the brain. VNS requires a neurosurgeon to place a lead around the vagus nerve in the left side of the neck. The lead is then connected to a pulse generator that is implanted in the patient’s chest. VNS has been implanted in over 75,000 patients worldwide, with approximately 5,000 implants performed worldwide each year. According to data from the pivotal trial of VNS for epilepsy and a long-term follow-up study of the same patient population, subjects exhibited a 23% responder rate after 12 weeks and a 35% responder rate after one year of VNS treatment. A significant potential side effect of VNS includes dysphonia, a neurological disorder that results from inadvertent stimulation of a branch of the vagus nerve that controls the larynx. This can be a bothersome side effect associated with intermittent periods of voice alteration that compromise that patient’s ability to speak normally. However, in most cases the dysphonia gradually disappears in a few months. VNS also complicates the ability of epilepsy patients to undergo certain types of MRIs that are usually prescribed to monitor the patient’s epilepsy over the long term. Although there is scientific evidence that high frequency stimulation of both vagus nerves increases efficacy by stimulating both sides of the brain, VNS is limited to unilateral, low-frequency stimulation due to the cardiac risk associated with stimulating the vagus nerve on the right side of the neck. Further, epilepsy patients and their doctors cannot predict the effectiveness of the expensive VNS implantation procedure prior to surgery and approximately two-thirds of such patients will ultimately not be responders to VNS. Consequently, non-responsive patients may want the VNS system removed, which requires another surgical procedure. This second procedure is often limited to explantation of the pulse generator due to the risks associated with explantation of the leads wrapped around the vagus nerve. According to information publicly available from Cyberonics, Inc., a VNS neuromodulation therapy company, the cost of the VNS device is approximately $45,000, which includes $25,000 for the cost of implantation surgery but does not account for any potential third-party reimbursement. While the median reduction in seizure frequency at 12 months is 45%, only one in three VNS patients will be a responder.

Resective Brain Surgery. When AEDs are not effective, the traditional treatment alternative has been surgical removal of the portion of the brain where seizures originate. Resective brain surgery involves exposing the brain by dividing the skin and sometimes muscle on the side of the head, and then removing a piece of skull. Only a subset of patients with DRE, however, is eligible for this surgery. If the seizure focus is too close to the speech, vision, or memory centers of the brain, the risk of causing harm may disqualify a patient from this surgery. In its October 2011 issue, The Lancet medical journal published a study that evaluated the outcome of epilepsy surgery for 615 adults with DRE and found that 52% of participants were free of complex partial and generalized seizures five years after surgery, and approximately 70% of those who had become seizure-free continued to use medication to control seizures. Resective brain surgery involves a complex preparatory and recovery process that often takes more than a year. It is also expensive and, though generally safe, has significant risks such as memory, language and motor impairment, post-operative depression, intracranial bleeding and infection. Furthermore, many surgeries are not effective in treating epilepsy, and it is not possible to determine effectiveness prior to the operation. Given these limitations and results, only about 1,500 resective surgeries are performed each year in the United States.

Deep Brain Stimulation (DBS). Deep brain stimulation, or DBS, for epilepsy involves implanting a stimulating electrode in discrete focal areas of the brain tissue. Regulators in the EU and Australia have approved DBS as adjunctive treatment for partial-onset seizures and it is approved in Canada as treatment for patients with DRE, but DBS has not been approved by the FDA for marketing in the United States. DBS requires implantation by a specialized neurosurgeon at major neurosurgery centers. Though generally safe, the required surgical procedure, which is performed in an inpatient setting, is invasive and expensive and has significant risks, such as memory impairment, post-operative depression, intracranial bleeding and infection. Similar to the limitations of VNS and resective brain surgery, it is not possible to determine the effectiveness of this treatment prior to surgery. The device and cost of the surgical procedure is estimated at $50,000 to $70,000, without taking into account the potential for third party reimbursement.

 

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Responsive Neurostimulation (RNS). RNS is designed to suppress seizure activity before a full seizure occurs. RNS requires an electronics module to be surgically implanted in the skull of the patient and connected to electrode wires that are either implanted within the brain or placed on the brain surface in the area of presumed seizure origin. The device monitors brain waves and, upon identifying the “signature” of a seizure onset, delivers an electric current to the brain of the patient to suppress the seizure. RNS received FDA approval in November 2013 as adjunctive therapy for the treatment of individuals 18 years of age or older who (1) have partial-onset seizures, (2) have undergone diagnostic testing that found no more than two brain regions where their seizures originate, (3) are still having seizures despite treatment with two or more AEDs and (4) are experiencing frequent and disabling seizures, such as motor partial seizures, complex partial seizures or secondarily generalized seizures. Similar to the other procedures that involve accessing the brain, the RNS procedure has significant risks, such as intracranial bleeding and infection, and it is not possible to determine the effectiveness of the treatment prior to the implantation operation. Furthermore, only a subset of patients is eligible for RNS because the therapy requires that patients have no more than two brain regions where their seizures originate that are clearly identifiable with diagnostic testing such as an MRI.

Our eTNS System

We believe the estimated 30% to 37% of epilepsy patients who are drug resistant urgently need a safe, non-invasive and affordable alternative to currently available treatments. We believe our eTNS system has the potential to disrupt the current treatment paradigm and become the preferred choice as adjunctive treatment for epilepsy for a number of reasons, including:

eTNS is Non-Invasive. Our eTNS system is non-invasive and consequently has lower barriers to access and inherently lower risks than implantable systems. Patients can try the device in their own home without committing to surgery or additional medication. Patients in the Phase I and Phase II clinical trials of eTNS found that it was easy to use at home, and most of these patients mastered patch placement and use of the device within minutes.

Minimal Reported Side Effects. Our eTNS system has been approved in the EU and Australia as a Class IIa device, which is one of the lower risk medical device ratings in these jurisdictions. Receipt of this classification was based on Phase I and Phase II clinical trials of eTNS demonstrating a low incidence of mild to moderate side effects. The most common side effects during these trials included skin irritation, headache and anxiety, but the majority of these side effects resolved over time and did not preclude patients from using the eTNS device. As of August 2014, over 150 subjects have participated in clinical trials of eTNS at UCLA and the University of Southern California, or USC, and the clinical experience continues to be positive with a low incidence of side effects. Because the regulatory approval we have obtained in the EU and Australia, as well as the regulatory approval we intend to seek in the United States, is for the use of our eTNS system as an adjunctive treatment, patients in such territories would continue to suffer any side effects associated with the one or more epilepsy medications that they take in combination with eTNS treatment. Our eTNS system does not pose any concern with respect to drug-drug interactions. If eTNS treatment is added adjunctively instead of another AED, then we believe the drug burden may be reduced.

Competitive Early Clinical Results. Although conducted with fewer patients, Phase I and Phase II clinical trials of eTNS for DRE demonstrated reductions in seizure frequency comparable to those observed in pivotal trials of invasive neuromodulation devices and adjunctive pharmaceutical treatments. While these findings must be repeated in larger trials, they served as the basis for the FDA’s approval of our IDE application, permitting us to proceed with a pivotal trial of eTNS for DRE, and suggest that eTNS will be competitive with other treatments in the marketplace.

 

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Cost-Effective Pricing. Currently, the list price for an eTNS system, which includes a four-week supply of patches, is €800 and the list price of a four-week supply of disposable patches is comparable to that of a month’s supply of branded AEDs. In contrast to other neuromodulation treatments that require expensive, invasive implantation procedures, we believe the combination of patient need, the low upfront cost of our eTNS system and the pay-as-you-go cost of our consumable patches places us, with respect to the prospect of reimbursement and the related payment structure, in a position comparable to that of adjunctive pharmaceutical treatments, including branded adjunctive AEDs, which currently receive third-party reimbursement in many jurisdictions. Despite including the upfront cost of the eTNS device and the cost of daily patches for one year, eTNS treatment is more affordable than competing third-generation AEDs and device treatments for DRE. The graph below compares the one-year costs of two such AEDs, Vimpat and Potiga, and the one-year cost of eTNS treatment.

 

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Adjunctive Epilepsy Treatment Options Comparison Chart. The table below summarizes the differences among various options for adjunctive treatment of DRE, based in part on published studies for each treatment. The following results are not based on data resulting from a head-to-head trial and are not direct comparisons. Different protocol designs, trial designs, patient selection and populations, number of patients, trial endpoints, trial objectives and other parameters that are not the same between the relevant trial lead to bias in the results causing comparisons of results from different trials to be unreliable. The FDA and the U.S. Federal Trade Commission, or the FTC, require comparison of data obtained in a head-to-head trial for any comparison of safety or efficacy of products. The comparisons we are making between eTNS and other products would not be permitted by the FDA to support an application for approval to market eTNS and the FTC would not permit such comparison in any advertising by us.

 

   

eTNS

 

Adjunctive AEDs

 

VNS

 

Resective Brain Surgery

 

DBS

 

RNS

Invasiveness  

• Non-invasive

 

• Non-invasive

 

• Invasive

 

• Requires surgically accessing the vagus nerve in the neck

 

• Invasive

 

• Requires intracranial procedure

 

• Only suitable for certain types of seizures

 

• Invasive

 

• Requires intracranial procedure

 

• Invasive

 

• Requires intracranial procedure

 

• Only suitable for certain types of seizures

Efficacy Data (type of trial or study; sample size)

 

40% responder rate(1)

(Phase I; 50 subjects)

 

33%-47% responder rate(2)

(Phase III; 380+ subjects)

 

35% responder rate(3)

(Pivotal; 196 subjects)

  52% rate of seizure freedom(4) (Long-term outcomes post-surgery; 615 subjects)   40% median reduction in seizure frequency(5) (Phase III; 110 subjects)  

43% responder rate(6)

(Phase III; 191 subjects)

Primary Side
Effects or
Associated Risks
 

• Skin irritation

 

• Anxiety

 

• Headache

 

• Several have “Black Box Warnings”(7)

 

• Dizziness

 

• Nausea

 

• Headache

 

• Weight gain

 

• Severe allergy

 

• Sexual dysfunction

 

• Depression

 

• Suicide risk

 

• Birth defects

 

• Vision loss

 

• Retinal abnormalities

 

• Homicidal ideation

 

• Skin color changes

 

• Fatigue

 

• Irritability

 

• Aggression and hostility(8)

 

• Voice alteration

 

• Cough

 

• Vocal cord paralysis

 

• Limits patient’s ability to undergo certain MRIs

 

• Device-related infection

 

• Memory impairment

 

• Language impairment

 

• Motor impairment

 

• Post-operative depression

 

• Intracranial bleeding

 

• Infection

 

• Memory impairment

 

• Post-operative depression

 

• Intracranial bleeding

 

• Infection

 

• Intracranial bleeding

 

• Infection

 

(1) Responder rate after 18-week acute treatment period. (DeGiorgio CM et al. Neurology 2013 Feb 26;80(9):786–91).
(2) Responder rates based on 386-subject Fycompa trial (perampanel 12 mg) (French JA et al. Epilepsia 2013 Jan;54(1):117–25), 536-subject Potiga trial (ezogabine 900 mg) (Brodie MJ et al. Neurology 2010 Nov 16;75(20):1817–24) and 405-subject Vimpat trial (lacosamide 600 mg) (Chung S et al. Epilepsia 2010 Jun;51(6):958–67).
(3) Responder rate at 12 months. (DeGiorgio CM et al. Epilepsia 2000 Sep;41(9):1195–1200).
(4) Due to the nature of this treatment option, this figure does not reflect a responder rate but instead reflects the results of a study on the long-term outcome of surgery. (de Tisi J et al. Lancet 2011 Oct 15;378(9800):1388–95).
(5) Responder rate was not reported in results of 110-subject Phase III trial. Subjects demonstrated a median reduction in seizure frequency of 40.4% after 12 weeks. (Fisher R et al. Epilepsia 2010 May;51(5):899–908).
(6) Responder rate at 12 months. (Morrell MJ et al. Neurology 2011 Sep 27;77(13):1295-304).
(7) The FDA requires the drug labels of each of Fycompa (perampanel), Potiga (ezogabine), Sabril (vigabatrin) and Lamictal (lamotrigine), among others, to include a boxed warning, the most serious type of warning FDA gives.
(8) Side effects associated with individual adjunctive AEDs vary, and certain of the side effects presented above are rare.

Trigeminal Nerve Stimulation—Mechanism of Action in Epilepsy

Mechanism of action, or MOA, is the scientific rationale for how and why a therapy works. To understand the MOA of TNS, it is important to consider the concept of cortical excitability and how this relates to disorders

 

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such as epilepsy. Cortical excitability is a term used to characterize how easily neurons in the brain react to electrical or chemical stimulation. Multiple studies have shown that people with epilepsy have increased levels of cortical excitability, meaning that abnormal electrical impulses can more easily spread in their brains and cause seizures. Other studies have shown that patients with newly-diagnosed epilepsy who begin AED therapy and become seizure-free demonstrate a decrease of cortical excitability while, in contrast, persistently elevated cortical excitability in these patients is associated with continued seizures and DRE.

