UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D. C. 20549

FORM 10-Q

For the quarterly period ended September 30, 2017

or

For the transition period from               to             

Commission File Number: 001-32979

Molecular Templates, Inc.

(Exact name of registrant as specified in its charter)

9301 Amberglen Blvd, Suite 100, Austin TX 78729

(Address of principal executive offices, including zip code)

(512) 869-1555

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ☒    No  ☐

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ☒    No  ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, 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.

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 7(a)(2)(B) of the Securities Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ☐    No  ☒

On November 8, 2017, there were 26,895,230 shares of common stock, par value $0.001 per share, of Molecular Templates, Inc. outstanding.

Molecular Templates, Inc.

TABLE OF CONTENTS

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PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

Molecular Templates, Inc.

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except share and per share data)

(unaudited)

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

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Molecular Templates, Inc.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS

(in thousands, except per share data)

(unaudited)

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

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Molecular Templates, Inc.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(unaudited)

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

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Molecular Templates, Inc.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1 — ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Nature of the Business

Molecular Templates, Inc. (the “Company” or “Molecular”), is clinical stage a biopharmaceutical company formed in 2001, with a biologic therapeutic platform for the development of novel targeted therapeutics for cancer and other diseases, headquartered in Austin, Texas. The Company’s initial focus is on the research and development of therapeutic compounds for a variety of cancers. Molecular operates its business as a single segment, as defined by U.S. generally accepted accounting principles (“U.S. GAAP”).

On August 1, 2017, the Company, formerly known as Threshold Pharmaceuticals, Inc. (Nasdaq: THLD) (“Threshold”), completed its business combination with the entity then known as Molecular Templates, Inc., a private Delaware Corporation (“Private Molecular”), in accordance with the terms of an Agreement and Plan of Merger and Reorganization, (the “Merger Agreement”), dated as of March 16, 2017, by and among Threshold, Trojan Merger Sub, Inc., a wholly owned subsidiary of Threshold (“Merger Sub”), and Private Molecular, pursuant to which Merger Sub merged with and into Private Molecular, with Private Molecular surviving as a wholly-owned subsidiary of Threshold (the “Merger”). Also on August 1, 2017, in connection with, and prior to the completion of, the Merger, Threshold effected an 11-for-1 reverse stock split of its common stock (the “Reverse Stock Split”) and changed its name to “Molecular Templates, Inc.” Following the completion of the Merger, the business conducted by the Company became primarily the business conducted by Private Molecular as described in the paragraph above.

Basis of Presentation

These unaudited interim condensed consolidated financial statements reflect the historical results of Private Molecular prior to the completion of the Merger, and do not include the historical results of the Company prior to the completion of the Merger. All share and per share disclosures have been adjusted to reflect the exchange of shares in the Merger, and the 11-for-1 reverse stock split of the common stock effected on August 1, 2017. Under U.S. GAAP, the Merger is treated as a “reverse merger” under the purchase method of accounting. For accounting purposes, Private Molecular is considered to have acquired Threshold. See Note 3, Merger with Private Molecular, for further details on the Merger and the U.S. GAAP accounting treatment.

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for pursuant to the requirements of the Securities and Exchange Commission (“SEC”) for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. The unaudited interim condensed consolidated financial statements have been prepared on the same basis as the annual consolidated financial statements. In the opinion of management, all adjustments, consisting only of normal recurring adjustments necessary for the fair presentation of results for the periods presented, have been included. The results of operations of any interim period are not necessarily indicative of the results of operations for the full year or any other interim period.

The preparation of condensed consolidated financial statements requires management to make estimates and assumptions that affect the recorded amounts reported therein. A change in facts or circumstances surrounding the estimate could result in a change to estimates and impact future operating results.

The unaudited condensed consolidated financial statements and related disclosures have been prepared with the presumption that users of the interim unaudited condensed consolidated financial statements have read or have access to the audited consolidated financial statements for the preceding fiscal year. Accordingly, these unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto for the year ended December 31, 2016 included in the Company’s Amended Registration Statement on Form S-4/A filed with the SEC on June 27, 2017.

The unaudited condensed consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries, and reflect the elimination of intercompany accounts and transactions.

Prior Year’s Presentations

Certain amounts in the prior year’s presentations have been reclassified to conform to the current presentation.  These reclassifications had no effect on previously reported net loss.

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Revenue Recognition

The accounting guidance for revenue recognition requires that the following criteria must be met before revenue can be recognized: (i) persuasive evidence of an arrangement exists; (ii) delivery has occurred or services have been rendered; (iii) the fee is fixed or determinable; and (iv) collectability is reasonably assured. Determination of whether persuasive evidence of an arrangement exists and whether delivery has occurred or services have been rendered are based on management’s judgments regarding the fixed nature of the fee charged for research performed and milestones met, and the collectability of those fees. Should changes in conditions cause management to determine these criteria are not met for certain future transactions, revenue recognized for any reporting period could be adversely affected.

Revenue under the Company’s license and collaboration arrangements is recognized based on the performance requirements of the contract. Collaboration agreements may include non-refundable license fees, research and development funding, cost reimbursements and contingent milestones and royalties. Under ASC 605-25, in multiple-element arrangement; fixed or determinable contract consideration is allocated to the deliverables with stand-alone value and revenue is recognized for each such deliverable according to the method appropriate for each deliverable. Revenue is allocated to each element using a selling price hierarchy, using the selling price for an element based on vendor specific objective evidence (“VSOE”); third-party evidence (“TPE”); or the best estimate of selling price, if neither VSOE nor TPE is available.

Upfront, non-refundable licensing payments are assessed to determine whether or not the licensee is able to obtain stand-alone value from the license. Where the license does not have stand-alone value, non-refundable license fees are recognized as revenue as the Company performs under the applicable agreement. Where the license has stand-alone value, the Company recognizes total license revenue at the time all revenue recognition criteria have been met.

The Company receives funds from a state financial assistance program, which is a conditional cost reimbursement grant and revenue is recognized as allowable costs are paid. The Company recognized approximately $0 million and $0.2 million in grant revenue under these awards during the three and nine months ended September 30, 2017 compared to $0 and $1.5 million for the three and nine months ended September 30, 2016, respectively. Amounts collected in excess of revenue recognized are recorded as deferred revenue.

Accounts Receivable

Accounts receivable represent valid claims against customers. Management reviews accounts receivable regularly to determine if any receivable amounts are potentially uncollectible and then estimates the amount of allowance for doubtful accounts necessary to reduce the accounts receivable to estimate its net realizable value. As of September 30, 2017, management believes there were no receivable amounts requiring an allowance for doubtful accounts.

Concentration of Credit Risk and Other Risks and Uncertainties

Financial instruments that potentially subject the Company to concentrations of risk consist principally of cash and cash equivalents, investments, long term debt and accounts receivable.

The Company’s cash, cash equivalents and investments are invested in deposits with two major financial institutions in the United States. Deposits in these banks may exceed the amount of insurance provided on such deposits. The Company has not experienced any realized losses on its deposits of cash, cash equivalents or investments.

The Company performs an ongoing credit evaluation of its strategic partners’ financial conditions and generally does not require collateral to secure accounts receivable from its strategic partners. The Company’s exposure to credit risk associated with non-payment will be affected principally by conditions or occurrences within Takeda Pharmaceutical Company Ltd. (“Takeda”). Approximately 100% and 74% of total revenues for the three and nine months ended September 30, 2017, were derived from Takeda. There were no accounts receivable due from Takeda at December 31, 2016. See also Note 4, Research and Development Collaboration Agreement, regarding the collaboration agreements with Takeda.

Drug candidates developed by the Company may require approvals or clearances from the U.S. Food and Drug Administration (“FDA”) or international regulatory agencies prior to commercial sales. There can be no assurance that the Company’s drug candidates will receive any of the required approvals or clearances. If the Company were to be denied approval or clearance or any such approval or clearance were to be delayed, it would have a material adverse impact on the Company.

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Intangible Assets (Patents)

Intangible assets consist of patents in application statuses which are not yet subject to amortization, and which management has deemed to have an alternative future use.

In-process Research & Development

In-process research and development, or IPR&D, represents the fair value assigned to research and development assets that were not fully developed as of the completion of the Merger. IPR&D acquired in a business combination is capitalized on the Company’s balance sheet at its acquisition-date fair value. Until the project is completed, the asset is accounted for as an indefinite-lived intangible asset subject to impairment testing. Upon completion of a project, the carrying value of the related IPR&D is reclassified to intangible assets and is amortized over the estimated useful life of the asset. The Company evaluates the potential impairment of its intangible assets if events or changes in circumstances indicate that the carrying amount of the asset may not be fully recoverable.

