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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-Q

(Mark One)

QUARTERLY REPORT PURSUANT TO SECTION 13, OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2020

OR

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from to

Commission file number: 001-38940

MORPHIC HOLDING, INC.

(Exact name of registrant as specified in its charter)

Delaware
(State or other jurisdiction of
Incorporation or Organization)

47-3878772
(I.R.S. Employer
Identification No.)

35 Gatehouse Drive, A2
Waltham, MA

(Address of Principal Executive Offices)

02451

(Zip Code)

Registrant’s telephone number, including area code: (781) 996-0955

Not Applicable

Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report

Securities registered pursuant to Section 12(b) of the Exchange Act:

Title of each class

Trading symbol(s)

Name of each exchange on which registered

Common Stock, par value $0.0001 per share

MORF

The Nasdaq Global Market

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 every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes  No 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer 

Accelerated filer 

Non-accelerated filer 

Smaller reporting company 

Emerging growth company 

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 13(a) of the Exchange Act.

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

The number of shares outstanding of the registrant’s Common Stock as of November 5, 2020 was 31,125,106.


Table of Contents

TABLE OF CONTENTS

    

Page

Part I—Financial Information

2

Item 1—Condensed Consolidated Financial Statements (unaudited)

2

Condensed Consolidated Balance Sheets as of September 30, 2020 and December 31, 2019

2

Condensed Consolidated Statements of Operations and Comprehensive Income (Loss) for the Three and Nine Months ended September 30, 2020 and 2019

3

Condensed Consolidated Statements of Stockholders’ Equity for the Nine Months ended September 30, 2020 and 2019

4

Condensed Consolidated Statements of Cash Flows for the Nine Months ended September 30, 2020 and 2019

6

Notes to Unaudited Condensed Consolidated Financial Statements

7

Item 2—Management’s Discussion and Analysis of Financial Condition and Results of Operations

19

Item 3—Quantitative and Qualitative Disclosures about Market Risk

31

Item 4—Controls and Procedures

31

Part II—Other Information

33

Item 1—Legal Proceedings

33

Item 1A—Risk Factors

33

Item 2—Unregistered Sales of Equity Securities and Use of Proceeds

88

Item 3—Defaults Upon Senior Securities

88

Item 4—Mine Safety Disclosures

88

Item 5—Other Information

88

Item 6—Exhibits

89

Signatures

90

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PART I—FINANCIAL INFORMATION

Item 1. Condensed Consolidated Financial Statements (unaudited)

CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited)

(In thousands, except share and per share data)

September 30, 

December 31,

    

2020

    

2019

Assets

 

  

 

  

Current assets:

 

  

 

  

Cash and cash equivalents

$

98,080

$

101,559

Marketable securities

115,066

135,457

Accounts receivable

1,635

3,467

Prepaid expenses and other current assets

 

3,620

 

3,090

Total current assets

 

218,401

 

243,573

Property and equipment, net

 

2,816

 

3,446

Restricted cash

 

275

 

275

Other assets

 

86

 

141

Total assets

$

221,578

$

247,435

Liabilities

 

  

 

  

Current liabilities:

 

  

 

  

Accounts payable

$

3,020

$

5,167

Accrued expenses

 

7,457

 

6,639

Deferred revenue, current portion

24,950

23,450

Deferred rent, current portion

 

151

 

94

Total current liabilities

 

35,578

 

35,350

Long-term liabilities:

Deferred revenue, net of current portion

55,576

70,954

Deferred rent, net of current portion

 

120

 

213

Total liabilities

 

91,274

 

106,517

Stockholders’ Equity

 

  

 

  

Preferred shares, $0.0001 par value, 10,000,000 shares authorized, no shares issued and outstanding as of September 30, 2020 and December 31, 2019

Common shares, $0.0001 par value, 400,000,000 shares authorized, 30,827,653 shares issued and outstanding as of September 30, 2020 and 30,110,251 shares issued and outstanding as of December 31, 2019

3

3

Additional paidin capital

 

255,030

 

238,384

Accumulated deficit

 

(124,763)

 

(97,513)

Accumulated other comprehensive income

34

44

Total stockholders’ equity

 

130,304

 

140,918

Total liabilities and stockholders’ equity

$

221,578

$

247,435

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

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MORPHIC HOLDING, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS) (Unaudited)

(In thousands, except share and per share data)

Three Months Ended September 30, 

Nine Months Ended September 30, 

    

2020

    

2019

    

2020

    

2019

Collaboration revenue

$

25,757

$

5,675

$

39,044

$

17,311

Operating expenses:

 

 

  

 

  

 

  

Research and development

 

15,998

 

12,635

 

54,877

 

36,912

General and administrative

 

4,751

 

2,898

 

13,368

 

6,807

Total operating expenses

 

20,749

 

15,533

 

68,245

 

43,719

Income (Loss) from operations

 

5,008

 

(9,858)

 

(29,201)

 

(26,408)

Other income:

 

  

 

  

 

  

 

  

Interest income, net

 

231

 

1,298

 

1,524

 

3,480

Total other income, net

 

231

 

1,298

 

1,524

 

3,480

Income (Loss) before benefit from (provision for) income taxes

5,239

(8,560)

(27,677)

(22,928)

Benefit from (provision for) income taxes

115

(304)

427

(569)

Net income (loss)

$

5,354

$

(8,864)

$

(27,250)

$

(23,497)

Net income (loss) per share, basic

$

0.18

$

(0.30)

$

(0.90)

$

(2.06)