Several convergent lines of evidence indicate that TNS decreases cortical excitability. For example, pre-clinical studies in healthy rats performed at the University of Pittsburgh demonstrated that TNS reduces baseline cortical excitability by keeping neurons in a refractory state where they temporarily cannot respond to electrical stimuli. It was also demonstrated that the magnitude of reduction in cortical excitability was dependent upon the frequency of stimulation, where frequency is measured in hertz, or cycles of electrical stimulation per second. Higher frequencies of greater than 100 hertz resulted in significantly greater decreases in cortical excitability than did lower frequencies, analogous to the dose-response curve of medications. These findings are complemented by additional pre-clinical work performed at Duke University in which investigators studied TNS in a rat model of epilepsy that is commonly used to identify new AED treatments prior to clinical testing in humans. These investigators demonstrated that TNS exerted a significant anti-seizure effect, and that the magnitude of the reduction in cortical excitability increased robustly when the therapy was delivered bilaterally, to both trigeminal nerves, and at frequencies greater than 100 hertz. This extends the evidence for a dose-response relationship on cortical excitability to include effects on seizures. We used these statistically-significant pre-clinical findings to help design our clinical studies of eTNS.

Additionally, studies of human research subjects receiving eTNS also support the concept that eTNS reduces cortical excitability. For example, investigators at UCLA, including Dr. Ian Cook, a Professor-in-Residence of Psychiatry and Biobehavioral Sciences and currently our Chief Medical Officer and Senior Vice President, conducted a neuroimaging study in humans receiving eTNS for the first time, and found that eTNS acutely and significantly reduced blood flow in regions of the brain associated with the initiation and propagation of seizures. A reduction in blood flow correlates with reduced baseline metabolic activity of neurons in that brain region. In addition, another study utilizing electroencephalography, or EEG, data recorded electrical brain activity from individuals receiving eTNS for the treatment of seizures. This data showed acute reductions in the abnormal electrical brain activity associated with epilepsy.

More recently, a study of five adults with DRE performed at King’s College London and presented in June 2014 demonstrated a statistically significant reduction in cortical excitability after 18 weeks of eTNS as adjunctive therapy. The purpose of this study was to determine if eTNS exerted effects on cortical excitability similar to those seen with successful use of AEDs. The cortical excitability parameters were assessed before initiation of eTNS and after 18 weeks of adjunctive eTNS. The investigators found significant reductions in cortical excitability after 18 weeks. Importantly, these findings reflect increased signaling in neuronal pathways employing gamma-aminobutyric acid, or GABA, the primary inhibitory neurotransmitter of the brain. GABA is also involved in the MOA of several commonly used AEDs such as benzodiazepines, barbiturates, and valproic acid.

Taken as a whole, these studies support a mechanism of action in which eTNS works by using the brain’s pre-existing pathways to decrease cortical excitability and inhibit the spread of abnormal electrical discharges that result in seizures. Furthermore, an increasing body of evidence suggests that the long-term anti-seizure effects of eTNS may be achieved in part by increased GABA activity, which is also known to mediate the effects of several of the most commonly used AEDs.

eTNS for Epilepsy—Clinical Studies

Phase I and II clinical trials of eTNS indicate responder rates comparable to published responder rates of invasive neuromodulation devices and those of adjunctive pharmaceutical treatments. For example, our 50-subject Phase II, double-blind randomized controlled trial of eTNS for DRE showed an increase in responder rate among patients in the

 

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treatment group from 17.8% at 6 weeks to 40.5% after 18 weeks of treatment. This increase in responder rate had a p-value of 0.01, indicating that there was a statistically significant improvement in responder rate among patients in the treatment group. Such difference in responder rate between the treatment and control groups approached, but did not achieve, the generally accepted standard for statistical significance of 0.05. P-values are a common statistical tool used to measure the probability that a result could be due to random chance. A p-value of 0.01 indicates that there is a 1% chance that the observed increase in the responder rate among patients in the treatment group could have occurred randomly, and not as the result of a true treatment effect. The standard for statistical significance is typically a p-value less than or equal to 0.05. P-values between 0.05 and 0.1 are commonly said to “approach” statistical significance. A key criteria for obtaining FDA approval of a medical product is demonstrating the safety and efficacy of the product to the FDA, which typically requires showing statistical significance.

The table below presents a summary of our clinical results to date based upon trials of eTNS as an adjunctive treatment for DRE. The table shows the responder rates from the Phase I and II trials, as well as the results of a retrospective sub-analysis of our Phase II data that was performed to determine optimal pivotal trial design which is described below under “—Retrospective Analysis of Phase II Results”. The p-values and number of patients in each study, represented by the letter “n”, are provided in parentheticals. Taken as a whole, these findings are encouraging, with responder rates of 42% in Phase I, 40.5% in Phase II, and 52.9% in our retrospective sub-analysis. The table also shows that the mean percentage change in seizure frequency, which is the primary endpoint of our pivotal trial, was -34.4% among patients in the sub-analysis of the Phase II trial.

 

eTNS for Epilepsy—Summary of Clinical Results to Date

Phase I

Responder Rate at 6 months

  

Phase II

Responder Rate at 18 weeks

  

Phase II Sub-Analysis

Responder Rate at 18 weeks

  

Phase II Sub-Analysis

Mean % Change in Seizures

Phase III Primary Endpoint

42%

(open label n = 12)

  

40.5%

(p = 0.01 within group,

p = 0.078 vs. control n = 42)

  

52.9%

(p < 0.01 within group,

p = 0.057 vs. control n = 26)

  

-34.4%

(p < 0.001 within group,

p = 0.029 vs. control n = 26)

We have also have initiated research collaborations with KOLs at leading European epilepsy centers. Results from this ongoing initiative were presented by a team of investigators from King’s College London and Hospital Universitario Fundación Jiménez Diaz in Madrid, Spain during the annual meeting of the European Congress on Epileptology held in Stockholm in June 2014. These independent investigators received eTNS devices and patches from NeuroSigma, but we did not provide financial support and did not have any input with respect to the design or conduct of the studies. Data from King’s College London showed a median reduction in seizure frequency of 38% among the 13 subjects that completed 12 weeks of therapy with eTNS and 29% among the 10 subjects that completed 18 weeks of therapy with eTNS. The group from Spain reported a mean reduction in seizure frequency of 22.3% in eight patients during weeks one to 12 and 43.4% in six patients during weeks 13 to 24 of the treatment period. Both groups reported minimal side effects, in line with the prior Phase I and Phase II data from the United States studies.

In clinical trials to date, eTNS has not shown the systemic side effects that may be associated with AEDs, nor the surgical risks associated with implantable devices. The Phase II clinical trial, as well as the preliminary data from King’s College, also indicates that our eTNS system may have positive effects on mood. Accordingly, the potential for eTNS to improve mood in epilepsy patients, who often experience co-occurring depression, is in direct contrast to most AEDs and certain intracranial devices used to treat epilepsy, which are known to depress mood. If these findings are confirmed in our planned pivotal trial of our eTNS system as adjunctive treatment for DRE, we believe it will enhance the marketability of our system.

Phase I Trial of eTNS. The first trial of eTNS as adjunctive treatment for DRE was initiated in 2001 and conducted by Dr. Christopher DeGiorgio our Vice President, Neurology and a Professor of Neurology at UCLA. Fourteen subjects were enrolled to receive eTNS treatment for a minimum of 12 hours daily, and 12 subjects completed the three-month trial. The primary endpoint for this trial was mean percent reduction in seizure frequency after three months of eTNS treatment. eTNS was well tolerated, and there were no serious adverse events related to the device. There was a statistically significant decrease in average daily seizure frequency of

 

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66% from 2.1 seizures per day to 0.71 seizures per day (p = 0.034) after three months of treatment. After six months, average daily seizure frequency was reduced to 0.92 seizures per day (p = 0.073), and after 12 months, average daily seizure frequency was 0.86 seizures/day (p = 0.058), which results approached, but did not achieve, statistical significance. Five out of 12 subjects, or 42%, experienced 50% or greater reduction in seizure frequency at the six and 12 month timepoints and at 12 months one subject had a greater than 90% reduction in seizure frequency, and remained seizure-free while using the eTNS system for over three years.

Phase II Trial of eTNS. A Phase II double-blind randomized controlled trial of eTNS as adjunctive treatment for DRE was initiated in March 2008. This multi-center trial was conducted at UCLA and USC. The objective was to obtain preliminary safety and efficacy data for eTNS under double-blind conditions and to explore the suitability of treatment and control stimulation parameters in preparation for a pivotal trial. Fifty subjects with two or more partial-onset seizures per month were enrolled and randomized to treatment (eTNS at high frequency) or control (eTNS at low frequency). Patients received therapy for 12 to 16 hours daily and were evaluated for changes in seizures and mood at six, 12 and 18 weeks. Key inclusion criteria for the Phase II trial were two or more complex partial or generalized tonic-clonic seizures per month for the last two consecutive months, and failure of adequate trials of a least two AEDs.

 

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(1) The treatment group consisted of 24 subjects. The control group consisted of 25 subjects.
(2) The treatment group consisted of 23 subjects. The control group consisted of 19 subjects.
(3) The treatment group consisted of 23 subjects. The control group consisted of 19 subjects.
(4) The treatment group consisted of 17 subjects.
(5) The control group consisted of 9 subjects.

Forty-two subjects completed the Phase II trial, and eTNS was well-tolerated. Side effects included skin irritation (14%), anxiety (4%) and headache (4%). Subjects in the treatment group had a statistically significant improvement in responder rate from 17.8% at six weeks to 40.5% at 18 weeks (p = 0.01). The increase in responder rate among patients in the treatment group was encouraging and is also typical of neuromodulation treatments for epilepsy where a significant increase in efficacy over time is observed. Among patients in the control group, 15.6% of subjects met responder criteria at 18 weeks versus 40.5% in the treatment group (p = 0.078). Such difference in responder rate between the treatment and control groups approached, but did not achieve, the generally accepted standard for statistical significance of 0.05. The Phase II trial also showed a decrease in median seizure frequency at the 12-week timepoint of 2.2 seizures per month among patients in the treatment group versus an increase of 0.1 seizures per month in the control group (p = 0.01 within group; p = 0.06 between groups). The decrease in median seizure frequency was statistically significant within the treatment group and approached but did not achieve statistical significance as compared to the control group. The decrease in median seizure frequency over the entire double-blind period was 1.4 seizures per month in the treatment group versus 0.5 seizures per month in the control group (p = 0.10 within group; p = 0.51 between groups), and such difference was not statistically significant. Variability in baseline seizure frequency and the ramp-up time necessary for eTNS to achieve full efficacy were the primary reasons that the p-value for the difference between

 

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the treatment and control groups was greater than the standard for statistical significance. In addition to the changes in seizure frequency, there was an observed improvement in mood, with subjects in the treatment group averaging a decrease of 8.13 on the BDI versus a decrease of only 3.95 among subjects in the control group (p = 0.02). A linear regression analysis demonstrated that improvements in mood were independent of changes in seizure frequency.

Retrospective Analysis of Phase II Results. In preparation for the pivotal trial of our eTNS system as adjunctive treatment for DRE, we analyzed the Phase II data to identify the most appropriate patient population, treatment duration and number of subjects. To reduce variability in the study population, we included only those subjects with greater than or equal to four and less than 60 seizures per month in our retrospective analysis. It should be noted that these inclusion criteria are consistent with those used in Phase III studies of other anti-epilepsy treatments. Additionally, we included a treatment induction phase whereby patients will receive treatment prior to measuring their seizures to account for the lag in efficacy that is typical of neuromodulation treatments for epilepsy. When we applied these modified criteria to our Phase II data, we observed a larger effect than was observed in the original study population and found a mean percent reduction in seizure frequency of 34.4% in the treatment group, versus an increase of 6.6% in the control group (p = 0.029). We used these results to identify the subject inclusion criteria and time-frame for the pivotal trial of our eTNS system for DRE and to guide our discussions with the FDA.