Recently Issued Accounting Pronouncements

In November 2015, the Financial Accounting Standards Board (FASB) issued an accounting standard update for the presentation of deferred income taxes. Under this new guidance, deferred tax liabilities and assets should be classified as noncurrent in a classified balance sheet. The update is effective for the Company beginning in the first quarter of fiscal year 2017 with early adoption permitted as of the beginning of an interim or annual reporting period. Additionally, this guidance may be applied either prospectively or retrospectively to all periods presented. We adopted the standard in the first quarter of 2017 and it did not have a material impact to our consolidated financial statements

In May 2014, the FASB issued Accounting Standards Update (“ASU”) 2014-09, Revenue from Contracts with Customers (Topic 606), or ASU 2014-09, which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. ASU 2014-09 will replace most existing revenue recognition guidance in U.S. GAAP when it becomes effective. In March 2016, the FASB amended the principal-versus-agent implementation guidance and illustrations in the new standard. In April 2016, the FASB amended the guidance on identifying performance obligations and the implementation guidance on licensing in the new standard. In May 2016, the FASB amended the guidance on collectability, noncash consideration, presentation of sales tax and transition in the new standard. In December 2016, the FASB issued ASU No. 2016-20, “Technical Corrections and Improvements to Topic 606, Revenue from Contracts with Customers,” which amends certain narrow aspects of the guidance issued in ASU 2014-09. The new standard will become effective starting on January 1, 2018. Early application is permitted to the original effective date of January 1, 2017. The Company will adopt the standard on January 1, 2018. The standard permits the use of either the modified retrospective method or full retrospective approach for all periods presented. While the Company is continuing to assess all potential impacts of the standard, the Company believes the most significant accounting impact will relate to the timing of the recognition of our license, collaboration, and milestone revenues.

In March 2016, the FASB issued ASU No. 2016-09, “Improvements to Employee – Share Based Payment Accounting,” or ASU 2016-09," which amends ASC Topic 718, “Compensation – Stock Compensation.” ASU 2016-09 simplifies several aspects of the accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows. The standard is effective for fiscal years beginning after December 15, 2016, and interim periods within those fiscal years and early adoption is permitted. The Company adopted the standard effective January 1, 2017 and the adoption did not have a material effect on its condensed consolidated financial statement.

In February 2016, the FASB issued ASU 2016-02, “Leases (Topic 842).” ASU 2016-02 requires management to record right-to-use asset and lease liability on the statement of financial position for operating leases. ASU 2016-02 is effective for annual and interim reporting periods beginning on or after December 15, 2018 and the modified retrospective approach is required. The Company is in the process of evaluating the impact the adoption of this standard would have on its financial statements and disclosures.

In May 2017, the FASB issued ASU 2017-09, “Compensation – Stock Compensation (Topic 718)": Scope of Modification Accounting” to clarify when to account for a change to the terms or conditions of a share-based payment award as a modification. Under this new guidance, modification accounting is required if the fair value, vesting conditions, or classification of the award changes as a result of the change in terms or conditions. ASU 2017-09 is effective for annual reporting periods beginning after December 15, 2017, including interim reporting periods within each annual reporting period. The Company does not expect the adoption of this guidance to have a material impact on its financial statements or disclosures.

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NOTE 2 — NET LOSS PER SHARE

Basic net loss per common share is computed by dividing net loss by the weighted-average number of common shares outstanding during the period. Diluted net loss per share is computed by giving effect to all potential dilutive common shares, including outstanding options and warrants.

Potential dilutive common shares also include the dilutive effect of the common stock underlying in-the-money stock options and warrants that were calculated based on the average share price for each period using the treasury stock method. Under the treasury stock method, the exercise price of an option or warrant is assumed to be used to repurchase shares in the current period. In addition, the average amount of compensation cost for in-the-money options, if any, for future service that the Company has not yet recognized when the option is exercised, is also assumed to repurchase shares in the current period. A reconciliation of the numerator and denominator used in the calculation is as follows (in thousands, except share and per share amounts):

The following outstanding warrants and options were excluded from the computation of diluted net loss per share for the periods presented because including them would have had an antidilutive effect (in thousands):

NOTE 3 — MERGER WITH PRIVATE MOLECULAR

On August 1, 2017, the Company, formerly known as Threshold, completed its business combination with Private Molecular, in accordance with the terms of the Merger Agreement, dated as of March 16, 2017, by and among Threshold, the Merger Sub, a wholly owned subsidiary of Threshold, and Private Molecular, pursuant to which Merger Sub merged with and into Private Molecular, with Private Molecular, surviving as a wholly-owned subsidiary of Threshold (the “Merger”). Immediately upon completion of the Merger, the former stockholders of Private Molecular stockholders held a majority of the voting interest of the combined company.

Also on August 1, 2017, in connection with, and prior to the completion of, the Merger, Threshold effected an 11-for-1 reverse stock split of its common stock (the “Reverse Stock Split”) and changed its name from Threshold Pharmaceuticals, Inc. to Molecular Templates, Inc. Under the terms of the Merger, at the effective time of the Merger, the Company issued shares of its common stock to Private Molecular stockholders, at an exchange ratio of 7.7844 shares of common stock (the “Exchange Ratio”), after taking into account the Reverse Stock Split, in exchange for each share of Private Molecular common stock outstanding immediately prior to the Merger.   Immediately following the closing of the Merger on August 1, 2017, the former Threshold stockholders owned approximately 34.4% of the aggregate number of shares of common stock of the Company and the former Private Molecular stockholders owned approximately 65.6% of the shares of common stock of the Company, subject to adjustments in accordance with the merger agreement.

All Private Molecular stock options granted under the Private Molecular stock option plan (whether or not then exercisable) outstanding prior to the effective time of the Merger were exchanged for options to purchase the Company’s common stock. All outstanding and unexercised Private Molecular stock options assumed by the Company may be exercised solely for shares of the Company’s common stock. The number of shares of the Company’s common stock subject to each Private Molecular stock option assumed by the Company was determined by multiplying (a) the number of shares of Private Molecular common stock that were subject to such Private Molecular stock option, as in effect immediately prior to the effective time of the merger by (b) the Exchange Ratio and and dividing by 11 (to account for the Reverse Stock Split); rounding the resulting number down to the nearest whole number of shares of the Company’s common stock. The per share exercise price for the Company’s common stock issuable upon exercise of each Private Molecular stock option assumed by the Company shall be determined by dividing (a) the per share exercise

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price of Private Molecular common stock subject to such Private Molecular stock option, as in effect immediately prior to the effective time of the merger, by (b) the Exchange Ratio, and multiplying by 11 (to account for the Reverse Stock Split); rounding the resulting exercise price up to the nearest whole cent. The exchange of the Private Molecular stock options for the Company’s stock options was treated as a modification of the awards.

Threshold equity awards issued and outstanding at the time of the Merger will remain issued and outstanding. However, for accounting purposes, Threshold equity awards will be assumed to have been exchanged for equity awards of Private Molecular, the accounting acquirer. As of August 1, 2017, Threshold had outstanding stock options to purchase 963,681 shares of common stock, of which stock options to purchase 963,681 shares were vested and exercisable at a weighted average exercise price of $33.62 per share, after giving effect to the Reverse Stock Split.

Allocation of Purchase Consideration

Pursuant to business combination accounting, the Company applied the acquisition method, which requires the assets acquired and liabilities assumed be recorded at fair value with limited exceptions.

The purchase price for Threshold on August 1, 2017, the closing date of the Merger, was as follows (in thousands, except per share amounts):

Under the acquisition method of accounting, the total purchase price was allocated to tangible and identifiable intangible assets acquired and liabilities assumed of Threshold on the basis of their estimated fair values as of the transaction closing date on August 1, 2017.

The following table summarizes the allocation of the purchase consideration to the assets acquired and liabilities assumed based on their fair values as of August 1, 2017 (in thousands):

The Company believes that the historical values of Threshold’s current assets and current liabilities approximate fair value based on the short-term nature of such items. The final allocation of the purchase price is dependent on the finalization of the valuation of the fair value of assets acquired and liabilities assumed and may differ from the amounts included in these financial statements. The Company expects to complete the final allocation as soon as practical but no later than one year from the acquisition date.

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In Process Research and Development

The Company used the risk adjusted discounted cash flow method to value the in-process research and development intangible asset.  Under the valuation method, the present value of future cash flows expected to be generated from the in-process research and development of the acquired product candidate, evofosfamide, was determined using a discount rate of 12%, and identified projected cash flows from evofosfamide were risk adjusted to take into consideration the probabilities of moving through the various clinical stages.  

Goodwill

The excess of the purchase price over the assets acquired and liabilities assumed represents goodwill. The goodwill is primarily attributable to the synergies expected to arise after the acquisition and is not expected to be deductible for tax purposes.  

Transaction Costs

Transaction costs associated with the Merger of approximately $1.9 million are included in general and administrative expense.

Threshold Promissory Note

On March 24, 2017, the Company received $2.0 million from Threshold in the form of a promissory note at an interest rate of 1% per annum. The Company received an additional $2.0 million on June 1, 2017. The note was settled as part of the Merger.