Net income (loss) per share, diluted

$

0.17

$

(0.30)

$

(0.90)

$

(2.06)

Weighted average common shares outstanding, basic

 

30,533,847

 

29,999,170

 

30,368,437

 

11,393,192

Weighted average common shares outstanding, diluted

 

32,366,141

 

29,999,170

 

30,368,437

 

11,393,192

Comprehensive income (loss):

 

  

 

  

 

  

 

  

Net income (loss)

$

5,354

$

(8,864)

$

(27,250)

$

(23,497)

Other comprehensive (loss) income:

 

 

 

 

Unrealized holding (losses) gains on marketable securities

(190)

6

(10)

47

Total other comprehensive (loss) income

(190)

6

(10)

47

Comprehensive income (loss)

$

5,164

$

(8,858)

$

(27,260)

$

(23,450)

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

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MORPHIC HOLDING, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CONVERTIBLE PREFERRED STOCK AND STOCKHOLDERS’ EQUITY (DEFICIT) (Unaudited)

(In thousands, except share data)

Series Seed

Series A

Series B

Common

Additional

Accumulated

Total

Preferred Shares

Preferred Shares

Preferred Shares

Shares

Paidin

Accumulated

Other

Stockholders’

  

Shares

  

Amount

  

Shares

  

Amount

  

Shares

  

Amount

  

Shares

  

Amount

  

Capital

  

Deficit

  

Comprehensive Income

  

Deficit

Balance at December 31, 2018

 

2,045,556

$

8,658

8,411,368

$

51,320

10,553,483

$

79,831

1,832,923

 

$

1,633

$

(54,185)

$

$

(52,552)

Equity-based compensation expense

499

499

Vesting of restricted shares

99,911

Unrealized holding gains on marketable securities

25

25

Net Loss

(5,200)

(5,200)

Balance at March 31, 2019

2,045,556

$

8,658

8,411,368

$

51,320

10,553,483

$

79,831

1,932,834

 

$

2,132

$

(59,385)

$

25

$

(57,228)

Equity-based compensation expense

667

667

Vesting of restricted shares

112,165

Unrealized holding gains on marketable securities

16

16

Net Loss

(9,433)

(9,433)

Balance at June 30, 2019

 

2,045,556

$

8,658

8,411,368

$

51,320

10,553,483

$

79,831

2,044,999

 

$

2,799

$

(68,818)

$

41

$

(65,978)

Conversion of convertible preferred stock into common stock

(2,045,556)

(8,658)

(8,411,368)

(51,320)

(10,553,483)

(79,831)

21,010,407

2

139,807

139,809

Reclassification of warrants to purchase preferred shares to stockholders' equity

118

118

Issuance of common shares at initial public offering, net of offering costs of $10.2 million

6,900,000

1

93,267

93,268

Issuance of common shares upon warrants exercise

5,766

Vesting of restricted shares

73,096

Equitybased compensation expense

989

989

Unrealized holding gains on marketable securities, net of tax

6

6

Net loss

(8,864)

(8,864)

Balance at September 30, 2019

$

$

$

30,034,268

 

3

$

236,980

$

(77,682)

$

47

$

159,348

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

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MORPHIC HOLDING, INC.
CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (Unaudited) (Continued)

(In thousands, except share data)

Common

Additional

Accumulated

Total

Shares

Paidin

Accumulated

Other

Stockholders’

  

Shares

  

Amount

  

Capital

  

Deficit

  

Comprehensive Income

  

Equity

Balance at December 31, 2019

 

30,110,251

$

3

$

238,384

$

(97,513)

$

44

$

140,918

Equitybased compensation expense

2,544

2,544

Vesting of restricted shares

84,247

Issuance of common shares upon stock option exercises

35,822

167

167

Issuance of common stock under the Employee Stock Purchase Plan

53,405

681

681

Unrealized holding gains on marketable securities

571

571

Net loss

(16,746)

(16,746)

Balance at March 31, 2020

30,283,725

$

3

241,776

$

(114,259)

$

615

$

128,135

Equitybased compensation expense

2,489

2,489

Vesting of restricted shares

57,490

Issuance of common shares upon stock option exercises

80,560

542

542

Unrealized holding losses on marketable securities

(391)

(391)

Net loss

(15,858)

(15,858)

Balance at June 30, 2020

30,421,775

$

3

$

244,807

$

(130,117)

$

224

$

114,917

Equitybased compensation expense

 

 

 

2,996

 

 

 

2,996

Vesting of restricted shares

 

56,991

 

 

 

 

 

Issuance of common shares through at-the-market offering, net of issuance costs of $0.6 million

256,879

6,319

6,319

Issuance of common shares upon stock option exercises

60,115

477

477

Issuance of common stock under the Employee Stock Purchase Plan

31,893

431

431

Unrealized holding losses on marketable securities

(190)

(190)

Net income

 

 

 

 

5,354

 

 

5,354

Balance at September 30, 2020

30,827,653

$

3

$

255,030

$

(124,763)

$

34

$

130,304

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

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MORPHIC HOLDING, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

(In thousands)

Nine Months Ended September 30, 

    

2020

    

2019

Cash flows from operating activities:

 

  

 

  

Net loss

$

(27,250)

$

(23,497)

Adjustments to reconcile net loss to net cash used in operating activities:

 

  

 

  

Depreciation and amortization

 

852

 

576

Premium amortization and discount accretion on marketable securities

429

(1,556)

Equity‑based compensation

 

8,029

 

2,155

Change in fair value of warrants

94

Change in operating assets and liabilities:

