1.     Basis of Presentation and Summary of Significant Accounting Policies

Organization and Basis of Presentation

Cesca Therapeutics Inc. (the Company, Cesca) is focused on the research, development, and commercialization of autologous cell-based therapies that advance the safe and effective practice of regenerative medicine. Cesca is a leader in the development and manufacture of automated blood and bone marrow processing systems that enable the separation, processing and cryopreservation of cell and tissue therapy products.

Liquidity

At December 31, 2015, the Company had cash and cash equivalents of $2,942 and working capital of $3,341. The Company has incurred recurring operating losses and as of December 31, 2015 had an accumulated deficit of $141,695. The Company has primarily financed operations through the sale of equity securities and the sale of certain non-core assets. In August 2015, the Company sold senior secured convertible debentures and warrants raising proceeds of $5,500 (the “Thirty-Year Debentures”). The second closing for gross proceeds of up to an additional $9,500 was contingent upon a number of items including the Company receiving approval from the California Institute for Regenerative Medicine (“CIRM”) for a grant in the amount of $10,000 or more. The funds were intended to support implementation of Cesca’s FDA approved phase III pivotal trial for Critical Limb Ischemia (“CLIRST III”). The Company applied for the CIRM grant in August 2015. However, based upon preliminary feedback from CIRM received in early November, the Company withdrew its application on November 6, 2015.

On February 2, 2016, the Company signed a purchase agreement for a financing transaction (“the Financing Transaction”), as more fully discussed in Footnote 6, for gross proceeds of $15 million. Based upon the closings of the Financing Transaction, repayment of the Thirty-Year Debentures, the Company’s cash balance, historical trends, the restructuring that occurred in September 2015, expected outflows and projections for revenues, management believes it will have sufficient cash to provide for its projected needs to maintain operations and working capital requirements for at least the next 12 months from the date of filing this quarterly report.

The Company will need additional funding to support its phase III Critical Limb Ischemia (CLIRST III) pivotal trial. As such, management has been exploring additional funding sources including strategic partner relationships. The Company cannot assure that such funding will be available on a timely basis, in needed quantities, or on favorable terms , if at all.

Principles of Consolidation

The consolidated financial statements include the accounts of Cesca Therapeutics Inc., and its wholly-owned subsidiaries, TotipotentRX Cell Therapy, Pvt. Ltd. and TotipotentSC Scientific Product Pvt. Ltd. All significant intercompany accounts and transactions have been eliminated upon consolidation.

Interim Reporting

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (U.S. GAAP) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, certain information and footnote disclosures normally included in annual financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such Securities and Exchange Commission (SEC) rules and regulations and accounting principles applicable for interim periods. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Events subsequent to the balance sheet date have been evaluated for inclusion in the accompanying condensed consolidated financial statements through the date of issuance. Operating results for the six month period ended December 31, 2015, are not necessarily indicative of the results that may be expected for the year ending June 30, 2016. These unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and the notes thereto included in the Annual Report on Form 10-K for the fiscal year ended June 30, 2015.

Revenue Recognition

Revenues from the sale of the Company’s products and services are recognized when persuasive evidence of an arrangement exists, delivery has occurred (or services have been rendered), the price is fixed or determinable, and collectability is reasonably assured. The Company generally ships products F.O.B. shipping point. There is no conditional evaluation on any product sold and recognized as revenue. Amounts billed in excess of revenue recognized are recorded as deferred revenue on the balance sheet.

The Company’s sales are generally through distributors. There is no right of return. For sales of products made to distributors, the Company considers a number of factors in determining whether revenue is recognized upon transfer of title to the distributor, or when payment is received. These factors include, but are not limited to, whether the payment terms offered to the distributor are considered to be non-standard, the distributor history of adhering to the terms of its contractual arrangements, the level of inventories maintained by the distributor, whether the Company has a pattern of granting concessions for the benefit of the distributor, and whether there are other conditions that may indicate that the sale to the distributor is not substantive. The Company currently recognizes revenue primarily on the sell-in method with its distributors.

Revenue arrangements with multiple deliverables are divided into units of accounting if certain criteria are met, including whether the deliverable item(s) has (have) value to the customer on a stand-alone basis. Revenue for each unit of accounting is recognized as the unit of accounting is delivered. Arrangement consideration is allocated to each unit of accounting based upon the relative estimated selling prices of the separate units of accounting contained within an arrangement containing multiple deliverables. Estimated selling prices are determined using vendor specific objective evidence of value (VSOE), when available, or an estimate of selling price when VSOE is not available for a given unit of accounting. Significant inputs for the estimates of the selling price of separate units of accounting include market and pricing trends and a customer’s geographic location. The Company accounts for training and installation, service agreements and the collection, processing and testing of the umbilical cord blood and the storage as separate units of accounting.