Pivotal Trial of eTNS. In December 2013, the FDA unconditionally approved our IDE application, allowing us to commence a pivotal trial of our eTNS system as adjunctive treatment for DRE. We expect to begin enrollment for the trial in late 2014. If data from the pivotal trial demonstrates the safety and efficacy of eTNS as adjunctive treatment for DRE, such data will serve as the basis for a PMA application for our eTNS system, which we intend to submit in the second half of 2016. We also expect to use this data to support our reimbursement efforts in all applicable jurisdictions. The pivotal trial has been conservatively designed and powered to detect, on a statistically significant basis, an effect size similar to that observed in the Phase II study. The trial will enroll up to 350 subjects at 30 centers throughout the United States, and will consist of an eight week baseline followed by a 16-week randomized, double-blind treatment period. We intend to begin enrolling subjects in late 2014 and estimate that completion of the trial will take approximately 18 months from the start of enrollment. This estimate is based on using 30 sites with an average of one patient enrolled at each site per month. At this rate, enrollment will take approximately 12 months to complete, with an additional six months for the last patient to exit the trial. The primary endpoint for the trial will be the mean percent change in seizure frequency from baseline during weeks five to 16 of the double-blind treatment period, and the trial is powered to detect a 30% decrease in seizure frequency in the treatment group versus a 15% decrease in the control group. This endpoint achieved statistical significance in our retrospective sub-analysis of the Phase II trial described above. We are also considering the advantages and disadvantages of requesting that the FDA allow us to utilize an interim analysis with a sample size readjustment to the trial design. Advantages of the interim analysis with sample size readjustment are a potentially faster time to trial completion and a potentially higher probability of trial success. A disadvantage of the interim analysis with sample size readjustment is that we would incur a statistical penalty that would require us to achieve a higher standard of statistical significance than otherwise would be required for a successful trial. Secondary endpoints for the trial include responder rate, mood, health economics and quality of life. These secondary endpoints were selected to further support the findings of our previous trials. Of note, there was a statistically significant improvement in mood, as measured by the Beck Depression Inventory, or BDI, among subjects enrolled in the treatment group as compared to those enrolled in the control group (p = 0.02). In preliminary discussions, the FDA has indicated to us that statistically significant outcomes on the secondary endpoints of mood and quality of life could be used to support an expanded label for our eTNS therapy. We will include only patients experiencing four to 60 seizures per month, which is in line with other approved epilepsy therapies.

Expedited Access PMA. In April 2014, the FDA proposed draft guidance with respect to an EAP that, in its current form, contemplates a quicker path for companies to receive FDA approval to market “non-implantable” devices designed to treat “life-threatening or irreversibly debilitating diseases or conditions.” Now that the 90-day comment period with respect to the draft guidance has expired, the FDA will review the submitted comments and consider revisions. The FDA has not announced a date by which it anticipates finalizing the guidance. While we

 

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will consider meeting with the FDA concerning the EAP if it is implemented before we complete our PMA application, we will not delay commencement of our pivotal trial.

eTNS for Lennox-Gastaut Syndrome

In July 2014 enrollment began for a Phase I, open-label trial of eTNS as adjunctive treatment for Lennox-Gastaut Syndrome, or LGS. LGS is a rare brain disorder with childhood onset that is marked by three clinical features: (1) impaired intellectual functioning, (2) the presence of multiple seizure types and (3) a specific abnormality on electroencephalogram, or EEG. Current treatments for LGS are primarily focused on controlling seizures, but response is highly variable and such treatments may have limited success in treating seizure activity in some individuals. The Phase I trial of eTNS for LGS was initiated based on preliminary results from an independent investigator in Spain who treated three patients with LGS and found a mean reduction in seizure frequency of 24.3% after 24 weeks of use, as well as two patients enrolled in the Phase II trial of eTNS for DRE with a diagnosis of LGS who experienced a 53% and 58% reduction in seizure frequency, respectively.

The purpose of this Phase I trial is to obtain safety and efficacy data in this underserved population that may eventually serve as the basis for a humanitarian device exemption, or HDE. An HDE is granted to medical devices intended to treat rare diseases with an incidence of less than 4,000 new cases annually in the United States. For a device to qualify for an HDE, there must be no comparable device (other than another humanitarian use device or a device under an approved IDE) available to treat or diagnose the disease or condition, and the manufacturer must explain why the device would not be available unless an HDE were granted. The annual incidence of LGS is estimated to be 2,085 new cases per year, and LGS is recognized as a rare disease by the National Organization for Rare Disorders, as well as the FDA’s Office of Orphan Products Development, which oversees the HDE approval process.

According to FDA guidance, an HDE application is not required to contain the results of scientifically valid clinical investigations demonstrating that the device is effective for its intended purpose. In order to obtain HDE approval it must be shown that the device will not expose patients to an unreasonable or significant risk of illness or injury and the probable benefit to health from use of the device outweighs the risk of illness or injury from its use. We believe it is therefore possible that results from a relatively small open-label trial could be used to obtain HDE approval, allowing us to commence U.S. commercialization of eTNS for this niche indication with significant unmet medical need in a shorter timeframe than would be possible using the standard PMA development pathway. It should be noted that profits on sales of HDE-approved products are limited to an annual distribution number, defined as the number of devices reasonably needed to treat, diagnose, or cure a pediatric population of up to 4,000 individuals in the United States. With respect to HDE-approved products, the pediatric population consists of patients ages 21 and younger.

Depression

MDD is a medical illness that is characterized by a combination of symptoms that interfere with a person’s ability to work, sleep, study, eat and enjoy once-pleasurable activities. Some people may experience a single episode of MDD in their lifetime, but more often a person may have multiple episodes. Common signs and symptoms of MDD include: persistent sadness, anxiety, pessimism, feelings of guilt, irritability, loss of interest in hobbies and other activities, fatigue, and insomnia. Further, these symptoms can often lead to thoughts of death or suicide and difficulties with concentration, memory and decision-making. The diagnosis of MDD is frequently made by a mental health professional, such as a psychiatrist, but may be made by a patient’s primary care physician.

Prevalence

In a given year, MDD affects approximately 6.9% of adults and children over the age of 14 in the EU, or the equivalent of 30.3 million people in 2010, according to a report from the ECNP and the EBC, approximately 4.0% of Canadian adults and children over the age of 10, or approximately 1.3 million people, according to data from the

 

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Canadian Community Health Survey, and approximately 4.1% of Australians over the age of 16, or approximately 963,000 people, according to a national survey conducted by the Australian Bureau of Statistics. In the United States, studies supported by the NIH indicate that an estimated 6.7% of adults, or approximately 16.1 million people 18 years and older, suffer from MDD in a given year. Further, according to data from the CDC’s National Health and Nutrition Examination Survey, MDD affects approximately 2.7% of children ages 8 to 15, or an aggregate of over 890,000 people, in a given year in the United States. In the NIH STAR*D trial, a multi-center trial with over 4,000 subjects, investigators found that approximately one-third of patients with MDD are resistant to conventional pharmaceutical treatment.

Current Depression Treatment Options

Medications for Depression. The most common treatment methods for a person diagnosed with depression are medication and psychotherapy. There are approximately three dozen medications approved by the FDA for managing depression. Commonly prescribed antidepressant medications include fluoxetine (Prozac), sertraline (Zoloft), paroxetine (Paxil), escitalopram (Lexapro), venlafaxine (Effexor), desvenlafaxine (Pristiq) and duloxetine (Cymbalta). While these drugs are effective for many patients, the NIH STAR*D study concluded that approximately two-thirds of subjects did not achieve remission after 12 to 14 weeks of treatment with a single medication, and approximately one-third of subjects did not achieve remission despite trying four medications over the course of the study. Thus there are large numbers of MDD patients for whom medication therapy is insufficient to alleviate their symptoms. The most common side effects associated with antidepressants include headache, nausea, insomnia, nervousness, agitation and sexual dysfunction. Another class of medication, the tricyclic antidepressants, also can cause side effects including sexual dysfunction, blurred vision and drowsiness. Despite the relative safety and popularity of one category of antidepressants called SSRIs, the FDA issued a public warning in 2004 about an increased risk of suicidal thought or behavior in children and adolescents taking antidepressant medications. Antidepressants may also be associated with potentially dangerous interactions with certain other medications.

Electroconvulsive Therapy (ECT). Electroconvulsive therapy, or ECT, is usually reserved for patients with MDD that threatens the life of the patient through suicidal impulses or when all other treatments have been exhausted. ECT involves running current through the brain of the patient at high voltages, typically two to three times per week for a total of six to 12 treatments. Typically, the patient is placed under general anesthesia and the therapy is administered by a psychiatrist and an anesthesiologist who are assisted by nurses and other medical staff. Common side effects of ECT include confusion, memory loss, nausea, muscle aches or spasms. This therapy can also impact the daily lives of patients, as they are generally directed not to drive while they are receiving ECT treatments. Studies into the efficacy of ECT have shown that it can be an effective therapy, with remission rates ranging from 35% to 73% one week after a course of ECT treatment. Despite this relatively high success rate, ECT is generally reserved as a last-line treatment due to its side effects, social stigma and overall disruption of patients’ lives.

Transcranial Magnetic Stimulation (TMS). Transcranial Magnetic Stimulation, or TMS, uses a strong, pulsed magnetic field to make electrical currents flow in brain tissue. These pulses cause nerve cells in the brain to fire, altering their patterns of activity and leading to improvements in the symptoms of depression. In 2008, the FDA approved a system for administering TMS for use in the management of treatment-resistant depression, or TRD. TMS must be administered at an outpatient treatment facility, and typically requires treatment five days a week, for a total of 20 to 30 treatments lasting 30-60 minutes each. Although no anesthesia is required, TMS has side effects including pain or discomfort in the scalp, and headache, and on rare occasions, TMS may induce a seizure. The rate at which subjects symptoms returned to a normal range, or remission rates, with TMS were approximately 35% in a post-FDA approval study, but as with all treatments for depression, a patient may experience symptom relapses and require another course of treatment. According to a study on the durability of TMS, 10 of 99 patients relapsed over the course of the 24-week study. Additionally, 38 of 99 subjects met criteria for symptom-worsening, although most such patients reachieved symptomatic benefit with adjunctive TMS. Reimbursement for TMS treatment currently varies as some insurers do not recognize TMS as an effective treatment for patients with MDD.

Vagus Nerve Stimulation (VNS). In 2005, the FDA approved VNS for use in treating MDD in limited circumstances. A double-blind study of VNS for depression showed a remission rate of 15% after 12 weeks, and 27%

 

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after one year. Since 1999, Medicare has covered VNS for patients with medically refractory partial-onset seizures for whom surgery is not recommended or for whom surgery has failed. However, in May 2007, the Centers for Medicare & Medicaid Services of the U.S. Department of Health and Human Services, or CMS, concluded that VNS is not covered for patients with TRD. CMS reaffirmed the non-coverage decision with regard to TRD in January 2013. Further, in 2009, the United Kingdom’s National Institute for Health and Clinical Excellence, or NICE, stated that there was insufficient evidence to support the safety and efficacy of VNS for treatment of TRD and required clinicians to undergo special audits prior to the procedure. As previously discussed in the section of this prospectus captioned “—Epilepsy—Current Epilepsy Treatment Options,” VNS produces notable side effects and involves high upfront costs.

Our eTNS System

As discussed above in the section of this prospectus captioned “—Epilepsy—Current Epilepsy Treatment Options,” our eTNS system is a non-invasive treatment with minimal reported side effects that is priced competitively with existing adjunctive treatment options. For these reasons and based on the data we have gathered thus far in Phase I and Phase II trials, we believe we are well-positioned to treat the MDD indication.

Depression Treatment Options Comparison Chart. The following table presents a summary of various options for the treatment of depression, all of which are adjunctive therapies except for antidepressant medications, which may be prescribed as monotherapy. The following results are not based on data resulting from a head-to-head trial and are not direct comparisons. Different protocol designs, trial designs, patient selection and populations, number of patients, trial endpoints, trial objectives and other parameters that are not the same between the relevant trial lead to bias in the results causing comparisons of results from different trials to be unreliable. The FDA and the FTC require comparison of data obtained in a head-to-head trial for any comparison of safety or efficacy of products. The comparisons we are making between eTNS and other products would not be permitted by the FDA to support an application for approval to market eTNS and the FTC would not permit such comparison in any advertising by us.

