Note

–

Summary of Significant Accounting Policies

Use of Estimates

The preparation of financial statements, in conformity with accounting principles generally accepted in the U.S., requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Severance

Effective February 1, 2016, we terminated the Employment Agreement between ourselves and our then President and Chief Executive Officer (

Former CEO). During the first quarter of 2016, we incurred a severance charge of $1.2 million in selling, general and administrative expense under the terms of the Former CEO’s employment agreement, including $0.2 million related to stock option expense for certain options that will continue to vest through August 1, 2017. Of the $1.0 million in severance not related to stock-based compensation, $0.5 million was paid during the nine months ended September 30, 2016. The remaining $0.5 million will be paid through the third quarter of 2017.

2016 Restructuring Plan

In May 2016, we implemented a restructuring plan to conserve our resources

and focus on execution of the AEROSURF phase 2 clinical program. The total severance cost of $0.4 million for all impacted employees was charged to expense during the second quarter of 2016 ($0.3 million to research and development expenses and $0.1 million to selling, general and administrative expenses). We paid $0.1 million and $0.2 million of the severance during the second and third quarters of 2016, respectively. The remaining $0.1 million will be paid during the fourth quarter of 2016.

Research and Development Expense

We account for research and development expense by the following categories: (a) product development and manufacturing, (b)

medical and regulatory operations, and (c) direct preclinical and clinical programs. Research and development expense includes personnel, facilities, manufacturing and quality operations, pharmaceutical and device development, research, clinical, regulatory, other preclinical and clinical activities and medical affairs. Research and development costs are charged to operations as incurred.

Net Loss Per Common Share

Basic net loss per share is computed by dividing net loss by the weighted average number of common shares outstanding for the period. Diluted net loss per common share is computed by giving effect to all potentially dilutive securities outstanding for the period.

As of

September 30, 2016 and 2015, the number of shares of common stock potentially issuable upon the exercise of stock options and warrants was 9.4 million and 9.2 million shares, respectively. For the three and nine months ended September 30, 2016 and 2015, all potentially dilutive securities were anti-dilutive and therefore have been excluded from the computation of diluted net loss per share.

In accordance with Accounting Standards Codification Topic 260,

Earnings per Share,

when calculating diluted net loss per common share, a gain associated with the decrease in the fair value of warrants classified as derivative liabilities results in an adjustment to the net loss; and the dilutive impact of the assumed exercise of these warrants results in an adjustment to the weighted average common shares outstanding. We utilize the treasury stock method to calculate the dilutive impact of the assumed exercise of warrants classified as derivative liabilities. For the three and nine months ended September 30, 2016 and 2015, the effect of the adjustments for warrants classified as derivative liabilities was anti-dilutive.

We do not have any components of other comprehensive income (loss).

Recent Accounting Pronouncements

In August 2014, the Financial Accounting Standards Board (FASB) issued

Accounting Standards Update (ASU) No. 2014-15,

Presentation of Financial Statements – Going Concern

, which is intended to define management’s responsibility to evaluate whether there is substantial doubt about an organization’s ability to continue as a going concern and to provide related footnote disclosures. Substantial doubt about an entity’s ability to continue as a going concern exists when relevant conditions and events, considered in the aggregate, indicate that it is probable that the entity will be unable to meet its obligations as they become due within one year after the date that the financial statements are issued (or are available to be issued). ASU No. 2014-15 provides guidance to an organization’s management, with principles and definitions intended to reduce diversity in the timing and content of disclosures commonly provided by organizations in the footnotes of their financial statements. ASU No. 2014-15 is effective for annual reporting periods ending after December 15, 2016, and for annual and interim periods thereafter. While we currently intend to adopt the standard as of December 31, 2016, if this standard had been adopted as of September 30, 2016, management believes that it would have concluded that there is substantial doubt about the Company’s ability to continue as a going concern one year from the date of filing this Form 10-Q.

See

, Note 2 for additional information on our liquidity risks and management’s plans.

In February 2016, the FASB issued ASU No. 2016-02, amending the accounting for leases in

Leases

(ASU Topic 482). This ASU requires lessees to put most leases on their balance sheets but recognize expenses in the income statement in a manner similar to current accounting standards. The ASU is effective for the annual period ending December 31, 2019 and interim periods thereafter. Early adoption is permitted. Entities are required to use a modified retrospective approach for leases that exist or are entered into after the beginning of the earliest comparative period in the financial statements. We are currently evaluating the effect that ASU 2016-02 may have on our condensed consolidated financial statements and related disclosures.

In March

2016, the FASB issued ASU 2016-09,

Compensation- Stock Compensation

(ASU 2016-09). ASU 2016-09 was issued as part of the FASB Simplification Initiative. This update addresses the income tax effects of stock-based payments and eliminates the windfall pool concept, as all of the tax effects related to stock-based payments will now be recorded at settlement (or expiration) through the income statement. The new guidance also permits entities to make an accounting policy election for the impact of forfeitures on the recognition of expense for stock-based payment awards. Forfeitures can be estimated or recognized when they occur. The standard is effective for annual periods beginning after December 15, 2016 and interim periods within that reporting period. Early adoption is permitted in any interim or annual period, with any adjustment reflected as of the beginning of the fiscal year of adoption. We are currently evaluating the effect that ASU 2016-09 may have on our condensed consolidated financial statements and related disclosures.

In June 2016, the FASB issued ASU No. 2016-13,

Financial Instruments - Credit Losses: Measurement of Credit Losses on Financial Instruments

. This update amends the impairment model to utilize an expected loss methodology in place of the currently used incurred loss methodology, which will result in the more timely recognition of losses. The standard is effective for annual periods beginning after December 15, 2019, including interim periods within those fiscal years. Early adoption is permitted beginning in 2019, with a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is adopted. We are currently evaluating the effect that ASU 2016-13 may have on our condensed consolidated financial statements and related disclosures.