 

 

Accounts receivable

1,832

(2,364)

Prepaid expenses and other current assets

 

(530)

 

(1,704)

Other assets

 

55

 

12

Accounts payable

(1,893)

1,540

Accrued expenses

818

1,812

Deferred revenue

(13,878)

(4,570)

Deferred rent

(36)

(41)

Other long-term liabilities

 

 

(33)

Net cash used in operating activities

 

(31,572)

 

(27,576)

Cash flows from investing activities:

 

  

 

  

Purchases of marketable securities

(95,049)

(225,836)

Proceeds from maturities of marketable securities

115,000

135,500

Purchase of property and equipment

(475)

(1,449)

Net cash provided by (used in) investing activities

 

19,476

 

(91,785)

Cash flows from financing activities:

 

  

 

  

Proceeds from at-the-market offering, net of issuance costs

6,319

Proceeds from IPO, net of issuance costs

93,267

Proceeds from issuance of Common Stock pursuant to stock option exercises

1,186

Proceeds from issuance of Common Stock under Employee Stock Purchase Plan

1,112

Net cash provided by financing activities

 

8,617

 

93,267

Net decrease in cash and cash equivalents and restricted cash

 

(3,479)

 

(26,094)

Cash and cash equivalents and restricted cash, beginning of period

 

101,834

 

186,176

Cash and cash equivalents and restricted cash, end of period

$

98,355

$

160,082

Non-cash investing activities:

 

  

 

  

Purchases of property and equipment included in accounts payable and accrued expenses

$

15

$

Non-cash financing activities:

Reclassification of warrants to additional paid-in capital

$

$

118

Conversion of preferred shares to common stock

139,807

Supplemental cash flow information:

 

  

 

  

Cash paid for taxes

$

480

$

550

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

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

1. Nature of the Business and Basis of Presentation

Organization

Morphic Holding, Inc. (the “Company”) was formed under the laws of the State of Delaware in August 2014. The Company is a biopharmaceutical company applying proprietary insights into integrin medicine to discover and develop first-in-class oral small molecule integrin therapeutics. Integrins are a validated target class with multiple approved drugs for the treatment of serious chronic diseases. Despite significant biopharmaceutical industry investment, no oral integrin therapies have been approved. The Company has created the Morphic integrin technology platform, or MInT Platform, by leveraging its unique understanding of integrin structure and biology, to develop a pipeline of novel product candidates designed to achieve potency, high selectivity, and the pharmaceutical properties required for oral administration.

The Company is subject to risks and uncertainties common to early-stage companies in the biotechnology industry, including, but not limited to, development by competitors of new technological innovations, dependence on key personnel, protection of proprietary technology, compliance with government regulations and the ability to secure additional capital to fund operations. Product candidates currently under development will require significant additional research and development efforts, including extensive preclinical and clinical testing and regulatory approval prior to commercialization. These efforts require significant amounts of additional capital, adequate personnel and infrastructure and extensive compliance-reporting capabilities. Even if the Company’s drug development efforts are successful, it is uncertain when, if ever, the Company will realize significant revenue from product sales. The Company expects to continue to incur losses from operations for the foreseeable future; the Company expects that its cash and cash equivalents and marketable securities will be sufficient to fund its operating expenses and capital expenditure requirements through at least the next 12 months from the date these financial statements were issued.

On July 1, 2019, the Company completed its initial public offering (“IPO”), in which the Company issued and sold 6,900,000 shares of its common stock at a public offering price of $15.00 per share, including 900,000 shares of common stock sold pursuant to the underwriters’ exercise of their option to purchase additional shares of common stock, for aggregate net proceeds of approximately $93.3 million. Upon the closing of the IPO, all of the outstanding shares of convertible preferred stock automatically converted into 21,010,407 shares of common stock; the warrants to purchase 6,825 convertible preferred shares automatically converted into warrants to purchase 6,825 common shares. Subsequent to the closing of the IPO, there were no shares of preferred stock outstanding. In connection with the closing of the IPO, the Company amended and restated its Fourth Amended and Restated Certificate of Incorporation to change the authorized capital stock to 400,000,000 shares designated as common stock and 10,000,000 shares designated as preferred stock, all with a par value of $0.0001 per share.

2. Basis of Presentation and Significant Accounting Policies

Basis of Presentation

The condensed consolidated financial statements include the accounts of Morphic Holding, Inc. and its wholly owned subsidiaries, Morphic Therapeutic, Inc. and a Massachusetts Security Corporation, organized in December 2018 to take advantage of the favorable tax treatment of income earned on securities held within such entity. All intercompany balances have been eliminated in consolidation.

The accompanying condensed consolidated financial statements are unaudited and have been prepared by the Company in accordance with accounting principles generally accepted in the United States (“GAAP”) as found in the Accounting Standards Codification (“ASC”) and Accounting Standards Update (“ASU”) of the Financial Accounting Standards Board (“FASB”). Certain information and footnote disclosures normally included in the Company’s annual financial statements have been condensed or omitted. These unaudited interim condensed consolidated financial statements, in the

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opinion of management, reflect all normal recurring adjustments necessary for a fair presentation of the Company’s financial position and results of operations for the interim periods ended September 30, 2020 and 2019.

The results of operations for the interim periods are not necessarily indicative of the results of operations to be expected for the full year. These unaudited interim condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements as of and for the year ended December 31, 2019, and the notes thereto, which are included in the Company’s Annual Report on Form 10-K filed with the Securities and Exchange Commission (the “SEC”) on February 27, 2020.