 

   

eTNS

 

Antidepressant Medications

 

ECT

 

TMS

 

VNS

Invasiveness  

• Non-invasive

 

• Non-invasive

 

• Involves passing a large electrical current through the brain, which is necessary to achieve efficacy

 

• Non-invasive

 

• Invasive

 

• Requires surgically accessing the vagus nerve in the neck

Approximate Acute Remission Rate (type of trial or study; sample size)  

36%(1)

(Phase I; 11 subjects)

 

33%(2)

(Post-approval;

4,041 subjects)

 

35% - 73%(3)

(Post-approval; 90 subjects)

 

35%(4)

(Post-approval; 85 subjects)

 

15% - 17%(5)

(Open-label;

30-74 subjects)

Primary Side Effects and Associated Risks  

• Skin irritation

 

• Headache

 

• Nausea

 

• Insomnia

 

• Nervousness

 

• Drowsiness

 

• Blurred vision

 

• Agitation

 

• Sexual dysfunction

 

• Several have “Black Box Warnings”(6)

 

• Confusion

 

• Memory loss

 

• Nausea

 

• Muscle ache or spasm

 

• Driving restrictions

 

• Headache

 

• Scalp pain

 

• Risk of seizure

 

• Voice alteration

 

• Cough

 

• Vocal cord paralysis

 

• Not MRI compatible

 

• Device infection

 

(1) Remission rate after 8 weeks. (Cook IA et al. Epilepsy and Behavior 2013 Aug;28(2):221–6).
(2) Remission rate based on results at level 1 of the NIMH STAR*D trial, which employed four levels of treatment (12 weeks at each level) with assignment to a single drug in level 1 and randomization to single-agent or evidence-based combinations of medications at levels 2 through 4 for those who were still symptomatic. (Rush AJ et al. Depression and Anxiety 2011 28:521–524).

 

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(3) Remission rates varied one week after a course of ECT treatment based on width of electrical pulse and placement of electrode: ultrabrief bilateral ECT (35%); ultrabrief unilateral ECT (73%); standard pulse width bilateral ECT (65%); and standard pulse width unilateral ECT (59%). (Sackeim HA et al. Brain Stimul. 2008 Apr;1(2):71–83).
(4) Remission rate after 6 weeks. (Connolly KR et al. J Clin Psychiatry 2012 Apr;73(4):e567–73). While a study of the durability of TMS demonstrated that 48% of remitters met the criteria for relapse or symptom-worsening within six months, it also demonstrated that 84% of these subjects reachieved symptomatic benefit with adjunctive TMS. (Janicak PG et al. Brain Stimul 2010 Oct;3(4):187–99).
(5) Remission rate based on three open-label studies during 10-12 weeks of adjunctive VNS therapy. (Rush AJ et al. Biol. Psychiatry 2000 Feb 15;47(4):276–86; Sackeim HA et al. Neuropsychopharmacology 2001 Nov;25(5):713–28; Schlaepfer TE et al. Psychol. Med. 2008 May;38(5):651–61).
(6) The FDA requires the drug labels of each of Viibryd (vilazodone HCI) and Brintellix (vortioxetine), among others, to include a boxed warning, the most serious type of warning FDA gives.

eTNS for Depression-Mechanism of Action

While the exact MOA of eTNS for depression and other neuropsychiatric disorders is not known, neuroimaging conducted by a team of researchers at UCLA led by Dr. Ian Cook, a Professor-in-Residence of Psychiatry and Biobehavioral Sciences and currently our Chief Medical Officer and Senior Vice President, suggest that the MOA of eTNS for depression and other neuropsychiatric indications may be related to its ability to increase activity in regions of the brain associated with mood and attention. Five adults with MDD receiving eTNS for the first time showed significant increases in blood flow to brain regions known to be involved in mood and attention.

eTNS for Depression—Clinical Studies

Phase I Clinical Trial. In 2008, Dr. Ian Cook, a Professor-in-Residence of Psychiatry and Biobehavioral Sciences at UCLA and now our Chief Medical Officer and Senior Vice President, commenced a Phase I trial of eTNS as adjunctive therapy for MDD. Eleven subjects, each of whose condition was not adequately controlled with his or her current medication, were enrolled in an eight-week trial to receive eTNS for a minimum of eight hours nightly while continuing on constant doses of their regular medication. All 11 subjects suffered from MDD and, before enrolling in the study, had tried an average of 5.2 different treatments in their current episode of depression, which had lasted an average of 66 months prior to enrollment. Changes in mood during the trial were assessed using four commonly used scales for measuring the severity of depression in clinical trials, the 17- and 28-item Hamilton Depression Rating Scales, or HDRS-17 and HDRS-28, respectively, the Quick Inventory of Depressive Symptomatology, or QIDS, and BDI. Assessments using these scales involve patients answering a series of questions about their symptoms. Results are then tabulated to generate a number, with higher numbers indicating greater symptom severity.

 

LOGO

All 11 subjects completed the eight-week trial. eTNS was well-tolerated and there were no serious side effects. One subject reported skin erythema under electrode contact due to wearing device for greater than 12 hours because of oversleeping, and one subject reported mild headache. There was an average improvement in symptom severity of 51% on the HDRS-28 with similar improvements observed on the following scales: HDRS-

 

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17 (symptom severity improvement of 50%); the QIDS (symptom severity improvement of 50%); and the BDI (symptom severity improvement of 58%). Six of the 11 subjects (54.5%) showed at least 50% improvement in symptoms, and four of the 11 subjects (36.4%) had remitted, or returned to wellness on the HDRS-17. At the first assessment visit after two weeks, subjects already showed a statistically significant average decrease in symptom severity on each of the four scales measured, and this improvement continued over the entire eight-week trial. In addition to improvements in depression, there were also statistically significant improvements in quality of life, with average scores on the Quality of Life Enjoyment and Satisfaction Questionnaire improving from 35.2 at baseline to 46.0 at week eight (p = 0.015). Based on the data above, we received CE mark approval in the EU as adjunctive treatment for MDD for adults and children nine years and older, and a Health Canada license to market our eTNS system for MDD and TRD for adults and children nine years and older. Accordingly, our eTNS system is now available to be prescribed by physicians in the EU and Canada.

Phase II Clinical Trial. Based on the results of the Phase I trial, a 40-subject Phase II study of eTNS as adjunctive therapy for MDD was launched in February 2011 with an expected completion in the second half of 2014. The purpose of this double-blind randomized controlled trial, which is ongoing, is to obtain preliminary safety and efficacy data for eTNS at a series of different stimulation parameters or “doses.” This dose-finding study will allow us to better-understand the effects of different eTNS treatment regimens and to more effectively plan a large, multi-center pivotal trial of eTNS as adjunctive therapy for MDD. Pending the results of the ongoing Phase II trial, we anticipate commencing enrollment for a Phase IIb trial to verify our findings in a larger patient population prior to commencing a Phase III pivotal trial.

Additional Pipeline Indications for eTNS

Functional neuroimaging data suggests that the mechanism of action of TNS may be effective for the treatment of indications other than epilepsy and depression. We have completed Phase I studies of eTNS for the treatment of ADHD and PTSD.

Attention Deficit Hyperactivity Disorder

ADHD is one of the most common childhood neuropsychiatric disorders. The average age of onset is seven years old, and ADHD can persist into adolescence and adulthood. Children with ADHD may have trouble paying attention, controlling impulsive behaviors or be overly active. Children with ADHD can struggle with low self-esteem, troubled relationships and poor performance in school. In 2011, the CDC reported that 5.9 million children between the ages of three and 17 have been diagnosed with ADHD in the United States alone. According to an expert white paper supported by the EBC and the Global Alliance of Mental Illness Advocacy Networks—Europe, ADHD is estimated to affect approximately one in 20 children and adolescents across Europe.

ADHD is currently treated with stimulant medications such as Ritalin and Adderall, psychotherapy, or a combination of these treatments. Between 70% and 80% of children with ADHD respond positively to these stimulant medications, but these medications can cause side effects such as anxiety, irritability, sleep problems, headaches, decreased appetite and mild stomachaches. A review released by the FDA in March 2006 also found a slight increased risk for medication-related psychiatric problems, even in patients without a history of these psychiatric problems. Finally, a study funded by the NIMH showed that ADHD medications may elevate a child’s heart rate. Despite these side effects, an estimated 2.5 million children in the United States take medication for ADHD. Because certain stimulant medications are related to drugs that have abuse potential, such as amphetamines, many parents are resistant to long-term use of these medications and are increasingly open to “non-pill” solutions.

In April 2013, we completed a Phase I clinical trial of eTNS for ADHD. This trial enrolled 24 children ages seven to 14 to receive a minimum of eight hours of eTNS nightly for eight weeks. Importantly, eTNS was used as a monotherapy for this study, and subjects were not administered any medications for their ADHD symptoms.

 

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eTNS was well tolerated and no serious adverse events occurred during the trial. Four children reported headaches (with two characterized as related or possibly related to eTNS) and one reported temporary eye twitching. Twenty-two of the 24 subjects enrolled completed the eight-week study. ADHD symptom severity was assessed using the clinician-rated ADHD Rating Scale, or ADHD-RS scale, and showed a mean improvement of 47% after eight weeks of eTNS. The ADHD-RS scale is composed of two subscales that measure different aspects of ADHD. These are the inattentive, and the hyperactive/impulsive scales. Significant improvements were observed on both subscales during the duration of this trial. Similar improvements were observed on parent and subject ratings of ADHD symptoms, including substantial improvements in sleep. In addition, computer-based cognitive testing demonstrated statistically significant improvements in reaction time and in working memory.

 

LOGO

We believe the results of the study warrant progressing to a larger double-blind Phase II clinical trial. The NIH has awarded UCLA a grant that funds a Phase II 90-subject pediatric clinical trial at UCLA focused on the use of our eTNS system for the treatment of ADHD. This Phase II clinical trial will evaluate eTNS as monotherapy, under double-blind conditions, in up to 90 children, ages eight to 12, in a four-week randomized clinical trial conducted at UCLA. NeuroSigma will provide eTNS systems to UCLA in support of the trial. We anticipate that this trial will commence in the second half of 2014, with expected completion in 2015. We also plan to seek an amendment to our CE mark approval in the EU and our Health Canada license to include approval to market our eTNS system for the treatment of ADHD. Additionally, we are considering whether we should explore the possibility of pursuing FDA clearance to market our eTNS system for the treatment of ADHD via the de novo 510(k) process.

Post-Traumatic Stress Disorder

PTSD is an anxiety disorder that can develop after exposure to a traumatic or terrifying event in which serious physical harm occurred or was threatened. Patients with this illness commonly report difficulty sleeping, nightmares, persistent frightening flashbacks of the traumatic event, sudden outbursts of anger or anxiety, feeling detached or numb, avoidance of people or places that are reminders of the experience, as well as many other debilitating reactions. Patients suffering from PTSD are also at a higher risk of other mental health problems and certain medical illnesses, such as depression, drug abuse, alcohol abuse, eating disorders, suicidal thoughts and actions, cardiovascular disease, chronic pain, autoimmune diseases and musculoskeletal conditions. According to the Nebraska Department of Veterans’ Affairs, an estimated 7.8% of Americans will experience PTSD at some point in their lives and about 3.6% of U.S. adults aged 18 to 54 (5.2 million people) have PTSD during the course of a given year. The standard treatments for people with PTSD are psychotherapy, medication or both. Medications frequently used to treat PTSD include antidepressants and Prazosin; but they are generally of limited effectiveness.

 

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A Phase I study of eTNS as adjunctive treatment for PTSD and co-morbid depression was initiated in April 2011. Twelve adults ages 31 to 59 with severe, long-standing PTSD and depression were enrolled to receive eTNS for eight weeks. Patients wore the eTNS system for a minimum of eight hours nightly and continued to take their regular medications. Symptoms were assessed every two weeks using the PTSD Patient Checklist, or PCL, and the HDRS-17. At the end of the eight week trial, the severity of PTSD symptoms had significantly declined by an average of 47%, with 42% of subjects having at least a 50% reduction in PTSD symptom severity on the PCL. Depression scores on the HDRS-17 fell by 55% on average, with six of 12 subjects responding and three of 12 subjects remitting. Scores on the Quality of Life Enjoyment and Satisfaction Questionnaire also showed a significant improvement, indicating that there was a real-world benefit in addition to direct symptom relief. The U.S. Army has awarded a grant to independent investigators at UCLA to fund a Phase II 74-patient trial focused on the use of our eTNS system as adjunctive treatment for PTSD, and our goal is to commence such trial in the second half of 2014. We also plan to seek an amendment to our CE mark approval in the EU and our Health Canada license to include approval to market our eTNS system for the treatment of PTSD.

 

LOGO

Products; Product Pipeline

The Monarch eTNS System

Our eTNS system has the following components:

Pulse Generator

The pulse generator, which is approximately the size of a cell phone, is a signal generator that delivers mild electrical pulses with preprogrammed stimulation settings through lead wires to patches placed on the forehead. The pulse generator is composed of a printed circuit board and LCD screen sealed within a plastic case. Standard components are assembled on the circuit boards using surface-mount technology. The assembled circuit boards are then tested and mounted in the plastic case with the LCD screen. The case also contains a socket for a rechargeable, lithium-polymer nine-volt battery that is used to power the system. The device header contains two receptacles where the lead wires are inserted prior to starting a therapy session, and the LCD screen displays the user interface that allows the patient to interact with the system and adjust the current that it delivers to a comfortable level.