Share Based Awards

The exchange of Private Molecular stock options to purchase Threshold common stock, as renamed Molecular, was accounted for as a modification of the awards because the legal exchange of the awards is considered a modification of Private Molecular stock options.  The modification of the stock options did not result in any incremental compensation expense as the modification did not increase the fair value of the stock options.

Additionally, pursuant to the terms of the Merger Agreement, participants in the 2014 Equity Incentive Plan received accelerated vesting for all or a portion of their pre-merger awards as well as a modification of the exercise period. The Company recorded $1.2 million in stock compensation associated with the transaction. See Note 12, Stock Based Compensation, for further details about stock based compensation recorded.

Pro Forma Results in connection with the Merger

The Company’s operating results include $142,000 of operating expenses attributable to the former Threshold business activities for the period of August 1, 2017 to September 30, 2017.

The unaudited financial information in the following table summarizes the combined results of operations of the Company and Threshold, on a pro forma basis, as if the Merger occurred at the beginning of the periods presented (in thousands, except per share data).

The above unaudited pro forma information was determined based on historical GAAP results of Molecular and Threshold. The unaudited pro forma combined results do not necessarily reflect what the Company’s combined results of operations would have been, if the acquisition was completed on January 1, 2016. The unaudited pro forma combined net loss includes pro forma adjustments primarily related to the following non-recurring items directly attributable to the business combinations:

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NOTE 4 — RESEARCH AND DEVELOPMENT COLLABORATION AGREEMENTS

Related Party Collaboration Agreement - Takeda Pharmaceuticals, Inc.

Takeda Collaboration Agreement

In October 2016, Private Molecular entered into a collaboration and option agreement (the “Takeda Collaboration Agreement”) with Millennium Pharmaceuticals, Inc., a wholly owned subsidiary of Takeda, to discover and develop CD38-targeting engineered toxin bodies (“ETBs”), which includes MT-4019 for evaluation by Takeda. Under the terms of the Takeda Collaboration Agreement, Molecular is responsible for providing to Takeda (i) new ETBs generated using Takeda’s proprietary fully human antibodies targeting CD38 and (ii) MT-4019 for in vitro and in vivo pharmacological and anti-tumor efficacy evaluations. Molecular granted Takeda (1) a background IP license during the term of the Takeda Collaboration Agreement, and (2) an exclusive option during the term of the Takeda Collaboration Agreement and for a period of thirty days thereafter, to negotiate and obtain an exclusive worldwide license to develop and commercialize any ETB that may result from this collaboration, including MT-4019.

Molecular received an upfront payment of $2.0 million in technology access fees and cost reimbursement associated with the Company’s performance and completion of the Company’s obligations under the agreement.

The Company determined that the deliverables under the Takeda Collaboration Agreement were the background IP license, as well as the research and development services. The option to license ETBs is a substantive option, and not deemed a deliverable. The Company determined that there was one unit of accounting, since the background IP license did not have standalone value. Revenues are recognized over the period that the research and development services occur using the proportional performance model.

During the three and nine months ended September 30, 2017, the Company recorded collaboration revenue from Takeda of $0.6 and $1.9 million, respectively, under the Takeda Collaboration Agreement. During the three and nine months ended September 30, 2016, the Company recorded no collaboration revenue from Takeda since the agreement was not yet in place.    

Takeda Multi-Target Agreement

In June 2017, Molecular entered into a Multi-Target Collaboration and License Agreement with Takeda (“Takeda Multi-Target Agreement”) in which Molecular will collaborate with Takeda to identify and generate ETBs, against two targets designated by Takeda. Takeda will designate certain targets of interest as the focus of the research. Each party grants to the other nonexclusive rights in its intellectual property for purposes of the conduct of the research, and Molecular agrees to work exclusively with Takeda with respect to the designated targets.

Under the Takeda Multi-Target Agreement, Takeda has an option during an option period to obtain an exclusive license under Molecular’s intellectual property to develop, manufacture, commercialize and otherwise exploit ETBs against the designated targets. The option period for each target ends three months after the completion of the evaluation of such designated target.

Molecular received an upfront fee of $1.0 million and is entitled to receive an additional $2 million upon the designation of each of the two targets. Molecular may also receive an additional $25.0 million, in aggregate through the exercise of the option to license ETBs. Additionally, Molecular is entitled to receive up to approximately $545.0 million in additional milestone payments through preclinical and clinical development and commercialization. Molecular is also entitled to tiered royalty payments of a mid-single to low-double digit percentage of net sales of any licensed ETBs, subject to certain reductions.

The Takeda Multi-Target Agreement will expire on the expiration of the option period (within three months after the completion of the evaluation of each designated target) for the designated targets if Takeda does not exercise its options, or, following exercise of the option, on the later of the expiration of patent rights claiming the licensed ETB or ten years from first commercial sale of a licensed ETB. Takeda Multi-Target Agreement may be sooner terminated by Takeda for convenience or upon a Molecular change of control, or by either party for an uncured material breach of the agreement.

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The Company determined that the deliverables under the Takeda Multi-Target Agreement were the background IP license, the research and development services, and manufacturing know-how. The option to license ETBs is a substantive option, considered to be at fair value, and not deemed a deliverable. The Company determined that there was one unit of accounting, since the background IP license, and the manufacturing know-how did not have standalone value. Revenues are recognized over the period that the research and development services occur using the proportional performance model.

In connection with the execution of the Takeda Multi-Target Agreement. Takeda also entered into a stock purchase agreement with the Company (“Takeda Stock Purchase Agreement”), pursuant to which Takeda purchased approximately $20.0 million of shares of the Company’s common stock following the reverse-merger in the third quarter of 2017. See Note 11. Stockholders’ Equity, for further details. Since the Takeda Stock Purchase Agreement was contingent, it was not a deliverable under the Takeda Multi-Target Agreement.  

During the three and nine months ended September 30, 2017, the Company recorded no collaboration revenue under the Multi-Target Takeda Agreement, since no services had been performed under the project.

Grant Agreements

The Company receives funds from a state grant funding program, which is a conditional cost reimbursement grant and revenue is recognized as allowable costs are paid. In November 2011, Private Molecular was awarded a $10.6 million product development grant from CPRIT for its CD20-targeting ETB MT-3724. To date, Molecular has received $9.5 million in grant funds. The Company did not recognized any grant revenue under these awards during the three months ended September 30, 2017 and 2016, respectively. The Company recognized approximately $0.2 million and $1.5 million in grant revenue under these awards during the nine months ended September 30, 2017 and 2016, respectively. Amounts collected in excess of revenue recognized are recorded as deferred revenue.

NOTE 5 — RELATED PARTY TRANSACTIONS

Convertible Notes

As of September 30, 2017 and December 31, 2016, the Company had received an aggregate of approximately $10,000,000 and $7,315,038, respectively, from stockholders under secured convertible promissory notes (the “Notes”). All of the Notes issued in 2017 and 2016 had the same terms. The Notes were subordinate to the long-term debt due to Silicon Valley Bank (See Note 8. Borrowing Arrangements) and accrue interest at a rate of 5.0% per annum, which was due with all unpaid principal on the maturity date of September 7, 2017. In connection with the Merger, the holders of the Notes agreed to convert the Notes based on an agreed upon price of $3.36 per share. As a result, the Company recorded a loss on conversion of notes of $4.7 million during the three and nine months ended September 30, 2017, since the agreed upon price was below the fair value of the Notes at the time of the Merger.

Takeda Collaboration and Stock Purchase

In connection with the Takeda Stock Purchase Agreement described in Note 4. Research and Development Collaboration Agreements, Takeda became a related party, following the stock purchase. Refer to Note 4. Research and Development Collaboration Agreements for more details about the Takeda Collaboration Agreement and the Takeda Multi-Target Agreement. Refer to Note 11. Stockholders’ Equity, for more detail about the Takeda Stock Purchase Agreement.

Threshold Promissory Note

The Company received $4 million in the aggregate from Threshold during 2017 in the form on a promissory note, that was settled as part of the Merger. Refer to Note 3. Merger with Private Molecular, for more details about the Threshold promissory note.

Other

The Company incurred expenses to a stockholder for consulting fees which totaled approximately $15,000 for each of the three months ended September 30, 2017 and 2016 included in general and administrative expenses.

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NOTE 6 —MARKETABLE SECURITIES AND FAIR VALUE

The Company accounts for its marketable securities in accordance with ASC 820 “Fair Value Measurements and Disclosures.” ASC 820 defines fair value, establishes a framework for measuring fair value in GAAP, and expands disclosures about fair value measurements. ASC 820 defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. ASC 820 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:

Level 1—Quoted prices in active markets for identical assets or liabilities.