Use of Estimates and Summary of Significant Accounting Policies

The preparation of financial statements in accordance with GAAP requires management to make estimates and judgments that may affect the reported amounts of assets and liabilities and related disclosures of contingent assets and liabilities at the date of the financial statements and the related reporting of revenues and expenses during the reporting period. Significant estimates of accounting reflected in these consolidated financial statements include, but are not limited to, estimates related to revenue recognition, accrued research and development expenses, the valuation of equity-based compensation, and income taxes. Actual results could differ from those estimates.

Significant accounting policies

The significant accounting policies used in preparation of these condensed consolidated financial statements for the three and nine months ended September 30, 2020 are consistent with those discussed in Note 2 to the consolidated financial statements in the Company’s 2019 Annual Report on Form 10-K, except as described below.

Recently Adopted Accounting Pronouncements

In December 2019, the FASB issued ASU 2019-12, Simplifying Accounting for Income Taxes, a new standard intended to simplify the accounting for income taxes by eliminating certain exceptions related to the approach for intraperiod tax allocation, the methodology for calculating income taxes in an interim period and the recognition of deferred tax liabilities for outside basis differences. The new guidance also simplifies aspects of the accounting for franchise taxes and enacted changes in tax laws or rates and clarifies the accounting for transactions that result in a step-up in the tax basis of goodwill. The Company adopted ASU 2019-12 effective January 1, 2020, using the prospective method. Adoption of the standard did not have a material impact on the condensed consolidated financial statements.

Recently Issued Accounting Pronouncements not yet Adopted

As an “emerging growth company,” (“EGC”), under the Jumpstart Our Business Startups Act of 2012, or the JOBS Act, the Company has made an election under Section 107 of the JOBS Act to take advantage of the extended transition period provided in Section 7(a)(2)(B) of the Securities Act, for complying with new or revised accounting standards. Thus, the Company follows requirements applicable to the private companies for adopting new and updated accounting standards.

In November 2019, the FASB issued ASU 2019-10, Financial Instruments—Credit Losses (Topic 326), Derivatives and Hedging (Topic 815), and Leases (Topic 842): Effective Dates (“ASU 2019-10”), which finalizes effective date delays for private companies, not-for-profit organizations, and certain smaller reporting companies as follows:

January 1, 2023 as the effective date for adoption of the Topic 326 for annual and interim reporting periods;
January 1, 2021 and January 1, 2022 as the effective dates for adoption of the Topic 815 amendments for annual and interim periods, respectively; and

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January 1, 2021 and January 1, 2022 as the effective dates for adoption of the Topic 842 for annual and interim periods, respectively.

In June 2020, the FASB issued ASU 2020-05, Revenue from Contracts with Customers (Topic 606) and Leases (Topic 842), which partially superseded the guidance of the ASU 2019-10 described above, and deferred the effective date for adoption of ASC 606 and ASC 842 for certain entities that had not previously adopted these standards. The Company had adopted ASC 606 in a prior period and has not yet adopted ASC 842, discussed further below.

In June 2016, the FASB issued ASU 2016-13, Financial Instruments Credit Losses (Topic 326) (“ASU 2016-13”), which requires consideration of a broader range of reasonable and supportable information in developing credit loss estimates. In April 2019, the FASB issued ASU 2019-04, Financial Instruments-Credit Losses, Topic 815, Derivatives and Hedging, and Topic 825, Financial Instruments (“ASU 2019-04”). Certain provisions of ASU 2019-04 amend the guidance of ASU 2016-13, are applicable to the Company’s investments portfolio, and allow the Company to make certain accounting policy elections regarding establishing allowance for credit losses for the accrued interest receivable and the corresponding disclosures. In November 2019, the FASB issued ASU No. 2019-11, Codification Improvements to Topic 326, Financial Instruments – Credit Losses (“ASU 2019-11”), which clarifies certain areas of the guidance to ensure all companies and organizations can make a smoother transition to the standard. Following the issuance of ASU 2019-10 described above, the guidance is effective for the Company for the fiscal years beginning after December 15, 2022, including interim periods within those fiscal years, and will be adopted using the modified retrospective approach. The Company is currently evaluating the impact of ASU 2019-11 and the related ASU 2019-04 and ASU 2016-13 on the consolidated financial statements, including the impact of the available accounting policy elections.

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842), with guidance regarding the accounting for and disclosure of leases. In general, for lease arrangements exceeding a twelve-month term, these arrangements must now be recognized as assets and liabilities on the balance sheet of the lessee. Under ASU 2016-02, a right-of-use asset and lease obligation will be recorded for all leases, whether operating or financing, while the income statement will reflect lease expense for operating leases and amortization/interest expense for financing leases. The balance sheet amount recorded for existing leases at the date of adoption of ASU 2016-02 must be calculated using the applicable incremental borrowing rate at the date of adoption. This update also requires lessees and lessors to disclose key information about their leasing transactions. In July 2018, the FASB issued ASU 2018-11, Leases - Targeted Improvements, intended to ease the implementation of the new lease standard for financial statement preparers by, among other things, allowing for an additional transition method. In lieu of presenting transition requirements to comparative periods, as previously required, an entity may now elect to show a cumulative effect adjustment on the date of adoption without the requirement to recast prior period financial statements or disclosures presented in accordance with ASU 2016-02.