Single-Use Patches

Our single-use adhesive patch is the conduit of the electrical pulses that are delivered to the branches of the trigeminal nerve in the forehead. This proprietary patch is designed to stimulate the four main trunks of the trigeminal nerve, and the dimensions and shape of the patch have been refined to ensure appropriate stimulation. The patch is a disposable item that is meant to be replaced before each treatment session to ensure appropriate adhesion and electrical contact with the skin. Given that skin irritation at the site of the patch was the most

 

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common adverse event reported in our Phase II study, we have since redesigned the chemical composition of the conductive gel used in our adhesive patch. An ongoing open-label trial of our new adhesive patches suggests that the incidence of this side effect has been reduced. We will seek to confirm this finding in the pivotal trial.

Lead Wires

The lead wires conduct the electrical signal from the pulse generator to the patches.

The stimulation parameters are a 30-second “stimulus on” period followed by a 30-second “stimulus off” period. Our eTNS system is preprogrammed with proprietary stimulation features including the frequency, pulse width, duty cycle, and voltage ramp (which provides the ramp up and ramp down of the electrical current). For ease of use, the treating physician prescribes a device with preprogrammed stimulation settings and the duration of the nightly treatment, and the patient only needs to adjust the intensity of stimulation. Stimulation is typically described as a tingling sensation and most patients elect to receive the therapy at night while they are asleep.

Second Generation eTNS System

We are in the initial stages of developing a second generation of our eTNS system. Preliminary designs include a wire-free pulse generator that is directly affixed to the single-use patch, thus eliminating the need for lead wires and further increasing the ease-of-use. The proprietary patches would still be replaced daily to ensure maximum adhesion and therapeutic benefit. Preliminary designs also include a timer so that the patient can set the duration of the treatment session. Our goal is to complete development of the second generation eTNS system in 2015, with market launch in mid-2016. If we receive FDA approval to market our eTNS system in the United States, we thereafter plan to launch the second generation eTNS system in the United States.

 

LOGO

Similar to our first generation system, the second generation pulse generator would deliver high-frequency bilateral stimulation to the trigeminal nerve located near the surface of the skin on the forehead. We believe that a wire-free device will increase patient comfort, convenience and compliance. Furthermore, if the supervising doctor finds it beneficial and the patient is interested, our second generation device could be more comfortably worn during the daytime while the patient is taking part in normal daily activities.

sTNS System

We are also designing and developing a subcutaneous TNS system for patients who have responded to eTNS and prefer an implantable system. Patients suffering from DRE often face the prospect of undergoing invasive surgery or procedures without any assurance that they will have the desired therapeutic response to such

 

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treatments. We believe our eTNS system will provide patients with the opportunity to utilize our non-invasive eTNS treatment as a screening tool to determine whether TNS will have the desired therapeutic outcome prior to electing to undergo the minimally-invasive sTNS procedure. A similar screening procedure has been used in the field of spinal cord stimulation where patients must first demonstrate pain relief with temporary electrodes that are inserted through the skin prior to implantation of the actual device. We plan to commence a Phase I trial of sTNS for the adjunctive treatment of epilepsy in 2015.

Preliminary findings suggest that the implantation of our sTNS system will be a procedure capable of being performed by a general surgeon. Other advantages of sTNS include freedom from the daily eTNS treatment regimen and the opportunity to undergo continuous stimulation. In addition, because the patient is relieved of any daily responsibility to apply and activate the device, compliance may be improved. We expect sTNS to be primarily used by patients suffering from DRE.

LOGO

In January 2013, the NIH awarded us a grant that provides up to $3.6 million in milestone-based funding to accelerate the development of our sTNS system. We began using the initial amounts available under the grant in February 2013 and through June 30, 2014, we had utilized $152,814. We expect to utilize the remaining milestone-based funding as we perform the underlying research and development activities through January 2018. The amounts that can be used under this milestone-based funding are subject to the availability of funds by the NIH in future periods and satisfactory research and development progress. Required remaining milestones include fabricating and testing prototypes and conducting pre-clinical animal studies and human clinical trials. We anticipate that our sTNS system will be composed of an implantable pulse generator and a custom subcutaneous lead designed to deliver high-frequency bilateral stimulation to the trigeminal nerve located near the surface of the skin on the forehead. The pulse generator would be implanted in the chest wall near the collarbone, and the sTNS electrodes would be implanted underneath the skin of the forehead using a procedure designed to achieve a desirable cosmetic outcome.

Clinical Trial Process

We contract with clinical trial sites and clinical investigators to conduct our clinical trials. Generally, we contract with clinical trial sites to screen and enroll subjects, provide subjects with equipment and training, conduct in-clinic studies, prepare subjects report forms and collect and aggregate trial data. Clinical trial site fees generally include a set-up fee, a per-subjects trial management fee and an overhead charge. We contract with clinical investigators to implement our trial protocol, secure institutional review board approval, supervise the staff who instruct the subjects in the use of our eTNS system and who perform assessments of the subjects, and generally ensure that the study is conducted in a safe and ethical manner. Our contracts with clinical trial sites and clinical investigators require that the parties comply with regulations and guidelines issued for the type of study being performed. To date, we have contracted with UCLA for all of our clinical trials. For the upcoming pivotal trial

 

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evaluating our eTNS system as adjunctive treatment for DRE, we intend to contract with a prominent clinical research organization, or CRO, as it will be a large multi-center study, and we are in the late stages of evaluating proposals.

Manufacturing and Procurement

We rely upon third parties to manufacture the components of our eTNS systems. Our principal suppliers are the manufacturer of our pulse generators, Ito Co., Ltd. and the manufacturer of our patches, Lead Lok, Incorporated. After we receive the parts for our eTNS system, and we then test and package our eTNS systems at, and ship them from, our Los Angeles facility.

We purchase our standard components manufactured to our specifications from single-source manufacturers. These single-source manufacturers are established manufacturers of medical device components with significant experience. We do not have long-term agreements with any of these suppliers. In June 2012, we received ISO 13485: 2003 certification, indicating that we operate a Quality Management System for the design, manufacturing and distribution of our eTNS system for the treatment of neurological and neuropsychiatric disorders.

We own the intellectual property rights to both the technology and the manufacturing process that are specific to our eTNS system components and therefore, if necessary, could either switch manufacturers or contract with additional manufacturers. However, due to the custom nature of our components and FDA restrictions on changes in the manufacturing process of approved products, it may be difficult to quickly establish additional or replacement suppliers for our single-source components. Certain components of our eTNS system, including the battery charging station, the nine-volt battery and system packaging, are easily obtainable from other sources.

We believe that our current suppliers will have sufficient capacity to meet the projected demand for our products at least through 2014. Our pulse generator manufacturer has the capacity to produce approximately 10,000 units per month, and the manufacturer of our single-use patches can produce millions of patches on an annual basis. However, we may need to contract with additional vendors as our sales increase, and we plan to obtain additional sources for our products to develop supply chain adequate to sustain manufacturing beyond the first year of commercial production.

Commercialization Strategy

Our targeted marketing strategy includes raising awareness, trial and usage of our eTNS system through educating and training KOLs and clinicians at academic medical centers. After receiving the required regulatory approval, we began commercializing our eTNS system in the EU and Canada in the first half of 2013, and in Australia in March 2014, through meetings with KOLs and clinicians, including dedicated epilepsy specialists at academic medical centers, which has triggered initial patient trials and sales. We also market our eTNS system through our web site to patients in areas where we have received marketing approval. In addition to such direct selling activities, we facilitate and support peer-to-peer interactions such as symposia, conference presentations, and patient support groups to provide experienced clinicians and patients the opportunity to share their perspectives on our eTNS system with others. We encourage investigators to present and publish their findings relating to our eTNS systems. We believe that referrals by physicians, nurses and educators, together with self-referrals by patients and caregivers, will drive initial adoption of our eTNS system. We are also seeking approval from third-party payers for reimbursement of the cost of eTNS treatment in key jurisdictions where our system has received regulatory approval to facilitate early patient access. Our ultimate goal is to establish reimbursement policy with both government payers and private insurers to promote broad adoption of our eTNS technology. To this end, we have designed our pivotal trial to demonstrate not only the safety and efficacy of eTNS as adjunctive treatment for DRE, but also to show that eTNS may improve patient quality of life and mood. If consistent with positive results of previous trials, the data from this pivotal trial will be used to demonstrate that, with respect to

 

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seizure control, patient quality of life and economic value, eTNS compares favorably with the current standard of care. One of the objectives of these efforts is to support development of favorable reimbursement policy in our target markets.

We do not yet have our sales, marketing and distribution infrastructure in place and have limited experience in the sale, marketing and distribution of medical devices. However, we plan to adopt a direct sales model by building a commercial infrastructure in territories where it is economically feasible. In select territories, we may use third parties to distribute our eTNS system through co-promotion and various other third-party arrangements. We anticipate that we may more efficiently penetrate certain markets pursuant to such third-party arrangements. We expect that the development of a capable sales, marketing and distribution infrastructure will require substantial resources and investment.

Initially, we plan to focus our commercialization efforts on DRE. The large patient population with DRE is treated by a relatively small number of specialist physicians. For example, data from IMS Health Incorporated indicates that approximately 3,800 neurologists were responsible for approximately 87% of the prescriptions written for the top three AEDs in the United States in 2013. Based on this data, we believe we can address a significant portion of this patient population with a targeted sales and marketing infrastructure. Commencing in the second half of 2014, we plan to commence the establishment of our medical affairs function in the EU, Canada and Australia to target epilepsy specialists and neurologists in each territory. One of the primary responsibilities of our medical affairs function will be to oversee observational trials at major epilepsy centers in these territories to generate “in-territory” data in support of our activities to secure reimbursement. Subsequent to establishing our medical affairs function we will commence development of a direct sales force in the EU, Canada and Australia. In 2015 and beyond, we intend to target psychiatrists and the primary care physicians who focus on neurological and neuropsychiatric disorders, beginning with major markets in the EU and Australia. We also plan to eventually develop a direct sales force in certain territories where we have received marketing approval to treat depression to target select psychologists, psychiatrists and primary care physicians with a large number of depression patients. In advance of our full commercial launch, we are raising awareness of our eTNS system through educating and KOLs and clinicians at academic medical centers in the EU, Canada and Australia. We are also seeking approval from third-party payers for reimbursement of the cost of eTNS treatment in key markets where our system has received regulatory approval, which we believe will remove barriers to adoption and thus drive greater sales volume.

If we obtain FDA approval to market our eTNS system as adjunctive treatment for DRE, we also intend to employ a direct sales force and medical affairs function in the United States. According to the National Association of Epilepsy Centers there are approximately 200 level 3 and level 4 epilepsy centers in the United States that provide comprehensive epilepsy care. These epilepsy centers will be the initial focus of our sales and marketing efforts. We plan to expand to community neurologists as eTNS gains acceptance. As a result, we believe a direct, highly-specialized and focused sales force will be effective for us to reach our target market for epilepsy. If we obtain FDA approval to market our eTNS system as adjunctive treatment for MDD, we intend to develop an additional sales force in the United States to target select psychologists, psychiatrists and primary care physicians with a large number of depression patients.

Intellectual Property

Our TNS technology originated at UCLA, an academic center for neuroscience research, and we have since further developed the TNS intellectual property and know-how. We hold a broad portfolio of intellectual property relating to TNS in the EU and the United States through in-licensing from UCLA as well as through development of our own intellectual property.

Protection of our intellectual property and proprietary technology is a strategic priority for our business. We rely on a combination of patent, trademark, copyright and trade secret laws along with institutional know-how and continuing technological advancement, to develop and maintain our competitive position. Our ability to protect and use our intellectual property rights in the continued development and commercialization of our technologies and products, and prevent others from infringing our proprietary rights, is crucial to our continued

 

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success. We will be able to protect our products and technologies from unauthorized use by third parties only to the extent that they are covered by valid and enforceable patents, trademarks or copyrights, or are effectively maintained as trade secrets, know-how or other proprietary information.

Our patent portfolio includes rights to patents and patent applications that we own, whether wholly-owned or co-owned, or we license from others. We have the exclusive rights to a large portfolio of pending TNS-related U.S. patent applications and their foreign counterparts. We aggressively seek patent protection in the United States and internationally for our products and technologies where and when we believe it is appropriate. Issued U.S. patents have a term that extends from issuance to approximately 20 years from the earliest effective priority date. The actual protection afforded by a foreign patent, which can vary from country to country, depends on the type of patent, the scope of its claims and the availability of legal remedies in the country. We have filed patent applications in eight countries and regions including the United States, Australia, Brazil, Canada, Europe, Japan, Korea, and Mexico. We have at least three PCT applications pending and at least 48 applications for which the patents have not yet been issued, of which at least seven are in the United States. We have three issued patents, two of which are entitled “Devices, Systems And Methods For Treatment Of Neuropsychiatric Disorders” (US 8,380,315 and US 8,700,164) and one of which is entitled “Systems, Devices and Methods for Treatment of Neurological Disorders and Conditions” (US 8,688,220). The earliest of our patents, US 8,380,315, does not expire until 2030.