Level 2—Observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

Level 3—Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

The Company utilizes the market approach to measure fair value for its financial assets and liabilities. The market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities. For Level 2 securities that have market prices from multiples sources, a “consensus price” or a weighted average price for each of these securities can be derived from a distribution-curve-based algorithm which includes market prices obtained from a variety of industrial standard data providers (e.g. Bloomberg), security master files from large financial institutions, and other third-party sources. Level 2 securities with short maturities and infrequent secondary market trades are typically priced using mathematical calculations adjusted for observable inputs when available.

The following table sets forth the Company’s financial assets (cash equivalents and marketable securities) at fair value on a recurring basis as of September 30, 2017 and December 31, 2016 (in thousands):

The Company invests in highly-liquid, investment-grade securities. The following is a summary of the Company’s available-for-sale securities at September 30, 2017 and December 31, 2016 (in thousands):

There were no realized gains or losses in the three and nine months ended September 30, 2017 and 2016, respectively.  

Fair value of financial liabilities:

As of September 30, 2017 and December 31, 2016, the fair value of the long-term debt, payable in installments through year ended 2019, approximated its carrying value of $4.1 million and $5.6 million, respectively, because it is carried at a market observable interest rate, which are considered Level 2.

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The Company determined the fair value of the liability associated with its 2017 Warrants to purchase in aggregate 377,273 shares of outstanding common stock using a Black-Scholes Model. See detailed discussion in Note 11 — Stockholders’ Equity.

NOTE 7 — BALANCE SHEET COMPONENTS

Accrued liabilities were comprised of the following (in thousands):

Deferred revenue was comprised of the following:

NOTE 8 — BORROWING ARRANGEMENTS

In April 2014, the Company entered into a loan and security agreement with Silicon Valley Bank (“SVB”) that was subsequently amended in April 2015, to provide for (1) Growth Capital Advances to the Company of up to $6.0 million over three tranches based on corporate milestones (2) term loans of up to $6.0 million in the aggregate (“Growth Capital Loan”); (3) warrants to purchase 34,620 shares of the Company’s common stock at an exercise price of $3.07 per share under the amended loan and security agreement; and (4) a final fee of $345,000 due at the loan maturity date in addition to the principal and interest payments.  

The Company drew down $0.8 million and $2.3 million in May and June 2015 and issued warrants to purchase 17,310 shares of the Company’s common stock at an exercise price of $3.07 per share under the second and amended loan and security agreement. The Company drew down $3.0 million in April 2016 and issued warrants to purchase 17,310 shares of the Company’s common stock at an exercise price of $3.07 per share under the second term loan. The warrants issued in the Loan Agreement became exercisable upon issuance, and were converted into common stock upon the closing of the Merger.

As of September 30, 2016, the Company has received $6 million in the aggregate from this loan and security agreement. The Company is required to repay the outstanding principal in 30 equal installments beginning November 1, 2016 and is due in full on April 30, 2019. Interest accrues at a rate of 1.19% above prime, or 5.44% per annum as of September 30, 2017.  Interest only payments were made monthly and beginning November 1, 2016, the Company paid the first of thirty consecutive equal monthly payments of principal plus interest.

The Company paid approximately $1,800,000 in principal and $187,000 in interest in the nine months ended September 30, 2017 and $0 in principal and $156,000 in interest in the nine months ended September 30, 2016. The final fee of $345,000 is being accreted to interest expense over the life of the loan using the effective interest method. The Growth Capital Loan matures on April 30, 2019 and is secured by substantially all assets of the Company. The Company does not have any financial loan covenants related to the Growth Capital Loan.

As of September 30, 2017 and December 31, 2016 the Growth Capital Loan balance was $4,145,000 and $5,600,000, respectively. As of September 30, 2017 and December 31, 2016, the Company was in compliance with the non-financial covenants of the Growth Capital Loan.

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Future required principal payments on the Growth Capital Loan were as follows as of September 30, 2017 (in thousands):

NOTE 9 — COMMITMENTS AND CONTINGENCIES

The Company is obligated under operating lease agreements covering the Company’s office facilities. Facilities expense under the operating leases was approximately $182,000 and $57,000 for the three months ended September 30, 2017 and 2016, respectively and approximately $387,000 and $187,000 for the nine months ended September 30, 2017 and 2016, respectively.

In August, 2017, the Company executed new lease amendments and a new lease for facilities in Austin, Texas and Jersey City, New Jersey, respectively.

Future minimum payments due under the operating lease agreements at September 30, 2017 were as follows (in thousands):

The Company leases laboratory equipment under non-cancelable capital lease agreements. As of September 30, 2017 and December 31, 2016, laboratory equipment under capital leases included in property and equipment totaled approximately $171,000 and $136,000, respectively, net of accumulated amortization of approximately $66,000 and $44,000, respectively. Future minimum capital lease payments consisted of the following at September 30, 2017 (in thousands):

NOTE 10 — REDEEMABLE CONVERTIBLE PREFERRED STOCK

The following is a summary of the Company’s redeemable convertible preferred stock at September 30, 2017 and December 31, 2016 (collectively, the “Preferred Stock”):

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On August 1, 2017, the Company’s preferred stock was converted to common shares as a result of the Merger.

The following table presents changes in the preferred stock:

NOTE 11 — STOCKHOLDERS’ EQUITY

Equity Financings

On August 1, 2017, the Company entered into the a securities purchase agreement with Longitude Venture Partners III, L.P. and certain other accredited investors (the Longitude Securities Purchase Agreement”), pursuant to which the Company sold an aggregate of 5,793,063 units (the “Units”) accredited investors (the Longitude Securities Purchase Agreement”), pursuant to which the Company sold an aggregate of 5,793,063 units (the “Units”) having an aggregate purchase price of $40.0 million, each such Unit consisting of (i) one (1) share (the “Shares”) of our common stock and (ii) a warrant (the “Warrants”) to purchase 2,896,532 shares of our common stock (the “Private Placement”). The Private Placement was pursuant to equity commitment letter agreements entered into by and between the Company and investors in March and June 2017. The purchase price per Unit was $6.9048. The Warrants will be exercisable for a period of seven years from the date of their issuance at a per-share exercise price of $6.8423 (which exercise price shall be payable in cash or through a cashless exercise mechanic), subject to certain adjustments as specified in the Warrants.  At September 30, 2017, there were warrants outstanding under this agreement to purchase 2,896,532 share of common stock.  The value of these warrants is included in additional paid-in capital on the balance sheet.

In connection with the execution of the Takeda Multi-Target Agreement, Threshold and Private Molecular entered into the Takeda Stock Purchase Agreement. Pursuant to the Takeda Stock Purchase Agreement, following the consummation of the Merger and Private Placement, Takeda purchased 2,922,993 shares of the Company common stock, at a price per share of $6.84, for an aggregate purchase price of $20 million.

Common Stock Warrant Valuation

The Company accounts for certain of its common stock warrants under guidance in ASC 480 that clarifies the determination of whether an instrument is classified as a liability or equity. Due to change in control provisions outside of the Company’s control in the warrant agreement, the guidance requires the Company’s outstanding warrants to be classified as liabilities and to be fair valued at each reporting period, with the changes in fair value recognized as other income (expense) in the Company’s consolidated statements of operations.

The following table is a reconciliation of the warrant liability measured at fair value using level 3 inputs (in thousands):

At September 30, 2017, the Company had warrants outstanding (“2017 Warrants”) to purchase 377,273 shares of common stock, having an exercise price of $39.82 per share, that were previously issued by Threshold, and which were recorded by Molecular as a liability as part of the Merger transaction.  

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At December 31, 2016, the Company had warrants outstanding (“2014 Warrants”) to purchase  48,874 shares of preferred stock, having an exercise price of $3.07 per share, which were issued by Molecular as part of the loan and security agreement with Silicon Valley Bank (“SVB”). These warrants were converted into common stock at the closing of the Merger. Refer to Note 8, Borrowing Arrangements, for further details about the SVB loan and security agreement.

The fair value of these warrants on September 30, 2017 and December 31, 2016 was determined using a Black-Scholes model with the following key level 3 inputs:

During the three months ended September 30, 2017 the change in fair value of $272,000 of noncash expense related to the warrants was recorded as Change in fair value of warrant liabilities in the Company’s consolidated statement of operations.

The following table sets forth the Company’s financial liabilities subject to fair value measurements as of September 30, 2017 and December 31, 2016 (in thousands):

NOTE 12 — STOCK BASED COMPENSATION

The Company recognizes stock-based compensation in accordance with ASC 718, “Compensation—Stock Compensation.” Stock-based compensation expense, which consists of the compensation cost for employee stock options granted under the 2009 Equity inventive Plan and under the 2014 Equity Incentive Plan, and the value of options issued to non-employees for services rendered, was allocated to research and development and general and administrative expenses in the unaudited consolidated statements of operations for the three and nine months ended September 30, 2017 and 2016 as follows (in thousands):

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Valuation Assumptions

The Company estimated the fair value of stock options granted using the Black-Scholes option-pricing formula and a single option award approach. This fair value is being amortized ratably over the requisite service periods of the awards, which is generally the vesting period. The fair value of employee stock options was estimated using the following weighted-average assumptions for the three and nine months ended September 30, 2017 and 2016:

To determine the expected term of the Company’s employee stock options granted, the Company utilized the simplified approach as defined by SEC Staff Accounting Bulletin No. 107, “Share-Based Payment” (“SAB 107”). To determine the risk-free interest rate, the Company utilized an average interest rate based on U.S. Treasury instruments with a term consistent with the expected term of the Company’s stock based awards. To determine the expected stock price volatility for the Company’s stock based awards, the Company utilized the historical volatility of the Company’s common stock. The fair value of all the Company’s stock based awards assumes no dividends as the Company does not anticipate paying cash dividends on its common stock.