The Company currently expects to elect the available package of practical expedients which allows the Company to not reassess previous accounting conclusions around whether arrangements are or contain leases, the classification of leases, and the treatment of initial direct costs. The Company also expects it will make an accounting policy election to keep leases with an initial term of 12 months or less off of the balance sheet. The Company is in the process of assessing the impact of the standard and while not complete, it expects that it will record a material asset and liability related to its current operating lease; however, the full impact of adoption to the Company’s financial statements is yet to be determined. Based on the issuance of ASU 2020-05, described above, this standard is effective for the Company for the annual periods beginning after December 15, 2021, and interim periods within annual periods beginning after December 15, 2022.   

3. Fair Value of Financial Assets and Liabilities

The Company has certain financial assets and liabilities that are recorded at fair value which have been classified as Level 1, 2 or 3 within the fair value hierarchy as described in the accounting standards for fair value measurements:

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

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Level 2 — Inputs other than Level 1 inputs that are either directly or indirectly observable, such as quoted market prices, interest rates and yield curves.

Level 3 — Unobservable inputs developed using estimates of assumptions developed by the Company, which reflect those that a market participant would use.

To the extent the valuation is based on models or inputs that are less observable or unobservable in the market, the determination of fair values requires more judgment. Accordingly, the degree of judgment exercised by the Company in determining fair value is greatest for instruments categorized as Level 3. A financial instrument’s level within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement.

The tables below present information about the Company’s financial assets that are measured at fair value on a recurring basis as of September 30, 2020 and December 31, 2019 (in thousands) and indicate the level within the fair value hierarchy where each measurement is classified.

Fair Value Measurements at September 30, 2020

    

Total

    

Level 1

    

Level 2

    

Level 3

Assets:

 

  

 

  

 

  

Money market funds, included in cash and cash equivalents

$

97,849

$

97,849

$

$

U.S. Treasury obligations

 

115,066

 

 

115,066

 

Total assets

$

212,915

$

97,849

$

115,066

$

Fair Value Measurements at December 31, 2019

    

Total

    

Level 1

    

Level 2

    

Level 3

Assets:

 

  

 

  

 

  

 

  

Money market funds, included in cash and cash equivalents

$

91,332

$

91,332

$

$

U.S. Treasury obligations, included in cash and cash equivalents

 

9,995

 

 

9,995

 

U.S. Treasury obligations

 

135,457

 

 

135,457

 

Total assets

$

236,784

$

91,332

$

145,452

$

The money market funds included in the table above invest in U.S. government securities that are valued using quoted market prices. Accordingly, money market funds are categorized as Level 1 as of September 30, 2020 and December 31, 2019. Marketable securities included in the table above consist exclusively of U.S. Treasury securities that are valued using prices provided by third party pricing vendors, using observable market inputs such as interest rates, yield curves, and credit risk. Accordingly, these securities are categorized as Level 2 as of September 30, 2020 and December 31, 2019. During the nine months ended September 30, 2020, no assets were transferred between the fair value hierarchy categories. The Company had no liabilities measured at fair value on a recurring basis at September 30, 2020 or December 31, 2019.

The Company believes that the carrying amounts of the Company’s consolidated condensed financial instruments, including prepaid expenses and other current assets, accounts receivable, accounts payable, and accrued expenses approximate fair value due to the short-term nature of those instruments.

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4. Marketable securities

The following tables summarize the Company’s investments in marketable securities classified as available for sale (in thousands):

As of September 30, 2020

 

Gross

Gross

Aggregate

Amortized

unrealized

unrealized

estimated

    

Maturity

    

cost

    

holding gains

    

holding losses

    

fair value

U.S. Treasury securities

less than 1 year

$

115,006

$

60

$

$

115,066

As of December 31, 2019

Gross

Gross

Aggregate

Amortized

unrealized

unrealized

estimated

    

Maturity

    

cost

    

holding gains

    

holding losses

    

fair value

U.S. Treasury securities

less than 1 year

$

135,389

$

70

$

(2)

$

135,457

As of September 30, 2020, the Company held no marketable securities in an unrealized loss position. As of December 31, 2019, the aggregate fair value of three securities in an unrealized loss position was $30.2 million and the aggregate unrealized losses were $2,000.   Th

e value.

5. Cash, Cash Equivalents, and Restricted Cash

Restricted cash consists of a letter of credit in the amount of $275,000 issued to the landlord of the Company’s facility lease. The terms of the letter of credit extend beyond one year. The following table reconciles cash and cash equivalents and restricted cash per the balance sheet to the statements of cash flows:

September 30, 

December 31, 

September 30, 

December 31, 

2020

    

2019

             

2019

    

2018

Cash and cash equivalents

$

98,080

$

101,559

$

159,807

$

185,901

Restricted cash

 

275

 

275

 

275

 

275

Total cash, cash equivalents, and restricted cash

$

98,355

$

101,834

$

160,082

$

186,176

6. Accrued Expenses

At September 30, 2020 and December 31, 2019 accrued expenses consist of the following (in thousands):

September 30, 

December 31, 

    

2020

    

2019

Payroll and related expenses

 

3,651

 

3,159

Research and development activities

2,846

2,465

Other expenses

 

960

 

1,015

$

7,457

$

6,639

7. Equity Based Compensation

In connection with the Company’s initial public offering in July 2019, the Company adopted the 2019 Equity Incentive Plan (the “2019 Plan”) in June 2019, which replaced the 2018 Stock Incentive Plan. The 2019 Plan provides for the grant of stock options, restricted stock awards, stock bonus awards, cash awards, stock appreciation right, RSUs, and performance awards to directors, officers and employees of the Company, as well as consultants and advisors of the

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Company. On January 1, 2020, the number of shares of common stock available for issuance under the 2019 Plan increased by 1,204,410 shares as a result of the automatic increase provision of the 2019 Plan. As of September 30, 2020, there were a total of 1,327,705 shares available for future award grants under the 2019 Plan.