The following patents and patent applications relate to our TNS technologies:

 

Patent and Patent Application Numbers

(including pending and expired applications)

 

Expected
Expiration Date

(absent any patent
term adjustment)

 

Description

US 61/354,641, US 61/305,514, US 61/289,829, US 61/248,827, US 8,380,315, US 12/898,685, US 12/898,696, US 8,688,220, US 8,700,164, AU 2010303589, BR 11 2012 008038 5, CA 2,776,697, EP 10822566.5, JP 2012-533258, KR 10-2012-7011819, MX/A/2012/004052, AU 2010303588, BR 11 2012 008033 4, CA 2,776,696, EP 10822565.7, JP 2012-533257, KR 10-2012-7011818, MX/A/2012/004051, AU 2010303583, BR 11 2012 008029 6, CA 2,776,693, EP 10822560.8, JP 2012-533255, KR 10-2012-7011816, MX/A/2012/004053, AU 2010303586, BR 11 2012 008028.8, CA 2,776,694, EP 10822563.2, JP 2012-533256, KR 10-2010-003-2-LA, MX/A/2012/004050, KR-10-2012-7011817, US 14/196,990, US 14/252,658 and foreign applications in certain jurisdictions claiming priority to PCT/US2010/051544, PCT/US2010/051542, PCT/US2010/051545, PCT/US2010/051539   October 5, 2030   Directed to TNS systems and methods using both cutaneous and subcutaneous electrodes
US 61/418,382, US 13/990,348, EP 11844592.3, CA 2,819,346 and foreign applications in certain jurisdictions claiming priority to PCT/US2011/062714   November 30, 2031   Directed to a pulse generator for TNS applications

 

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Patent and Patent Application Numbers

(including pending and expired applications)

 

Expected
Expiration Date

(absent any patent
term adjustment)

 

Description

61/445,505, US 61/423,011, US 61/440,784, US 61/479,787, US 13/994,541, AU 2011343763, EP 11849085.3, CA 2,821,981, JP 2013-544759, KR 10-2013-7018221 and foreign applications in certain jurisdictions claiming priority to PCT/US2011/065002   December 14, 2031   Directed to TNS systems and methods to treat a variety of medical disorders using cutaneous electrodes
US 61/440,802, US 61/445,454, US 61/479,779, US 61/423,008, US 13/994,512, EP 11849890.6, CA 2,821,721, JP 2013-544760 and foreign applications in certain jurisdictions claiming priority to PCT/US2011/065003   December 14, 2031   Directed to TNS systems and methods to treat a variety of medical disorders using subcutaneous electrodes
US 61/620,879, and (yet to be filed) foreign applications in certain jurisdictions claiming priority to PCT/US2013/035499   April 5, 2033   Directed to methods and systems for implanting the electrodes as well as adaptations for the electrode attachment after implantation
US 61/707,859 and (yet to be filed) foreign applications in certain jurisdictions claiming priority to PCT/US13/062749   September 30, 2033   Directed to cutaneous electrode for TNS therapy
US 61/815,718 and (yet to be filed) foreign applications in certain jurisdictions claiming priority to PCT/US2014/035347   April 24, 2034   Directed to application of TNS for modulating autonomic nervous activity and also to an integrated cutaneous electrode/pulse generator/and battery combination

We also rely on other forms of intellectual property rights and measures, including trade secrets and nondisclosure agreements, to maintain and protect proprietary aspects of our products and technologies. We require our employees and consultants to execute confidentiality agreements in connection with their employment or consulting relationships with us. We also require our employees and consultants to disclose and assign to us all inventions conceived during the term of their employment or engagement while using our property or which relate to our business.

In July 2010, we entered into an exclusive license agreement with UCLA. Pursuant to this agreement, as amended, UCLA granted us a worldwide exclusive license under certain patents and patent applications generally relating to transcutaneous and subcutaneous bilateral neurostimulation for the treatment of neuropsychiatric and neurological disorders. We are obligated to use commercially reasonable efforts to develop and commercialize one or more licensed products, and thereafter make licensed products reasonably available to the public. We must also achieve specified milestone events, such as enrolling the first subject in a company-sponsored clinical trial, and regulatory approval to market the product candidate, by specified dates. The license provides the flexibility of switching certain milestone timelines provided that we notify UCLA in writing. Additionally, the license provides that we may extend the milestone timelines under certain circumstances, by making a payment of $10,000 to UCLA and in such event, any later-occurring milestones will be similarly extended. The milestone timelines may also be extended pursuant to a written amendment to the license agreement for certain delays caused by the FDA or its EU equivalent. If we materially breach this agreement, then UCLA may give written notice of the default to us. We will then have a 90-day period from the effective date of such notice of default to entirely cure such default, and this 90-day period may be extended up to a maximum of 120 additional days if we provide to UCLA written bona fide good faith evidence that by using commercially reasonable efforts such default is not susceptible to repair within such 90-day period. However, failure to cure by the required timeframe does not result in a monetary penalty or obligation, other than as may result from the underlying breach. The

 

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license agreement further requires that we pay UCLA royalties on aggregate worldwide net sales, which include sales by sublicensees. The royalties are set at 0.5% to 1.5%, with set minimum annual royalties ranging from $5,000 to $45,000 per year, beginning with the first commercial sale of a licensed product, and our royalty payment obligation is offset by a portion (up to 33%) of payments made to a third party in consideration for patent rights in order to commercialize a licensed product. Upon achievement by us or our collaboration partners of specified clinical, regulatory and commercial events, we must also make contingent payments to UCLA totaling up to $165,000 for each TNS product candidate. As of the date of this prospectus, we were not obligated to make any milestone payments required by the license agreement. During 2014, we expect to enroll the first patient in a company-sponsored clinical trial, which would require us to pay a milestone payment of $15,000. We do not expect to be required to make any further milestone payments prior to December 31, 2014. We must also reimburse UCLA for all costs related to the prosecution and maintenance of the licensed patents rights, and must also pay UCLA a percentage, ranging from the mid-single digits to the low-mid double digits, of any consideration we receive from sublicensees.

The license agreement remains in effect until expiration or abandonment of all issued patents and filed patent applications within the rights licensed to us under the agreement. The agreement will be null and void if we assign the agreement or any of our rights or obligations thereunder in connection with a change of control and the proposed assignee fails to agree in writing to be bound by the terms and conditions of the agreement. UCLA may terminate the agreement if we materially breach the agreement and fail to cure such breach. UCLA may convert our license to a nonexclusive license, terminate our exclusivity on a field-by-field basis or terminate the agreement in its entirety if we fail to achieve certain milestones by specified dates. We may terminate the agreement for convenience upon three months’ prior notice.

Government Regulation

Our products are medical devices subject to extensive and ongoing regulation by the FDA and regulatory bodies in other countries. The Federal Food, Drug and Cosmetic Act, or FDCA, and the implementing regulations of the FDA govern product design and development, pre-clinical and clinical testing, premarket clearance or approval, product manufacturing, product labeling, product storage, advertising and promotion, product sales and distribution, and post-market clinical surveillance. We currently have the necessary regulatory approval to market our eTNS system in the EU as adjunctive treatment for epilepsy and MDD, in Canada for DRE, MDD and TRD for adults and children nine years and older and in Australia as adjunctive treatment for DRE for adults and children nine years and older. At this time, we do not have the necessary regulatory approval to market our eTNS system in the United States.

FDA Regulation

Unless an exemption applies, each medical device we wish to commercially distribute in the United States will require either prior 510(k) clearance or approval of a PMA application from the FDA. The FDA classifies medical devices into three classes. Devices requiring fewer controls because they are deemed to pose lower risk are placed in Class I or II. Class I devices are subject to general controls such as labeling, premarket notification and adherence to the Quality System Regulation, or QSR, of the FDA. Class II devices are subject to special controls such as performance standards, post-market surveillance and FDA guidelines, as well as general controls. Some Class I and Class II devices are exempt by regulation from the 510(k) clearance requirement and are not required to comply with most aspects of the QSR. Devices are placed in Class III, which requires approval of a PMA application, if they are deemed by the FDA to pose the greatest risk. These high-risk devices include life-sustaining, life-supporting or implantable devices and devices that are found to be “not substantially equivalent” either to a previously 510(k) cleared device or to a “preamendment” Class III device that was in commercial distribution before May 28, 1976 and for which PMA applications have not been required. The PMA approval procedure is more comprehensive than the 510(k) clearance procedure and typically takes several years to complete. We are following the PMA path for our eTNS system an adjunctive treatment for epilepsy. PMAs are more expensive than 510(k)s, as clinical trials are required to support a PMA application, and 510(k)

 

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clearance either requires no clinical data or less extensive clinical data. The FDA will also require us to obtain a PMA to receive FDA approval of sTNS. The PMA pathway can serve as a deterrent to competitors due to the time and expense required to obtain approval.

A PMA application must be supported by valid scientific evidence, which typically requires extensive data, including technical, pre-clinical, clinical, manufacturing and labeling data, to demonstrate, to the satisfaction of the FDA, the safety and efficacy of the device. A PMA application also must include a complete description of the device and its components, a detailed description of the methods, facilities and controls used to manufacture the device, and proposed labeling. After a PMA application is submitted and found to be sufficiently complete, the FDA begins an in-depth review of the submitted information. During this review period, the FDA may request additional information or clarification of information already provided. Also during the review period, an advisory panel of experts from outside the FDA may be convened to review and evaluate the application and provide recommendations to the FDA as to the approvability of the device. In addition, the FDA generally will conduct a pre-approval inspection of the manufacturing facility for a PMA product to ensure compliance with QSR, which requires manufacturers to follow design, testing, control, documentation and other quality assurance procedures.

FDA review of a PMA application generally takes between one and three years, but may take significantly longer. The FDA can delay, limit or deny approval of our PMA application for many reasons, including:

 

   

our product may not be safe or effective to the satisfaction of the FDA;

 

   

the data from our pre-clinical studies and clinical trials may be insufficient to support approval;

 

   

the manufacturing process or facilities that we or our contract manufacturers use may not meet applicable requirements; and

 

   

changes in FDA approval policies or adoption of new regulations may require additional data.

If the FDA evaluation of the PMA application is favorable, the FDA will either issue an approval order, which authorizes commercial marketing of the device for certain indications and subject to standard post-approval conditions, or an approvable letter, which describes specific information that must be provided or specific conditions that must be met in order to secure approval of the PMA. When and if the conditions in the approvable letter have been fulfilled to the satisfaction of the FDA, the agency will issue a PMA approval order. If the evaluation by the FDA of the PMA application or manufacturing facilities is not favorable, the FDA will deny approval of the PMA application or issue a not approvable letter. The FDA may also determine that additional clinical trials are necessary to support approval, in which case the PMA approval may be delayed for several months or years while the trials are conducted and the resulting data is submitted in an amendment to the PMA application. In addition, when approving a PMA application, the FDA may require us to conduct additional post-market studies. The PMA process can be expensive, uncertain and lengthy and a number of devices for which FDA approval has been sought by other companies have never been approved for marketing.

New PMA applications or PMA supplements may be required for modifications to the manufacturing process, labeling and device specifications, materials or design of a device that is approved through the PMA process. PMA approval supplements often require submission of the same type of information as an initial PMA application, except that the supplement is limited to information needed to support any changes from the device covered by the original PMA application and may not require as extensive clinical data or the convening of an advisory panel.

Clinical trials are almost always required to support a PMA application and are sometimes required for 510(k) clearance. When clinical trials are required in order to obtain FDA approval or clearance of a medical device, the sponsor of the trial must file an IDE application before commencing clinical trials for “significant risk” devices that pose a potential for serious risk to the health, safety, or welfare of a study subject. The IDE application must be supported by appropriate data, such as animal and laboratory testing results, showing that it is safe to test the device in humans and that the testing protocol is scientifically sound. The FDA reviews an IDE

 

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application before a study of a significant risk device may begin in the United States. An IDE application is considered approved 30 days after it is received by the FDA, unless the FDA otherwise informs the sponsor, prior to 30 calendar days from the date of receipt, that the IDE is approved, approved with conditions, or disapproved. In addition, the study must be approved by an institutional review board charged with protecting study subjects for each clinical site. When all approvals are obtained, the study may begin. In July 2013, the FDA approved with conditions our IDE application and, after we amended our application to address the specified conditions, the FDA unconditionally approved our IDE application in December 2013. The IDE allows us to commence a pivotal trial of our eTNS system as adjunctive treatment for DRE, which we expect to begin in the second half of 2014.