Employee Stock-based Compensation Expense

As required by ASC 718, the Company recognized $1.4 million and $1.4 million of stock-based compensation expense related to stock options under the Company’s equity incentive plans for the three and nine months ended September 30, 2017 and $27,000 and $85,000 of stock-based compensation for the three and nine months ended September 30, 2016.  Additionally, pursuant to the terms of the Merger Agreement, the participants in the 2014 Equity Incentive Plan received accelerated vesting for all or a portion of their pre-merger awards as well as a modification of the exercise period. The Company recorded $1.2 million in stock compensation associated with the transaction.

As of September 30, 2017, the total unrecognized compensation cost related to unvested stock-based awards granted to employees under the Company’s equity incentive plans was approximately $1.7million. This cost will be recorded as compensation expense on a ratable basis over the remaining weighted average requisite service period of approximately 3.8 years.

Equity Incentive Plans

Equity Incentive Plans   The Company has a 2009 Equity Incentive Plan and assumed a 2014 Equity Incentive Plan as a result of the merger. The Company does not intend to issue any shares under the 2009 Stock Plan.

The following table summarizes stock option activity under the Company’s equity incentive plans:

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The total intrinsic value of stock options exercised during the nine months ended September 30, 2017 and 2016, was $7,000 and $0, respectively, as determined at the date of the option exercise. Cash received from stock option exercises was $14,000 and $0 for the nine months ended September 30, 2017 and 2016, respectively. The Company issues new shares of common stock upon exercise of options. In connection with these exercises, there was no tax benefit realized by the Company due to the Company’s current loss position.

NOTE 13 — INCOME TAXES

During the three and nine months ended September 30, 2017 and 2016, the Company did not record a provision for income taxes because it expected to generate a net operating loss for the year ending December 31, 2017 and 2016, respectively.

The Company defines the threshold for recognizing the benefits of tax return positions in the financial statements as “more-likely-than-not” to be sustained by the taxing authorities based solely on the technical merits of the position. If the recognition threshold is met, the tax benefit is measured and recognized as the largest amount of tax benefit that, in the Company’s judgment, is greater than 50% likely to be realized.

The significant jurisdictions in which the Company files income tax returns are the United States and the states of Texas, California and New Jersey. For jurisdictions in which tax filings are made, the Company is subject to income tax examination for all fiscal years since inception. The Company believes that it maintains adequate reserves for uncertain tax positions.

In general, under Section 382 of the Internal Revenue Code (“Section 382”), a corporation that undergoes an ‘ownership change’ is subject to limitations on its ability to utilize its pre-change net operating losses (“NOLs”) and tax credits to offset future taxable income. A portion of the Company’s existing NOLs and tax credits are subject to limitations arising from previous ownership changes, including those obtained during the Merger with Private Molecular. Future changes in the Company’s stock ownership, some of which are outside of our control, could result in an ownership change under Section 382 and result in additional limitations.

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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

This Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the “Risk Factors” section of this Quarterly Report on Form 10-Q. Other than statements of historical fact, statements made in this Quarterly Report on Form 10-Q are forward-looking statements within the meaning of Section 21E of the Exchange Act, and Section 27A of the Act. When used in this report or elsewhere by management from time to time, the words “believe,” “will,” “may,” “anticipate,” “intend,” “plan,” “estimate,” “expect,” and similar expressions are forward-looking statements. Such forward-looking statements are based on current expectations. Forward-looking statements made in this report include, for example, statements about:

Forward-looking statements are not guarantees of future performance and involve risks and uncertainties. Actual events or results may differ materially from those discussed in the forward-looking statements as a result of various factors. For a more detailed discussion of the potential risks and uncertainties that may impact their accuracy, see the “Risk Factors” section in Part II, Item 1A of this Quarterly Report on Form 10-Q. Given these risks, uncertainties and other factors, you should not place undue reliance on these forward-looking statements. Also, these forward-looking statements reflect our view only as of the date of this report. You should read this report completely and with the understanding that our actual future results may be materially different from what we expect. We hereby qualify our forward-looking statements by our cautionary statements. Except as required by law, we assume no obligation to update these forward-looking statements publicly, or to update the reasons that actual results could differ materially from those anticipated in these forward-looking statements, even if new information becomes available in the future.

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Overview

We are a clinical-stage oncology company focused on the discovery and development of engineered toxin bodies (ETBs) which are differentiated, targeted, biologic therapeutics for cancer. We believe ETBs offer a differentiated mechanism of action that may address some of the limitations associated with currently available cancer therapeutics. ETBs utilize a genetically engineered form of Shiga-like Toxin A subunit, or SLTA, a ribosome inactivating bacterial protein, that can be targeted to specifically destroy cancer cells.  

Recent Developments

The Merger

On August 1, 2017, we completed our business combination with what was then known as “Molecular Templates, Inc.” (“Private Molecular”), in accordance with the terms of an Agreement and Plan of Merger and Reorganization (the “Merger Agreement”), dated as of March 16, 2017, by and among us (formerly known as Threshold Pharmaceuticals, Inc. (NASDAQ: THLD) (“Threshold”), Trojan Merger Sub, Inc. (“Merger Sub”), our wholly owned subsidiary, and Private Molecular, pursuant to which Merger Sub merged with and into Private Molecular, with Private Molecular surviving as our wholly owned subsidiary (the “Merger”). On August 1, 2017, in connection with and prior to the consummation of the Merger, we effected an 11-for-1 reverse stock split of the shares of our common stock. Each outstanding share of Private Molecular common stock was converted into 7.7844 shares of common stock of the post-Merger combined company. As a result, we issued approximately 11.7 million shares of our common stock to the stockholders of Private Molecular in exchange for shares of common stock of Private Molecular. Upon the consummation of the Merger, we changed our name to “Molecular Templates, Inc.” For accounting purposes, Private Molecular is considered to have acquired Threshold in the Merger.

Concurrent Financing

On August 1, 2017, we entered into a Securities Purchase Agreement with Longitude Venture Partners III, L.P. and certain other accredited investors (the “Longitude Securities Purchase Agreement”), pursuant to which we sold an aggregate of 5,793,063 units (the “Units”) having an aggregate purchase price of $40.0 million, each such Unit consisting of (i) one (1) share (the “Shares”) of our common stock and (ii) a warrant (the “Warrants”) to purchase 0.50 shares of our common stock (the “Private Placement”). The Private Placement was pursuant to equity commitment letter agreements entered into by and between us and certain investors in March and June 2017 (the “Equity Commitment Letters”). The purchase price per Unit was $6.9048. The Warrants will be exercisable for a period of seven years from the date of their issuance at a per-share exercise price of $6.8423 (which exercise price shall be payable in cash or through a cashless exercise mechanic), subject to certain adjustments as specified in the Warrants.

Subsequent Financing

In connection with the execution on June 23, 2017 of the Multi-Target Takeda Agreement, as described below, we entered into a stock purchase agreement with Takeda (the “Takeda Stock Purchase Agreement”). Pursuant to the Takeda Stock Purchase Agreement, following the consummation of the Merger and Private Placement, Takeda purchased 2,922,993 shares of our common stock, at a price per share of $6.8423, for an aggregate purchase price of $20.0 million.

Business After the Merger

We are developing a pipeline of ETBs that we believe will provide a meaningful benefit to cancer patients. We plan to develop each of these as single agents and/or in combination with other therapies, as applicable.

MT-3724 is a first-generation ETB specific to the B-cell marker CD20 protein. We developed MT-3724 to directly target and kill cancer cells expressing CD20, a not normally internalizing cell surface receptor, for the treatment of NHL. The differentiated mechanism of action of MT-3724 involves binding to the surface protein CD20, forcing internalization into the target cell, retrograde transport to the cytosol and subsequent enzymatic and permanent ribosome-inactivation. We are currently conducting a Phase I study of MT-3724 in patients with relapsed/refractory NHL.