The Company recognized equity-based compensation expense in the condensed consolidated statements of operations and comprehensive loss, by award type, as follows (in thousands):

Three Months Ended September 30, 

Nine Months Ended September 30, 

    

2020

    

2019

    

2020

    

2019

Stock option

$

2,672

$

707

$

6,734

$

1,457

Restricted stock

202

162

956

578

ESPP

122

120

339

120

Total

$

2,996

$

989

$

8,029

$

2,155

The following table summarizes the allocation of equity-based compensation expense in the condensed consolidated statements of operations and comprehensive loss, by expense category:

Three Months Ended September 30, 

Nine Months Ended September 30, 

    

2020

    

2019

    

2020

    

2019

Research and development expense

$

1,480

$

586

    

$

4,623

    

$

1,287

General and administrative expense

 

1,516

 

403

 

3,406

 

868

Total

$

2,996

$

989

$

8,029

$

2,155

Restricted Common Stock

The following table summarizes the restricted stock awards activity during the nine months ended September 30, 2020:

Weighted

Average Fair

Value per Share

    

Number of Shares

    

at Issuance

Unvested restricted common stock as of December 31, 2019

 

379,770

$

4.32

Granted

 

 

Vested

 

(198,728)

 

4.32

Forfeited

 

(13,802)

 

4.32

Unvested restricted common stock as of September 30, 2020

 

167,240

$

4.32

As of September 30, 2020, the Company had unrecognized equity-based compensation expense of $466,000 related to the restricted stock awards, which is expected to be recognized over a weighted average period of 0.4 years.

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Restricted Stock Units

During the nine months ended September 30, 2020, the Company granted restricted common stock units. The following table summarizes the restricted stock units activity during the nine months ended September 30, 2020:

Weighted

Average Fair

Value per Share

Number of Shares

    

at Issuance

Unvested restricted common stock units as of December 31, 2019

$

Granted

66,216

10.84

Vested

Forfeited

Unvested restricted common stock units as of September 30, 2020

66,216

$

10.84

As of September 30, 2020, the Company had unrecognized equity-based compensation expense of $590,000 related to the restricted stock units, which is expected to be recognized over a weighted average period of 2.7 years.

Stock Options

The following table summarizes the Company’s stock option activity during the nine months ended September 30, 2020:

Weighted

Weighted

Average

Number of

Average

Remaining

Aggregate

    

Shares

    

Exercise Price

    

Contractual Term

    

Intrinsic Value

(in years)

(in thousands)

Outstanding as of December 31, 2019

 

2,987,403

$

8.67

9.22

$

26,254

Granted

 

2,015,685

 

15.72

 

 

Exercised

 

(176,497)

 

6.70

 

 

Forfeited

 

(141,315)

 

8.64

 

 

Outstanding as of September 30, 2020

 

4,685,276

$

11.78

 

8.90

$

72,902

Options exercisable as of September 30, 2020

 

1,078,963

$

8.34

 

8.51

$

20,503

As of September 30, 2020, the Company had unrecognized equity-based compensation expense of $29.0 million related to stock options issued to employees and non-employees, which is expected to be recognized over a weighted average period of 2.8 years.

The weighted average grant-date fair value per share of stock options granted to employees and non-employees for stock option awards with service-based vesting conditions during the nine months ended September 30, 2020 was $10.74 per share. The weighted average grant-date fair value per share of stock options granted to employees and non-employees for stock option awards with service-based vesting conditions during the nine months ended September 30, 2019 was $9.75 per share.

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The following table summarizes assumptions used in determining the fair value of the options granted during the nine months ended September 30, 2020:

Nine Months Ended September 30, 

  

Nine Months Ended September 30, 

2020

2019

Risk‑free interest rate

0.46%

1.91%

Expected dividend yield

-

-

Expected term (in years)

6.01

6.01

Expected Volatility

80.94%

74.96%

The Company determined the volatility for options granted in 2020 based on reported data for a guideline group of companies that issued options with substantially similar terms. The risk-free interest rate is based on a zero-coupon United States Treasury instrument with terms consistent with the expected life of the stock options. The expected term of options granted by the Company has been determined based upon the simplified method, because the Company does not have sufficient historical information regarding its options to derive the expected term. Under this approach, the expected term is the mid-point between the weighted average of vesting period and the contractual term. The Company has not paid and does not anticipate paying cash dividends on shares of common stock; therefore, the expected dividend yield is assumed to be zero.

ESPP

In 2019, the Company adopted the 2019 Employee Stock Purchase Plan (“ESPP”), which became effective on June 26, 2019. The Company initially reserved 300,000 shares of common stock for sale under the ESPP. On January 1, 2020, the number of shares of common stock available for issuance under the ESPP increased by 301,102 shares as a result of the automatic increase provision of the ESPP. The ESPP is a qualified, compensatory plan under Section 423 of the Internal Revenue Code and offers substantially all employees opportunity to purchase up to $25,000 of common stock per year at 15% discount to the lower of the beginning of the offering period price or the end of the offering period price.

Compensation expense for discounted purchases under the ESPP is measured using the Black-Scholes model to compute the fair value of the lookback provision plus the purchase discount and is recognized as compensation expense over the course of the offering period.