The FDA may grant an HDE to a medical device intended to treat a rare disease with an incidence of less than 4,000 new cases annually in the United States. For a device to qualify for an HDE, there must be no comparable device (other than another humanitarian use device or a device under an approved IDE) available to treat or diagnose the disease or condition, and the manufacturer must explain why the device would not be available unless an HDE were granted. According to FDA guidance, an HDE application is not required to contain the results of scientifically valid clinical investigations demonstrating that the device is effective for its intended purpose. In order to obtain HDE approval, it must be shown that the device will not expose patients to an unreasonable or significant risk of illness or injury and the probable benefit to health from use of the device outweighs the risk of illness or injury from its use. We believe it is therefore possible that results from a relatively small open-label trial could be used to obtain HDE approval, allowing us to commence U.S. commercialization of eTNS for LGS, a niche indication with significant unmet medical need, in a shorter timeframe than would be possible using the standard PMA development pathway. It should be noted that profits on sales of HDE-approved products are limited to an annual distribution number, defined as the number of devices reasonably needed to treat, diagnose, or cure a pediatric population of up to 4,000 individuals in the United States. With respect to HDE-approved products, the pediatric population consists of patients ages 21 and younger.

In April 2014, the FDA proposed draft guidance with respect to an EAP that, in its current form, contemplates a quicker path for companies to receive FDA approval to market “non-implantable” devices designed to treat “life-threatening or irreversibly debilitating diseases or conditions.” If the EAP is implemented before we complete our PMA application, we will consider meeting with the FDA concerning the EAP and will evaluate whether to pursue this accelerated pathway, but we will not delay commencement of our pivotal trial. Now that the 90-day comment period with respect to the draft guidance has expired, the FDA will review the submitted comments and consider revisions. The FDA has not announced a date by which it anticipates finalizing the guidance.

All clinical trials must be conducted in accordance with the IDE regulations of the FDA that govern investigational device labeling, prohibit promotion, and specify an array of recordkeeping, reporting and monitoring responsibilities of study sponsors and study investigators. Clinical trials must also comply with FDA regulations for institutional review board approval and for informed consent. Required records and reports are subject to inspection by the FDA. The results of clinical testing may be unfavorable or, even if the intended safety and efficacy success criteria are achieved, may not be considered sufficient for the FDA to grant approval or clearance of a product. The commencement or completion of any of our clinical trials may be delayed or halted, or be inadequate to support approval of a PMA application, for numerous reasons, including, but not limited to, those identified in those discussed above in the section of this prospectus captioned “Risk Factors—Risks Related to Our Legal and Regulatory Environment.”

We do not expect our eTNS system to be approved for sale in the United States before late 2016 at the earliest. Our clinical trials may not generate favorable data to support any further PMA applications, and we may not be able to obtain such approvals on a timely basis, or at all. Delays in receipt of or failure to receive such approvals, the loss of previously received approvals, or failure to comply with existing or future regulatory requirements would have a material adverse effect on our business, financial condition and results of operations. Even if granted, the approvals may include significant limitations on the intended use and indications for use for which our products may be marketed.

 

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After a device is approved and placed in commercial distribution, numerous regulatory requirements apply. These include requirements to:

 

   

register facilities and list products with the FDA and certain state agencies;

 

   

maintain a quality system for the development, design and manufacture of devices;

 

   

establish various specifications and controls for incoming components and finished devices;

 

   

ensure that devices are designed to meet specifications;

 

   

verify that finished devices are manufactured to the appropriate controls and that they meet specifications;

 

   

assure that devices are correctly implanted, checked and serviced;

 

   

track implantable devices through the distribution chain;

 

   

ensure that labeling and promotional activities are consistent with approved uses;

 

   

analyze quality data to identify and correct quality problems; and

 

   

review, evaluate and investigate complaints; and report certain complaints that meet the FDA’s criteria for medical device reporting and field actions (corrections and removals) to the FDA.

Additionally, the FDA may require us to conduct post-market surveillance studies or order us to establish and maintain a system for tracking our products through the chain of distribution to the patient level. Further, the FDA and the Food and Drug Branch of the California Department of Health Services enforce regulatory requirements by requiring licensure of medical device manufacturers and conducting periodic, unannounced inspections and market surveillance. Inspections may include the manufacturing facilities of our subcontractors.

The FDA enforces these requirements by inspection and market surveillance. The FDA periodically inspects manufacturing and supply facilities and clinical trial sites. If the FDA observes conditions at our manufacturing facilities, supply facilities or clinical trial sites that may constitute violations, we must correct the conditions or satisfactorily demonstrate the absence of the violations. If we are unable to do so, we may face regulatory action. Failure to comply with applicable regulatory requirements, including those applicable to the conduct of our clinical trials, can result in enforcement action by the FDA, which may lead to any of the sanctions identified in those discussed above in the section of this prospectus captioned “Risk Factors—Risks Related to Our Legal and Regulatory Environment.”

The FDA also has the authority to request repair, replacement or refund of the cost of any device manufactured or distributed by us. Recently, the FDA has placed an increased emphasis on enforcement of the QSR and other post-market regulatory requirements.

Other U.S. Regulation

We and our products are also subject to a variety of state and local laws in those jurisdictions where our products are or will be marketed, and to federal, state and local laws relating to matters such as our responsibilities as an employer, safe working conditions, manufacturing practices, environmental protection, fire hazard control and disposal of hazardous or potentially hazardous substances. We are also subject to various federal and state laws governing our relationships with the hospitals, physicians and others who purchase or make referrals for our products. For instance, federal law prohibits payments of any form intended to induce a referral for any item payable under Medicare, Medicaid or any other federal healthcare program. Many states have similar laws. We may incur significant costs to comply with such laws and regulations now or in the future.

International Regulation

International sales of medical devices are subject to foreign government regulations that may vary substantially from country to country. The time required to obtain approval in a foreign country may be longer or

 

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shorter than that required for FDA approval, and the requirements in each country may differ. However, there is a trend towards harmonization of quality system standards among the EU, United States, Canada, Australia and various other industrialized countries, although the standards are not fully harmonized.

EU

The primary regulatory environment in Europe is that of the EU, which includes most of the major countries in Europe. The law regarding medical devices is harmonized in the EU. The EU has issued Directive 93/42/EEC, a binding medical devices directive, and the member states of the EU have adopted this directive into binding national law. In addition, other countries, such as Switzerland, have voluntarily adopted laws and regulations relating to medical devices that mirror those of the EU. EU medical device directives regulate the design, manufacture, clinical trial procedures, labeling and adverse event reporting for medical devices. The method of assessing conformity varies depending on the class of the product, but normally involves a combination of self-assessment by the manufacturer and an assessment by a third-party, or a Notified Body. This assessment may consist of an audit of the quality system of the manufacturer and specific testing of the product of the manufacturer. Even though a Notified Body is a company under private law in one of the member states of the EU, all Notified Bodies in the EU are accredited to a national government of the EU. Only such accredited Notified Bodies may give a declaration of conformity which allows the applicant to commercialize the assessed medical device in all member states of the EU. In the EU, a medical device may only be distributed or commercialized if the device carries a CE mark. A Notified Body may grant the right to use the CE mark to a manufacturer or a distributor of medical devices.

In accordance with the medical devices directives and national law in the EU, a Notified Body assessed the design, manufacture, effectiveness, clinical trials and labeling of our eTNS system. Following this assessment, in August 2012, the competent Notified Body for the EU provided us with a declaration of conformity for our eTNS system, limited to the adjunctive treatment of DRE and MDD for adults and children nine years and older. Consequently, this declaration of conformity of the Notified Body allows us to commercialize our eTNS system in the EU for the adjunctive treatment of DRE and MDD for adults and children nine years and older, and our eTNS system may and must now carry the CE Mark in the EU. The Notified Body has not declared any conformity with regard to any other indications.

Canada

Each medical device we wish to commercially distribute in Canada requires a license from Health Canada. There are four classes of medical devices in Canada. Devices requiring fewer controls because they are deemed to pose lower risk are placed in Class I or II. Devices that are placed in Class III or IV are deemed by Health Canada to pose the greatest risk. Class II, III and IV devices must be manufactured under a quality management system that satisfies ISO  13485: 2003. In addition, the manufacturer of a medical device can only market the device in Canada in line with the indication for use for which it receives approval.

In certain cases, Health Canada will approve a medical device by issuing a license with conditions. These conditions must be met in order to maintain the device license in good standing. If the conditions require that additional data be submitted to Health Canada and the data is not provided by the deadlines imposed by Health Canada or the data provided is insufficient to address concerns of Health Canada regarding the safety or efficacy of the device, Health Canada may impose additional conditions on the license, or may suspend or cancel the license.

After a device is approved in Canada and placed in commercial distribution, numerous regulatory requirements apply. These include requirements to:

 

   

maintain a quality system certification for the design and manufacture of devices;

 

   

establish various specifications and controls for incoming components and finished devices;

 

   

ensure that devices are designed to meet specifications;

 

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verify that finished devices are manufactured to the appropriate controls and that they meet specifications;

 

   

ensure that labeling and promotional activities are consistent with approved uses;

 

   

analyze quality data to identify and correct quality problems; and

 

   

undertake mandatory problem reporting, associated with the device.

Our eTNS system received a Class II medical device license, with conditions, from Health Canada for the treatment of DRE, MDD and TRD for adults and children nine years and older. This Class II medical device license, with conditions was issued on April 29, 2013, and is directed to: (1) Monarch eTNS Lead Wire; (2) Monarch eTNS Pulse Generator; (3) Monarch eTNS System—Main Unit; and (4) Monarch NS-2 Electric Patch. It is unusual for Health Canada to issue a Class II medical device license with conditions. The original condition attached to this license required that we provide to Health Canada, before June 1, 2014, a clinical report discussing Phase III trial results from a larger subject population as additional evidence of clinical safety and efficacy of our eTNS system for the approved indications. On August 6, 2013, in response to our request submitted on July 30, 2013, Health Canada agreed to extend this clinical report deadline to June 1, 2016, provided that we submit quarterly updates to Health Canada on subject enrollment and any safety issues that may occur in the Phase III trial. Our quarterly reporting obligation commenced on January 15, 2014 and concludes on April 15, 2016, with the final clinical report discussing Phase III trial results due June 1, 2016. Failure to provide the quarterly reports by these dates or failure to provide the final clinical report by June 1, 2016 may result in the suspension of our Health Canada license.

In accordance with the Canadian Medical Device Regulations for Class II medical devices, we have a quality management system certification, ISO 13485: 2003, for the design, manufacturing and distribution of a neuromodulation therapy device for the treatment of neurological and neuropsychiatric disorders. The effective date of the certification is June 22, 2012 and the expiration date is June 21, 2015. Failure to renew this quality management system certification before June 21, 2015 or revocation of this certification will result in the suspension of our license in Canada.

In June 2013 we debuted our eTNS system as adjunctive treatment for epilepsy and depression. Our eTNS system is currently being sold by prescription in Canada to patients under physician supervision.

Australia

In Australia, the TGA, a Division of the Australian Government Department of Health, is responsible for regulating medical devices. Any products we manufacture in Australia or distribute in, or export from, Australia are subject to pervasive and continuing regulation by the TGA. Our products are subject to pre-market evaluation and approval by the TGA and, prior to commercial manufacture or sale, must be included on the Australian Register of Therapeutic Goods, or the ARTG. The ARTG is the register of information about therapeutic goods for human use that may be imported, supplied in or exported from Australia. Further, our manufacturing facilities must be licensed by the TGA and our products must be manufactured in accordance with international standards of Good Manufacturing Practice. The TGA carries out a range of ongoing assessment and monitoring activities, including sampling, adverse event reporting, surveillance activities, and response to public inquiries and undertakes assessments of products for export. The TGA also regulates the advertising, labeling, product appearance and guidelines of our products.

Given that the TGA recognizes European CE Marking, most medical device companies entering the Australian market, including us, already have CE Marking certification for their device. CE Mark certificates may be used as “Manufacturers Evidence” when submitting devices for inclusion in the ARTG. Our eTNS system was classified as a Class IIa medical device in Australia and received its ARTG certificate on March 26, 2014 allowing us to market our product in Australia.

 

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Third-Party Reimbursement

Major third-party payers for healthcare services in the United States and abroad continue to work to contain healthcare costs. The introduction of cost containment incentives, combined with closer scrutiny of healthcare expenditures by both private health insurers and employers, could result in increased discounts and contractual adjustments to healthcare provider charges for services performed. Initiatives to limit the growth of healthcare costs, including price regulation, are also underway in several countries. Implementation of healthcare reforms in the United States and in significant overseas markets such as Germany, and in other countries may limit the price of, or the level at which, reimbursement is provided for our products and adversely affect both our pricing flexibility and the demand for our products. Healthcare providers may respond to such cost-containment pressures by substituting lower cost products or other therapies for our products.