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In February 2015, we commenced a Phase I clinical trial of our lead ETB candidate, MT-3724, targeting the cell surface antigen CD20 for the treatment of non-Hodgkin’s lymphoma. The primary objective of the study was to determine the MTD of MT-3724. The secondary endpoint was to explore the early efficacy profile of MT-3724. In October 2017, we announced the first patient dosed in a Phase I expansion study, at the identified MTD of 75 mcg/kg, focused on DLBCL patients.  We expect to begin reporting top-line results from this expansion trial starting in early 2018. If results from this study are compelling, we intend to initiate a monotherapy Phase II study of MT-3724 in the relapsed or refractory DLBCL setting. We also expect to initiate up to two other Phase I/II clinical trials exploring the use of MT-3724 in various treatments settings in DLBCL patients with high unmet medical need.  We expect to begin reporting top-line results from one of these trials starting in mid-2018.  

We are also developing MT-4019, an ETB candidate that is designed to target CD38-expressing myeloma cancer cells, and plan to submit an IND application to the FDA in mid-2018 to initiate a Phase I clinical trial in the United States.

Additionally, we have several other ETB candidates in pre-clinical development targeting both solid and hematological cancers where we believe the differentiated mechanism of action innate to ETBs, ribosome inactivation, could play a significant role in treating cancer.

As part of the Merger, Private Molecular agreed to use its commercially reasonable efforts to continue a Threshold evofosfamide Phase I clinical trial for a combination therapy until completion of such study, subject to the determination from time to time by the post-Merger board of directors of the Company that such continuation is in the best interests of the Company. In December 2015, Threshold announced that neither of two pivotal Phase III clinical trials of evofosfamide met its primary endpoint of demonstrating a statistically significant improvement in overall survival.  Based on a meaningful improvement in overall survival that was reported for a subgroup of 123 Asian patients, we will continue to engage in discussions with Japan’s Pharmaceuticals and Medical Devices Agency, or PMDA, regarding potential registration pathways and additional clinical trials that would be required to bring evofosfamide to market.  In the meantime, our current evofosfamide development strategy is limited to a company-sponsored Phase I clinical trial of evofosfamide in combination with an immune checkpoint antibody in collaboration with researchers and clinicians at The University of Texas MD Anderson Cancer Center, initiated March 1, 2017, and an investigator-sponsored clinical trial of evofosfamide in combination with antiangiogenic therapies in a variety of tumor types.

We are a clinical-stage company and have not generated revenue from product sales. Our ability to generate revenue sufficient to achieve profitability will depend heavily on the successful development and eventual commercialization of one or more of our ETB candidates. Since inception, we have incurred significant operating losses. For the three months ended September 30, 2017 and 2016, we incurred net losses of $11.1 million and $3.6 million, respectively. As of September 30, 2017, we had an accumulated deficit of $57.6 million.

We expect to incur significant expenses and operating losses for the foreseeable future as we advance our lead ETB candidates through clinical trials, progress our pipeline ETB candidates from discovery through pre-clinical development, and seek regulatory approval and pursue commercialization of our ETB candidates. In addition, if we obtain regulatory approval for any of our ETB candidates, we expect to incur significant commercialization expenses related to product manufacturing, marketing, sales and distribution. In addition, we may incur expenses in connection with the in-license or acquisition of additional technology to augment or enable development of future ETB candidates. Furthermore, we expect to incur additional costs associated with operating as a public company, including significant legal, accounting, investor relations and other expenses that Private Molecular did not incur as a private company.

As a result, we will need additional financing to support our continuing operations. Until such time as we can generate significant revenue from product sales, if ever, we expect to finance our operations through a combination of public or private equity and debt financings or other sources, which may include collaborations with third parties. Adequate additional financing may not be available to us on acceptable terms, or at all. Our inability to raise capital as and when needed would have a negative impact on our financial condition and our ability to pursue our business strategy. We will need to generate significant revenue to achieve profitability, and we may never do so.

We expect that our existing cash and cash equivalents will enable us to fund our operating expenses and capital expenditure requirements into late 2019.

Collaboration Agreements

Takeda Pharmaceuticals

In October 2016, we entered into a collaboration and option agreement (the “Takeda Collaboration Agreement”) with Millennium Pharmaceuticals, Inc., a wholly owned subsidiary of Takeda Pharmaceutical Company Ltd. (“Takeda”) to discover and develop CD38-targeting ETBs, which includes MT-4019 for evaluation by Takeda. Under the terms of the agreement, we are

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responsible for providing to Takeda (i) new ETBs generated using Takeda’s proprietary antibodies targeting CD38 and (ii) MT-4019 for in vitro and in vivo pharmacological and anti-tumor efficacy evaluations. we granted Takeda an exclusive option to negotiate and obtain an exclusive worldwide license to develop and commercialize any ETB that may result from this collaboration, including MT-4019. We are entitled to receive up to $2.0 million in technology access fees and cost reimbursement associated with our performance and completion of our obligations under the agreement. To date, we have received $2.0 million under the Takeda Collaboration Agreement.

In June 2017, we entered into a multi-target collaboration and license agreement with Takeda (the “Takeda Multi-Target Agreement”), pursuant to which we will collaborate with Takeda to identify, generate and evaluate ETBs, against certain targets designated by Takeda. Takeda will designate certain targets of interest as the focus of the research. Takeda will provide to us targeting moieties against the designated targets. We will create and characterize ETBs against those targets and provide them to Takeda for further evaluation. Each party grants to the other nonexclusive rights in its intellectual property for purposes of the conduct of the research, and we agree to work exclusively with Takeda with respect to the designated targets. We are entitled to receive up to $5.0 million in technology access fees and research and development fees associated with our performance and completion of our obligations under the agreement. To date, we have received $1.0 million under the Takeda Collaboration Agreement.

Under the Takeda Multi-Target Agreement, Takeda has an option to acquire an exclusive license under our intellectual property to develop, manufacture, commercialize and otherwise exploit ETBs against the designated targets. Upon exercise of the option, Takeda is obligated to use commercially reasonable efforts to develop and obtain regulatory approval of any licensed ETBs in major market countries, and thereafter to commercialize licensed ETBs in those countries. We are obligated to manufacture ETBs to support research and clinical development through Phase I clinical trials, provided that Takeda can assume manufacturing responsibility at any time.

We may receive net milestone payments of $25.0 million in aggregate through the exercise of the option to license ETBs under the Takeda Multi-Target Agreement. Additionally, we are entitled to receive up to approximately $547.0 million in additional milestone payments through preclinical and clinical development and commercialization. We are also entitled to tiered royalty payments of a mid-single to low-double digit percentage of net sales of any licensed ETBs, subject to certain reductions. Finally, we are entitled to receive up to $10 million in certain contingency fees.

The Takeda Multi-Target Agreement will expire on the expiration of the option period for the designated targets if Takeda does not exercise its options, or, following exercise of the option, on the later of the expiration of patent rights claiming the licensed ETB or ten years from first commercial sale of a licensed ETB. The Takeda Multi-Target Agreement may be sooner terminated by Takeda for convenience; or by us upon a change of control; or by either party for an uncured material breach of the agreement.

Financial Operations Overview

Revenue

Our revenue has consisted principally of revenue from collaboration revenue and government grants.  Grant revenue relates to our CPRIT grant for MT-3724. For the three months ending September 30, 2017 and 2016, we did not recognize any CPRIT grant revenues related to the pre-clinical and clinical development of MT-3724. For the nine months ended September 30, 2017 and 2016, we recognized $0.2 million and $1.5 million in CPRIT grant revenues related to the pre-clinical and clinical development of MT-3724. CPRIT grant funds are provided to us in advance as conditional cost reimbursement where revenue is recognized as allowable costs are paid. Amounts collected in excess of revenue recognized are recorded as deferred revenue. Collaboration revenue primarily relates to our collaboration with Takeda.  We have an ongoing research collaboration with Takeda Pharmaceuticals related to the evaluation of our ETB technology that was initiated in the fourth quarter 2016. The Takeda Collaboration Agreement and Takeda Multi-Target Agreement provide for upfront technology access fees, milestone payments and reimbursement payments. We will recognize revenue from these agreements in accordance with FASB ASC Topic 605, Revenue Recognition (“ASC 605”). Under ASC 605, revenue is recognized when all of the following criteria are met: (i) persuasive evidence of an arrangement exists; (ii) delivery has occurred or services have been rendered; (iii) the seller’s price to the buyer is fixed or determinable; and (iv) collectability is reasonably assured. Amounts received prior to satisfying the revenue recognition criteria are recognized as deferred revenue in our balance sheet. For the three and nine months ended September 30, 2017, we recognized $0.6 million and $1.9 million in collaboration revenue related to research collaboration agreements. For the three months ended September 30, 2016, no revenue was recognized in collaboration revenue related to research collaboration agreements.

We have no products approved for sale. Other than the sources of revenue described above, we do not expect to receive any revenue from any ETB candidates that we develop, including MT-3724, MT-4019 and other pre-clinical ETB candidates, until we obtain regulatory approval and commercializes such products, or until we potentially enter into collaborative agreements with third parties for the development and commercialization of such candidates.