8. Equity Transactions under the Open Market Sale Agreement

On July 1, 2020, the Company entered into an Open Market Sale Agreement, or “the Agreement”, with Jefferies LLC (“Jefferies”) with respect to an at-the-market (“ATM”) offering program under which the Company may offer and sell, from time to time at its sole discretion, shares of our common stock, having an aggregate offering price of up to $75,000,000, referred to as Placement Shares, through Jefferies as its sales agent. The Company will pay Jefferies a commission equal to 3.0% of the gross sales proceeds of any Placement Shares sold through Jefferies under the Agreement, and also has provided Jefferies with customary indemnification and contribution rights. During the three months ended September 30, 2020, the Company issued and sold 256,879 shares for gross proceeds of $6.9 million less offering commissions of $0.2 million and related legal and accounting expenses of $0.4 million for net proceeds of $6.3 million under the ATM. As of September 30, 2020, the Company had approximately $68.1 million of common stock remaining available for sale under the ATM.

The Company did not have an at-the-market offering program in prior periods.

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9. Income Taxes

Deferred tax assets and deferred tax liabilities are recognized based on temporary differences between the financial reporting and tax basis of assets and liabilities using statutory rates. A valuation allowance is recorded against deferred tax assets if it is more likely than not that some or all of the deferred tax assets will not be realized.

The Company’s ability to use its operating loss carryforwards and tax credits to offset future taxable income is subject to restrictions under Sections 382 and 383 of the United States Internal Revenue Code, or the Internal Revenue Code. Net operating loss and tax credit carryforwards may become subject to an annual limitation in the event of certain cumulative changes in the ownership interest of significant stockholders over a three-year period in excess of 50 percent, as defined under Sections 382 and 383 of the Internal Revenue Code. Such changes would limit the Company’s use of its operating loss carryforwards and tax credits. In such a situation, the Company may be required to pay income taxes, even though significant operating loss carryforwards and tax credits exist.

On March 27, 2020, the President signed into law the Coronavirus Aid Relief and Economic Security (“CARES”) Act. The CARES Act included several income tax changes, included allowing for the carryback of net operating losses, expanding interest deductibility, and allowing for accelerated expensing of certain capital improvements. 

The Company records a provision or benefit for income taxes on ordinary pre-tax income or loss based on its estimated effective tax rate for the year. Based on the forecasted net operating loss for fiscal year 2020 and the carryback allowance under the CARES Act, the Company anticipates a full recovery of the federal income tax paid for the year ended December 31, 2019. Accordingly, the Company recognized an income tax benefit of $0.1 million and $0.4 million for the three and nine months ended September 30, 2020, respectively. The Company recognized an income tax expense of $0.3 million and $0.6 million for the three and nine months ended September 30, 2019, respectively, driven largely by the projected tax liability associated with the tax recognition of the upfront AbbVie collaboration payment received in 2018.

10. Commitments and Contingencies

Guarantees and Indemnifications

The Company entered, and intends to continue to enter, into separate indemnification agreements with directors, officers, and certain of key employees, in addition to the indemnification provided for in the restated certificate of incorporation and restated bylaws. These agreements, among other things, require the Company to indemnify directors, officers, and key employees for certain expenses, including attorneys' fees, judgments, penalties, fines, and settlement amounts actually incurred by these individuals in any action or proceeding arising out of their service to the Company or any of its subsidiaries or any other company or enterprise to which these individuals provide services at the Company’s request. Subject to certain limitations, the indemnification agreements also require the Company to advance expenses incurred by directors, officers, and key employees for the defense of any action for which indemnification is required or permitted.

The Company has standard indemnification arrangements in its leases for laboratory and office space that require it to indemnify the landlord against any liability for injury, loss, accident, or damage from any claims, actions, proceedings, or costs resulting from certain acts, breaches, violations, or non-performance under the Company’s lease.

Through September 30, 2020, the Company had not experienced any losses related to these indemnification obligations, and no material claims were outstanding. The Company does not expect significant claims related to these indemnification obligations and, consequently, concluded that the fair value of these obligations is negligible, and no related reserves were established.

During the three and nine months ended September 30, 2020, there were no material changes to our contractual obligations and commitments previously disclosed in Note 10 to the consolidated financial statements appearing in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2019.

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Legal Proceedings

The Company is not currently a party to any material legal proceedings.

11. Option and License Agreements

Detailed description of contractual terms and the Company’s accounting for agreements described below were included in the Company’s audited financial statements and notes in the Annual Report on Form 10-K filed with the Securities and Exchange Commission on February 27, 2020.

AbbVie Agreement

During the three months ended September 30, 2020, the Company continued to perform under its agreement with AbbVie, (the “AbbVie Agreement”) pursuant to which the Company recognizes revenues in proportion to the costs incurred. As a result, the Company recognizes the $100.0 million up-front payment as research and development services are performed, which is expected to be completed through 2024.