Legislative or administrative reforms to the U.S. or international reimbursement systems that significantly reduce reimbursement for the cost of eTNS treatment, or adverse decisions relating to our products by administrators of such systems in coverage or issues, would have an adverse impact on the products purchased by our customers and the prices our customers are willing to pay for them. This in turn would have an adverse effect on our business, financial condition and results of operations.

Third-Party Reimbursement in the U.S. Market

Our ability to successfully commercialize our eTNS system depends on our ability to obtain and maintain favorable third-party reimbursement for the device and follow-up care in the United States. This reimbursement would allow our customers to bill and be paid by third-party payers. No uniform policies for reimbursement of medical technology exists among all third-party payers. Therefore, reimbursement can differ significantly from payer to payer.

Medicare; Medicaid

Third-party payers may include government healthcare programs such as Medicare or Medicaid. Medicare is the federal health insurance program for people who are 65 or older, certain younger people with disabilities, and people with End-Stage Renal Disease. CMS is responsible for administering the Medicare program and, along with its contractors, establishes reimbursement policies for the Medicare program. Many third-party payers use coverage decisions and payment amounts determined by CMS as guidelines in setting their reimbursement policies.

Medicaid is the public insurance program that provides health coverage to low-income families and individuals, including children, parents, pregnant women, the elderly and people with disabilities. Medicaid is funded jointly by the federal government and the states, and each state operates its own Medicaid program within federal guidelines established by CMS. States are generally afforded flexibility in designing and administering their Medicaid programs, so Medicaid eligibility and benefits can vary widely from state to state.

We cannot ensure that Medicare or Medicaid will provide adequate reimbursement for our eTNS system or our other products. In order to establish coverage in the Medicare program, CMS must first recognize that our products fall within a Medicare benefit category, and then determine whether our products are reasonable and necessary for patients in particular circumstances. For example, CMS has issued a national determination that vagus nerve stimulation, or VNS, is covered under Medicare for patients with medically refractory partial-onset seizures for whom surgery is not recommended or for whom surgery has failed, but is not covered for patients with TRD. Also, certain CMS contractors have covered the use of transcranial magnetic stimulation, or TMS, as a treatment for depression in the outpatient setting in certain Medicare jurisdictions.

In the Medicaid program, most state Medicaid agencies have developed their own coverage policies for VNS as a treatment for epilepsy or have adopted the national Medicare policy, although payment amounts vary from state to state. With regard to VNS as a treatment for TRD, a small number of Medicaid programs provide coverage on a case-by-case basis, but most are still evaluating a coverage policy or have issued a non-coverage policy.

 

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We cannot ensure that CMS will treat our products similarly to VNS or TMS for purposes of coverage, coding or payment in the Medicare or Medicaid programs.

CMS has also recently made significant changes to the amounts that are reimbursed to hospitals and physicians. The Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act, or together, Affordable Care Act, were enacted into law in March 2010. A number of the provisions of the law are coming into effect currently and certain provisions of Affordable Care Act will become effective in future years and the administrative agencies responsible for issuing regulations that implement some aspects of Affordable Care Act have yet to do so. Accordingly, the consequences of Affordable Care Act are not yet fully understood. Certain provisions of Affordable Care Act focus on improving quality and decreasing costs in the Medicare program, however, which could affect reimbursement for our products. These provisions include requirements relating to value-based payment programs, and pilot programs to evaluate alternative payment methodologies that promote care coordination (such as bundled physician and hospital payments). Future changes to Medicare reimbursement may have an adverse effect on our future operating results. A decrease in reimbursement rates or a change in reimbursement methodology by CMS could have an adverse impact on our business and our future operating results.

Healthcare Reform

In the United States and foreign jurisdictions, there have been a number of legislative and regulatory changes to the healthcare system that could affect our future results of operations. In particular, there have been and continue to be a number of initiatives at the U.S. federal and state levels that seek to reduce healthcare costs.

In March 2010, the President signed into law the Affordable Care Act, a sweeping law intended to broaden access to health insurance, reduce or constrain the growth of healthcare spending, enhance remedies against healthcare fraud and abuse, add new transparency requirements for healthcare and health insurance industries, impose new taxes and fees on pharmaceutical and medical device manufacturers and impose additional health policy reforms. For example, the Affordable Care Act included a 2.3% excise tax on sales of certain devices by medical device manufacturers. Substantial new provisions affecting compliance have also been enacted, which may affect our business practices with healthcare practitioners and a significant number of provisions are not yet, or have only recently become, effective. Although it is too early to determine the full effect of the Affordable Care Act, the new law appears likely to continue the downward pressure on pharmaceutical pricing, especially under the Medicare program, and may also increase our regulatory burdens and operating costs.

In addition, other legislative changes have been proposed and adopted since the Affordable Care Act was enacted. For example, on August 2, 2011, the President signed into law the Budget Control Act of 2011, which, among other things, created the Joint Select Committee on Deficit Reduction to recommend to Congress proposals in spending reductions. The Joint Select Committee on Deficit Reduction did not achieve a targeted deficit reduction of at least $1.2 trillion for the years 2013 through 2021, triggering the legislation’s automatic reduction to several government programs. This includes aggregate reductions to Medicare payments to providers of up to 2% per fiscal year, starting in 2013. On January 2, 2013, President Obama signed into law the American Taxpayer Relief Act of 2012, which, among other things, reduced Medicare payments to several providers and increased the statute of limitations period for the government to recover overpayments to providers from three to five years. These new laws may result in additional reductions in Medicare and other healthcare funding, which could have a material adverse effect on our customers and accordingly, our financial operations.

We expect that the Affordable Care Act, as well as other healthcare reform measures that have been and may be adopted in the future, may result in more rigorous coverage criteria and in additional downward pressure on the price that we receive for any approved product, and could seriously harm our future revenues. Any reduction in reimbursement from Medicare or other government programs may result in a similar reduction in payments from private payers. The implementation of cost containment measures or other healthcare reforms may prevent us from being able to generate revenue, attain profitability, or commercialize our products.

 

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In addition, different pricing and reimbursement schemes exist in other countries. In the European Community, governments influence the price of pharmaceutical products through their pricing and reimbursement rules and control of national healthcare systems that fund a large part of the cost of those products to consumers. Some jurisdictions operate positive and negative list systems under which products may be marketed only once a reimbursement price has been agreed upon. Some of these countries may require, as condition of obtaining reimbursement or pricing approval, the completion of clinical trials that compare the cost-effectiveness of a particular product candidate to currently available therapies. Other member states allow companies to fix their own prices for medicines, but monitor and control company profits. The downward pressure on healthcare costs in general, particularly prescription drugs, has become very intense. As a result, increasingly high barriers are being erected to the entry of new products. In addition, in some countries, cross-border imports from low-priced markets exert a commercial pressure on pricing within a country.

Other Healthcare Laws and Compliance Requirements

In the United States, the research, manufacturing, distribution, sale and promotion of medical devices are potentially subject to regulation by various federal, provincial, 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 (e.g., the Office of Inspector General), the U.S. Department of Justice, state Attorneys General, and other state and local government agencies. For example, sales, marketing and scientific/educational grant programs must comply with fraud and abuse laws such as the federal Anti-Kickback Statute, as amended, the federal False Claims Act, as amended, and similar state laws.

The federal Anti-Kickback Statute prohibits any person, including a medical device manufacturer (or a party acting on its behalf), from knowingly and willfully soliciting, receiving, offering or providing remuneration, directly or indirectly, to induce or reward either the referral of an individual, or the furnishing, recommending, or arranging for a good or service, for which payment may be made under a federal healthcare program such as the Medicare and Medicaid programs. This statute has been interpreted to apply to arrangements between pharmaceutical manufacturers on one hand and prescribers, purchasers, and formulary managers on the other. The term “remuneration” is not defined in the federal Anti-Kickback Statute and has been broadly interpreted to include anything of value, including for example, gifts, discounts, the furnishing of supplies or equipment, credit arrangements, payments of cash, waivers of payments, ownership interests and providing anything at less than its fair market value. Although there are a number of statutory exemptions and regulatory safe harbors protecting certain business arrangements from prosecution, the exemptions and safe harbors are drawn narrowly, and practices that involve remuneration intended to induce prescribing, purchasing or recommending may be subject to scrutiny if they do not qualify for an exemption or safe harbor. Our practices may not in all cases meet all of the criteria for safe harbor protection from federal Anti-Kickback Statute liability. The reach of the Anti-Kickback Statute was broadened by the recently enacted Affordable Care Act, which, among other things, amends the intent requirement of the federal Anti-Kickback Statute such that a person or entity no longer needs to have actual knowledge of this statute or specific intent to violate it in order to have committed a violation. In addition, the Affordable Care Act provides that the government may assert that a claim including items or services resulting from a violation of the federal Anti-Kickback Statute constitutes a false or fraudulent claim for purposes of the federal False Claims Act (discussed below) or the civil monetary penalties statute, which imposes fines against any person who is determined to have presented or caused to be presented claims to a federal healthcare program that the person knows or should know is for an item or service that was not provided as claimed or is false or fraudulent. Additionally, many states have adopted laws similar to the federal Anti-Kickback Statute, and some of these state prohibitions apply to referral of patients for healthcare items or services reimbursed by any third-party payer, not only the Medicare and Medicaid programs in at least some cases, and do not contain safe harbors.

The federal False Claims Act imposes liability on any person or entity that, among other things, knowingly presents, or causes to be presented, a false or fraudulent claim for payment by a federal healthcare program. The qui tam provisions of the False Claims Act allow a private individual to bring civil actions on behalf of the

 

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federal government alleging that the defendant has submitted a false claim to the federal government, and to share in any monetary recovery. In recent years, the number of suits brought by private individuals has increased dramatically. In addition, various states have enacted false claims laws analogous to the False Claims Act. Many of these state laws apply where a claim is submitted to any third-party payer and not merely a federal healthcare program. There are many potential bases for liability under the False Claims Act. Liability arises, primarily, when an entity knowingly submits, or causes another to submit, a false claim for reimbursement to the federal government. The False Claims Act has been used to assert liability on the basis of inadequate care, kickbacks and other improper referrals, improperly reported government pricing metrics such as Best Price or Average Manufacturer Price, improper use of Medicare numbers when detailing the provider of services, improper promotion of off-label uses, and allegations as to misrepresentations with respect to the services rendered. Our future activities relating to the reporting of discount and rebate information and other information affecting federal, provincial, state and third party reimbursement of our products, and the sale and marketing of our products and our service arrangements or data purchases, among other activities, may be subject to scrutiny under these laws. We are unable to predict whether we would be subject to actions under the False Claims Act or a similar state law, or the impact of such actions. However, the cost of defending such claims, as well as any sanctions imposed, could adversely affect our financial performance.

HIPAA also created several new federal crimes, including healthcare fraud, and false statements relating to healthcare matters. The healthcare fraud statute prohibits knowingly and willfully executing a scheme to defraud any healthcare benefit program, including private third-party payers. The false statements statute prohibits knowingly and willfully falsifying, concealing or covering up a material fact or making any materially false, fictitious or fraudulent statement in connection with the delivery of or payment for healthcare benefits, items or services.

In addition, we may be subject to, or our marketing activities may be limited by, data privacy and security regulation by both the federal government and the states in which we conduct our business. For example, HIPAA and its implementing regulations established uniform federal standards for certain “covered entities” (healthcare providers, health plans and healthcare clearinghouses) governing the conduct of certain electronic healthcare transactions and protecting the security and privacy of protected health information. The American Recovery and Reinvestment Act of 2009, commonly referred to as the economic stimulus package, included expansion of HIPAA’s privacy and security standards called the Health Information Technology for Economic and Clinical Health Act, or HITECH, which became effective on February 17, 2010. Among other things, HITECH makes HIPAA’s privacy and security standards directly applicable to “business associates”—independent contractors or agents of covered entities that receive or obtain protected health information in connection with providing a service for or on behalf of a covered entity. HITECH also increased the civil and criminal penalties that may be imposed against covered entities, business associates and possibly other persons, and gave state attorneys general new authority to file civil actions for damages or injunctions in federal courts to enforce the federal HIPAA laws and seek attorney’s fees and costs associated with pursuing federal civil actions.

There are also an increasing number of state “sunshine” laws that require manufacturers to make reports to states on pricing and marketing information. Several states have enacted legislation requiring pharmaceutical companies to, among other things, establish marketing compliance programs, file periodic reports with the s