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Research and Development Expenses

Research and development expenses consist principally of:

For the three months ended September 30, 2017 and 2016, we incurred research and development costs of $2.5 million and $2.3 million, respectively. Our research and development expenses may vary substantially from period to period based on the timing of our research and development activities, including the initiation and enrollment of patients in clinical trials and manufacture of drug materials for clinical trials.

We expect research and development expenses to increase as we advance the clinical development of MT-3724 and further advances the research and development of our pre-clinical ETB candidates, including MT-4019, and other earlier stage products. The successful development of our ETB candidates is highly uncertain. At this time, we cannot reasonably estimate the nature, timing and estimated costs of the efforts that will be necessary to complete the development of, or the period, if any, in which material net cash inflows may commence from, any of our ETB candidates. This is due to numerous risks and uncertainties associated with developing drugs, including the uncertainty of:

Any of these variables with respect to the development of MT-3724, MT-4019 or any other ETB candidate that we may develop could result in a significant change in the costs and timing associated with the development of MT-3724, MT-4019 or such other ETB candidates. For example, if the FDA, the EMA or other regulatory authority were to require us to conduct pre-clinical and clinical studies beyond those which we currently anticipate will be required for the completion of clinical development or if we experience significant delays in enrollment in any clinical trials, we could be required to expend significant additional financial resources and time on the completion of our clinical development programs.

General and Administrative Expenses

Our general and administrative expenses consist principally of:

We expect that our general and administrative costs will increase in the future as our business expands and we increase our headcount to support the expected growth in our operating activities. Additionally, we expect these expenses will also increase in the future as we incur additional costs associated with operating as a public company. These increases will likely include additional legal fees, accounting and audit fees, management board and supervisory board liability insurance premiums and costs related to investor relations. In addition, we expect to grant stock-based compensation awards to key management personnel and other employees.

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Other Income (Expense)

Other income (expense) primarily consists of loss on conversion of notes and change in fair value of warrant liabilities.

Results of Operations

The table below summarizes our results of operations for the three and nine months ended September 30, 2017 and 2016 (in thousands).

Grant Revenue

There was no Grant revenue during the three months ended September 30, 2017 or 2016. Grant revenue decreased $1.4 million during the nine months ended September 30, 2017 compared to nine months ended September 30, 2016. The decrease was primarily attributable to the decrease in CPRIT grant revenues recognized due to higher drug manufacturing related costs for MT-3724 in 2016.

Collaboration Revenue

Collaborations revenue increased $0.6 million and $2.4 million during the three and nine months ended September 30, 2017 compared to the three and nine months ended September 30, 2016. The increase was mainly attributed to the recognition of collaboration revenue from our collaboration with Takeda on a proportional performance model as research and development services are performed.

Research and Development Expenses

The table below summarizes our research and development expenses for the three and nine months ended September 30, 2017 and 2016 (in thousands).

Research and development costs increased $0.2 million during the three months ended September 30, 2017 as compared to the three months ended three months ended September 30, 2016. The increase was primarily due to costs related to the merger.  

Research and development costs decreased $2.4 million during the nine months ended September 30, 2017 as compared to the nine months ended September 30, 2016. The decrease was primarily due to a decrease of $2.7 million in outsourced costs related to our MT-3724 program.

From a program perspective, all of our research and development expenses relate to the discovery and development of ETBs.

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The risks and uncertainties associated with our research and development projects are discussed more fully in the “Risk Factors” section in Part II, Item 1A of this Quarterly Report on Form 10-Q. As a result of the risks and uncertainties discussed in the “Risk Factors” section and above, we are unable to determine with any degree of certainty the duration and completion costs of our research and development projects, anticipated completion dates or when and to what extent we will receive cash inflows from the commercialization and sale of a product candidate. To date, we have not commercialized any of our product candidates and in fact may never do so.

General and Administrative

General and administrative expenses increased $3.2 million and $5.6 million during the three and nine months ended September 30, 2017 compared to the three and nine months ended September 30, 2016, respectively. The increase was primarily attributable to increased legal and accounting fees related to the Merger and being a publicly traded company.

Other income (expense).

The increase in Other expenses for the three and nine months ended September 30, 2017 was primarily due to a $4.7 million loss recording as part of the Merger, related to the conversion of convertible notes to common stock.

Liquidity and Capital Resources

Sources of Funds

We have devoted substantially all of our resources to developing our ETB candidates and platform technology, building our intellectual property portfolio, developing our supply chain, conducting business planning, raising capital and providing for general and administrative support for these operations. We plan to increase our research and development expenses for the foreseeable future as we continue to advance MT-3724, MT-4019 and our earlier-stage pre-clinical programs. At this time, due to the inherently unpredictable nature of preclinical and clinical development and given the early stage of our programs and product candidates, we cannot reasonably estimate the costs we will incur and the timelines that will be required to complete development, obtain marketing approval and commercialize our products, if and when approved. For the same reasons, we are also unable to predict when, if ever, we will generate revenue from product sales or whether, or when, if ever, we may achieve profitability. Clinical and preclinical development timelines, the probability of success and development costs can differ materially from expectations. In addition, we cannot forecast which products, if and when approved, may be subject to future collaborations, when such arrangements will be secured, if at all, and to what degree such arrangements would affect our development plans and capital requirements. We have incurred an accumulated deficit of $57.6 million through September 30, 2017. We expect to incur substantial additional losses in the future as we expand our research and development activities. Based on our current research and development plans, we expect that our existing cash and cash equivalents, will enable us to fund our operating expenses and capital expenditure requirements into late 2019.

Our financial statements as of September 30, 2017 have been prepared under the assumption that we will continue as a going concern for the next 12 months. To date, we have financed our operations through private placements of equity securities, reverse merger, upfront and milestone payments received from our collaborators under our research evaluation agreements, as well as funding from governmental bodies and bank and bridge loans. Since our inception, we raised gross proceeds of $78.2 million from private placements of equity securities, including $40 million from the equity financing in August 2017, and $20 million from the Takeda Common Stock Purchase in August 2017. Since our inception, we have also received aggregate gross proceeds of $3.5 million from our collaborators, received $18.2 million in grants from governmental bodies, received $10.0 million in proceeds from related-party convertible promissory notes, received $6.0 million in proceeds from bank loan from Silicon Valley Bank (“SVB”); and received $15.4 million from Threshold.

In November 2016, we received notice that we have been awarded a second CPRIT product development grant totaling $15.2 million to fund development of our CD38-targeting ETB MT-4019, and we are currently in the process of negotiating the terms of the contract with CPRIT.

We entered into a loan and security agreement with SVB (the “SVB Loan Agreement”) on April 30, 2015, which allows for aggregate borrowings of up to $6.0 million, subject to our achievement of certain milestones. We borrowed an aggregate of $6.0 million under the SVB Loan Agreement through September 30, 2017. We paid $1.8 million in principal and approximately $187,000 in interest for the nine months ended September 30, 2017. The loan matures on April 30, 2019 and is secured by substantially all our assets.

As of September 30, 2017, we had cash and cash equivalents of $68.2 million. As of December 31, 2016, we had cash and cash equivalents of $1.7 million.

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Cash Flows

The decrease in net cash used in operating activities to $6.6 million for the nine months ended September 30, 2017 from $8.2 million for the nine months ended September 30, 2016 was primarily due to an increase in accounts payable.

The increase in net cash provided by investing activities to $10.4 million for the nine months ended September 30, 2017 from $0.4 million for the nine months ended September 30, 2016 was primarily due to the cash received from the merger transaction.

The increase in net cash provided by financing activities to $62.3 million for the nine months ended September 30, 2017 from $6.0 million for the nine months ended September 30, 2016 was primarily due to the receipt in August 2017 of $57.8 million in proceeds from the issuance of common stock and warrants.

Operating and Capital Expenditure Requirements

Other than for one year, we have not achieved profitability since our inception and had an accumulated deficit of $57.7 million as of September 30, 2017. We expect to continue to incur significant operating losses for the foreseeable future as we continue our research and development efforts and seeks to obtain regulatory approval and commercialization of our ETB candidates.

We expect our expenses to increase substantially in connection with our ongoing development activities related to MT-3724, MT-4019, our pre-clinical programs, and expands our operating capabilities. In addition, we expect to incur additional costs associated with operating as a public company. We anticipate that our expenses will increase substantially if and as we:

We expect that our existing cash and cash equivalents, will enable us to fund our operating expenses and capital expenditure requirements into late 2019. We have based this estimate on assumptions that may prove to be wrong, and we may use our available capital resources sooner than we currently expect.