During the three months ended September 30, 2020, the Company incurred $2.5 million in research and development costs and recognized revenue of $3.6 million for the research services provided under the AbbVie Agreement. In addition, on August 25, 2020, pursuant to the AbbVie Agreement, AbbVie exercised its option to license and control further development and commercialization of Morphic’s αvβ6–specific integrin inhibitors (including MORF-720 and MORF-627) for the treatment of fibrotic diseases including idiopathic pulmonary fibrosis (IPF) and additional indications. In connection with the exercise of the option, AbbVie paid the Company $20.0 million. Upon option exercise, the Company evaluated whether the change to the contract should be treated as the continuation of the current arrangement or as a separate agreement. As the additional performance obligations were deemed to be distinct and priced consistent with the standalone selling price of such obligations, the Company concluded that the license and any additional performance obligations should be accounted for as a separate contract. The potential performance obligations included in the arrangement were (1) the license to research, develop and commercialize αvβ6–specific integrin inhibitors (including MORF-720 and MORF-627), and (2) options to purchase MORF-720 and MORF-627 materials that were manufactured prior to option exercise (the “Material Options”). The Company concluded that the Material Options were not material rights as the price to purchase the materials approximated the standalone selling price. Based on this conclusion, the full transaction price of $20.0 million was allocated to the license and recognized upon delivery in the third quarter of 2020. The Company is eligible to receive potential milestones and royalties on future development and commercialization of either MORF-720 and MORF-627, as further described in the Company’s audited financial statements and notes in the Annual Report on Form 10-K filed with the Securities and Exchange Commission on February 27, 2020, all of which have been fully constrained as of September 30, 2020.

During the nine months ended September 30, 2020, the Company incurred $10.2 million in research and development costs and recognized revenue of $12.3 million for the research services provided under the AbbVie Agreement and recognized revenue of $20.0 million received in connection with the option exercise by AbbVie. As of September 30, 2020, the Company had $73.5 million of deferred revenue, which is classified as either current or long-term deferred revenue in the accompanying condensed consolidated balance sheets based on the period over which the revenue is expected to be recognized. This deferred revenue balance represents the aggregate amount of the transaction price allocated to the performance obligations that are partially unsatisfied as of September 30, 2020.

As the Company progresses towards satisfaction of performance obligations under the AbbVie Agreement, the estimated costs associated with the remaining effort required to complete the performance obligations may change, which may materially impact revenue recognition. The Company regularly evaluates and, when necessary, updates the costs associated with the remaining effort pursuant to each performance obligation under the AbbVie Agreement. Accordingly, revenue may fluctuate from period to period due to revisions to estimated costs, resulting in a change in the measure of progress for a performance obligation. Such changes can also impact the allocation of deferred revenue between current and long term based on changes in expected timing of the satisfaction of performance obligations.

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Janssen Agreement

During the three months ended September 30, 2020, the Company continued to perform under its agreement with Janssen, pursuant to which the Company recognizes revenue in proportion to the costs incurred to date. The Company expects to provide research services and recognize revenue through 2024. During the three months ended September 30, 2020, the Company incurred $1.6 million in research and development costs and recognized revenue of $2.1 million related to research services. During the nine months ended September 30, 2020, the Company incurred $5.1 million in research and development costs and recognized revenue of $6.7 million related to research services. The Company had $1.6 million and $3.5 million due from Janssen included in accounts receivable on the condensed consolidated balance sheets as of September 30, 2020 and December 31, 2019, respectively.

As of September 30, 2020, $7.0 million of deferred revenue is classified as either current or long-term deferred revenue in the accompanying consolidated balance sheets based on the period over which the revenue is expected to be recognized. This deferred revenue balance represents the portion of the upfront payment received allocated to the performance obligations that are partially unsatisfied as of September 30, 2020.

12. Net Income (Loss) per Share

Basic net income (loss) per share is calculated by dividing net income (loss) allocable to common stockholders by the weighted-average common shares outstanding during the period, without consideration of common stock equivalents.

For periods with net income, diluted net income per share is calculated by adjusting the weighted-average shares outstanding for the dilutive effect of common stock equivalents, including stock options and restricted common stock and stock units outstanding for the period as determined using the treasury stock method.

For purposes of the diluted net loss per share calculation, common stock equivalents are excluded from the calculation if their effect would be anti-dilutive. As such, basic and diluted net loss per share applicable to common stockholders are the same for periods with a net loss.

The following tables illustrate the determination of basic and diluted income (loss) per share for each period presented.

Three Months Ended September 30, 

Nine Months Ended September 30, 

    

2020

    

2019

    

2020

    

2019

Net income (loss)

$

5,354

$

(8,864)

$

(27,250)

$

(23,497)

Weighted average common shares outstanding, basic

    

30,533,847

    

29,999,170

    

30,368,437

    

11,393,192

Net income (loss) per share, basic

$

0.18

$

(0.30)

$

(0.90)

$

(2.06)

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Three Months Ended September 30, 

Nine Months Ended September 30, 

    

2020

    

2019

    

2020

    

2019

Net income (loss)

$

5,354

$

(8,864)

$

(27,250)

$

(23,497)

Weighted average common shares outstanding, basic

    

30,533,847

    

29,999,170

    

30,368,437

    

11,393,192

Dilutive impact from:

Stock options

1,605,663

Restricted common stock and stock units

226,631

Weighted average common shares outstanding, diluted

    

32,366,141

    

29,999,170

    

30,368,437

    

11,393,192

Net income (loss) per share, diluted

$

0.17

$

(0.30)

$

(0.90)

$

(2.06)

The following table sets forth the outstanding common stock equivalents, presented based on amounts outstanding at each period end, that have been excluded from the calculation of diluted net income (loss) per share for the periods indicated because their inclusion would have been anti-dilutive (in common stock equivalent shares, as applicable):

Three Months Ended September 30, 

Nine Months Ended September 30, 

    

2020

    

2019

    

2020

    

2019

Restricted common stock

 

449,253

 

167,240

449,253

Restricted stock units

66,216

Stock options

 

553,502

 

2,680,835