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Because of the numerous risks and uncertainties associated with the development of MT-3724, MT-4019 and our other pre-clinical programs, and because the extent to which we may enter into collaborations with third parties for development of these ETB candidates is unknown, we are unable to estimate the amounts of increased capital outlays and operating expenses associated with completing the research and development of our ETB candidates. Our future capital requirements for MT-3724, MT-4019 or our other pre-clinical programs will depend on many factors, including:

Identifying potential ETB candidates and conducting pre-clinical testing and clinical trials is a time-consuming, expensive and uncertain process that takes years to complete, and we may never generate the necessary data or results required to obtain marketing approval and achieve product sales. In addition, our ETB candidates, if approved, may not achieve commercial success. Our commercial revenues, if any, will be derived from sales of products that we do not expect to be commercially available for many years, if ever. Accordingly, we will need to obtain substantial additional funds to achieve our business objectives.

Adequate additional funds may not be available to us on acceptable terms, or at all. To the extent that we raise additional capital through the sale of equity or convertible debt securities, stockholders’ ownership interest will be diluted, and the terms of these securities may include liquidation or other preferences that adversely affect their rights as stockholders. Additional debt financing and equity financing, if available, may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, making capital expenditures or declaring dividends and may require the issuance of warrants, which could potentially dilute stockholders’ ownership interest.

If we raise additional funds through collaborations, governmental grants, strategic alliances or licensing arrangements with third parties, we may have to relinquish valuable rights to our technologies, future revenue streams, research programs or ETB candidates or grant licenses on terms that may not be favorable to us. If we are unable to raise additional funds through equity or debt financings when needed, we may be required to delay, limit, reduce or terminate our product development programs or any future commercialization efforts or grant rights to develop and market ETB candidates that we would otherwise prefer to develop and market ourselves.

The table below summarizes our contractual obligations at September 30, 2017 (in thousands).

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Critical Accounting Policies and Use of Estimates

The discussion and analysis of our financial condition and results of operations are based on our financial statements, which have been prepared in accordance with U.S. GAAP. The preparation of these financial statements requires management to make estimates and assumptions that affect reported amounts of assets and liabilities as of the date of the balance sheet and reported amounts of revenues and expenses for the periods presented. Management makes estimates and exercises judgment in income taxes, revenue recognition, research and development expenses, stock-based compensation and preferred stock. Judgments must also be made about the disclosure of contingent liabilities. These estimates and assumptions form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. We periodically evaluate our estimates and judgments, including those described in greater detail below, in light of changes in circumstances, facts and experience.

We have identified the following accounting policies that we believe require application of management’s most subjective judgments, often requiring the need to make estimates about the effect of matters that are inherently uncertain and may change in subsequent periods. Our actual results could differ from these estimates and such differences could be material.

Income Taxes

We record income taxes in accordance with ASC 740, Accounting for Income Taxes (“ASC 740”). Since inception, we have not recorded a provision for income taxes due to reported net losses in each year. However, we have accumulated net operating loss carryforwards during this time. For further information regarding our accounting for income taxes, please see Note 13 (“Income Taxes”) to our unaudited condensed financial statements for the three and nine months ended September 30, 2017, included in this Quarterly Report on form 10-Q.

Revenue Recognition

The grants we have received from governmental bodies, such as CPRIT, are conditional cost reimbursement grants, and we recognize revenue as allowable costs are paid. Amounts collected in excess of revenue recognized are recorded as deferred revenue.

The collaboration and option agreements with certain of our customers are multiple-element arrangements under ASC 605-25. As such, contract elements which do not have stand-alone value are combined into those contract deliverables with value. Thus, revenue is recognized for each deliverable under the contract according to the method appropriate for each deliverable. For further information regarding our revenue recognition, please see Note 1 (“Organization and summary of significant accounting policies”) to our unaudited condensed financial statements for the three and nine months ended September 30, 2017, included in this Quarterly Report on form 10-Q.

Research and Development Expenses

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

We record our expenses related to research and development activities based on our estimates of the services received and efforts expended pursuant to quotes and contracts with vendors that conduct research and development on our behalf. The financial terms of these agreements are subject to negotiation, vary from contract to contract and may result in uneven payment flows. There may be instances in which payments made to our vendors will exceed the level of services provided and result in a prepayment of the research and development expenses. In accruing service fees, we estimate the time period over which services will be performed and the level of effort to be expended in each period. If the actual timing of the performance of services or the level of effort varies from our estimate, we adjust the accrual or prepaid expense accordingly. Non-refundable advance payments for goods and services that will be used in future research and development activities are expensed when the activity has been performed or when the goods have been received rather than when the payment is made.

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Although we do not expect our estimates to be materially different from amounts actually incurred, if our estimates of the status and timing of services performed differ from the actual status and timing of services performed, it could result in our reporting amounts that are too high or too low in any particular period. To date, there have been no material differences between our estimates of such expenses and the amounts actually incurred.

Stock-Based Compensation

Our accounts for stock-based compensation expense related to stock options granted to employees, non-employees, and members of our board of directors under our 2014 Equity Incentive Plan, as amended, and our 2009 Equity Incentive Plan, by estimating the fair value of each stock option or award on the date of grant using the Black-Scholes model. We recognize stock-based compensation expense on a straight-line basis over the vesting term.

Recent Accounting Pronouncements Not Yet Adopted

For a discussion of recently issued accounting pronouncements and interpretations not yet adopted by us, please see Note 1 (“Organization and Summary of Significant Accounting Policies”) to our unaudited condensed financial statements for the three and nine months ended September 30, 2017, included in this Quarterly Report on form 10-Q.

Off-Balance Sheet Arrangements

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

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Molecular is exposed to a variety of financial risks. Molecular’s overall risk management program seeks to minimize potential adverse effects of these financial risks on its financial performance.

Credit Risk

Molecular considers all of its material counterparties to be creditworthy. Molecular considers the credit risk for each of its counterparties to be low and does not have a significant concentration of credit risk at any of its counterparties.

Liquidity Risk

Molecular manages its liquidity risk by maintaining adequate cash reserves at banking facilities, and by continuously monitoring its cash forecasts, its actual cash flows and by matching the maturity profiles of financial assets and liabilities.

Market Risk

Molecular is not subject to any significant foreign exchange risk and interest rate risk.

ITEM 4. CONTROLS AND PROCEDURES

Evaluation of disclosure controls and procedures.

Our management, with the participation of our principal executive officer and principal financial officer, evaluated the effectiveness of our disclosure controls and procedures as of September 30, 2017. The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended, or the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to its management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on the evaluation of our disclosure controls and procedures as of September 30, 2017, our principal executive officer and principal financial officer concluded that, as of such date, our disclosure controls and procedures were not effective at the reasonable assurance level.

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Material Weakness and Remediation of Material Weakness

The management of the company is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act.  As previously disclosed in the Form S-4/A Registration Statement (File No. 333-217993) relating to the Merger, in connection with the audits of Private Molecular’s consolidated financial statements for the years ended December 31, 2015 and 2016 and preparation of interim financial statements for the first quarter of 2017, Private Molecular and its independent registered public accounting firm identified material weaknesses in Private Molecular’s internal controls over financial reporting. A material weakness is defined as a deficiency, or a combination of deficiencies, in internal control, such that there is a reasonable possibility that a material misstatement of the entity’s financial statements will not be prevented, or detected and corrected on a timely basis.

Prior to the completion of the Merger, Private Molecular was a private company and had limited accounting and financial reporting personnel and other resources with which to address its internal controls and procedures. Private Molecular’s lack of adequate accounting personnel resulted in the identification of a material weakness in its internal control over financial reporting. Specifically, Private Molecular did not appropriately design and implement controls over the review and approval of manual journal entries and the related supporting journal entry calculations.

Following the close of the Merger, we have begun our remediation plan, and have hired and intend to hire additional accounting and finance personnel. Additionally, we are in the process of implementing a more robust review, and increasing the supervision and monitoring of the financial reporting process intended to remediate the identified material weakness.

Changes in internal controls over financial reporting.

Other than as described above, there were no changes in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) and 15d-15(d) of the Exchange Act that occurred during the fiscal quarter ended September 30, 2017 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

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PART II. OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

As we previously disclosed, on June 20, 2017, a purported stockholder of Threshold filed a putative class action complaint against Threshold and members of its Board in the United States District Court for the Northern District of California. The lawsuit was settled pursuant to a Settlement Agreement entered into on September 14, 2017, between Victor Pariso and Ron Welk, as Plaintiffs, and the Company.

ITEM 1A. RISK FACTORS

Investing in our common stock involves a high degree of risk. You should carefully consider the risks and uncertainties described below and all information contained in this report before you decide to purchase our common stock. If any of the possible adverse events described below actually occurs, we may be unable to conduct our business as currently planned and our financial condition and operating results could be harmed. In addition, the trading price of our common stock could decline due to the occurrence of any of the events described below, and you may lose all or part of your investment.

Risks Related to Ownership of our Common Stock

The market price of our common stock is expected to be volatile, and the market price of the common stock may drop.

The market price of our common stock could be subject to significant fluctuations.  Market prices for securities of early-stage pharmaceutical, biotechnology and other life sciences companies have historically been particularly volatile.  Some of the factors that may cause the market price of our common stock to fluctuate include:

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