Service revenue generated from contracts for providing maintenance of equipment is amortized over the life of the agreement. Revenue generated from storage contracts is deferred and recorded ratably over the life of the agreement, up to 21 years. All other service revenue is recognized at the time the service is completed.

Revenues are net of normal discounts. Shipping and handling fees billed to customers are included in net revenues, while the related costs are included in cost of revenues. 

Fair Value Measurements

In accordance with ASC 820, “Fair Value Measurements and Disclosures,” fair value is defined as the exit price, or the amount that would be received for the sale of an asset or paid to transfer a liability in an orderly transaction between market participants as of the measurement date.

The guidance also establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in valuing the asset or liability and are developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions about the factors that market participants would use in valuing the asset or liability. The guidance establishes three levels of inputs that may be used to measure fair value:

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

Level 2: Observable market-based inputs or unobservable inputs that are corroborated by market data.

Level 3: Unobservable inputs reflecting the reporting entity’s own assumptions.

The carrying values of cash and cash equivalents, accounts receivable, accounts payable and accrued liabilities approximate fair value due to their short duration. The fair value of the Company’s derivative obligation liability is classified as Level 3 within the fair value hierarchy since the valuation model of the derivative obligation is based on unobservable inputs.

Debt Issue Costs

The Company amortizes debt issue costs to interest expense over the life of the associated debt instrument, using the straight-line method which approximates the interest rate method.

Derivative Financial Instruments

In connection with the sale of convertible debt and equity instruments, the Company may also issue freestanding warrants. If freestanding warrants are issued and accounted for as derivative instrument liabilities (rather than as equity), the proceeds are first allocated to the fair value of those instruments. The remaining proceeds, if any, are then allocated to the convertible instrument, usually resulting in that instrument being recorded at a discount from its face amount. Derivative financial instruments are initially measured at their fair value and then re-valued at each reporting date, with changes in the fair value reported as charges or credits to income.

Segment Reporting

The Company has one reportable business segment: the research, development and commercialization of autologous cell-based therapies for use in regenerative medicine.

Net Loss per Share

Net loss per share is computed by dividing the net loss to common stockholders by the weighted average number of common shares outstanding. The calculation of the basic and diluted earnings per share is the same for all periods presented, as the effect of the potential common stock equivalents is anti-dilutive due to the Company’s net loss position for all periods presented. Anti-dilutive securities consisted of the following at December 31:

Stock-Based Compensation

The Company estimates the fair value of stock options granted using the Black-Scholes-Merton option-pricing formula. This fair value is then amortized on a straight-line basis over the requisite service periods of the awards, which is generally the vesting period.

Recently Adopted Accounting Pronouncements

In April 2015, the Financial Accounting Standards Board (FASB) issued ASU 2015-03, "Interest -Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs." ASU 2015-03 requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of the related debt liability, consistent with debt discounts, instead of being presented as an asset. ASU 2015-03 is effective for the Company on January 1, 2016 and early adoption is permitted. The Company has decided to early adopt this standard. As a result, the debt issue costs of $770 at December 31, 2015 is a reduction to Convertible Debentures in the Condensed Consolidated Balance Sheets. There were no corresponding debt issue costs in prior periods.

In August 2014, the FASB issued ASU 2014-15, “Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern”. ASU 2014-15 is intended to define management’s responsibility to evaluate whether there is substantial doubt about an organization’s ability to continue as a going concern and to provide related footnote disclosures. For all entities, the ASU is effective for annual periods ending after December 15, 2016 and interim periods within annual periods beginning after December 15, 2016. Early adoption is permitted. The Company has decided to early adopt this standard.

Recently Issued Accounting Pronouncements

In January 2016, the FASB issued Accounting Standards Update (ASU) 2016-01, "Recognition and Measurement of Financial Assets and Liabilities." ASU 2016-01 requires equity investments (excluding equity method investments and investments that are consolidated) to be measured at fair value with changes in fair value recognized in net income. Equity investments that do not have a readily determinable fair value may be measured at cost, adjusted for impairment and observable price changes. The ASU also simplifies the impairment assessment of equity investments, eliminates the disclosure of the assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at cost on the balance sheet and requires the exit price to be used when measuring fair value of financial instruments for disclosure purposes. Under ASU 2016-01, changes in fair value (resulting from instrument-specific credit risk) will be presented separately in other comprehensive income for liabilities measured using the fair value option and financial assets and liabilities will be presented separately by measurement category and type either on the balance sheet or in the financial statement disclosures. ASU 2016-01 is effective for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. The Company has not yet determined the effect that ASU 2016-01 will have on its results of operations, statement of financial position or financial statement disclosures.

In November 2015, the FASB issued ASU 2015-17, "Income Taxes - Balance Sheet Classification of Deferred Taxes." ASU 2015-17 requires companies to present deferred tax assets and deferred tax liabilities as noncurrent in the statement of financial position. ASU 2015-17 is effective for financial statements issued for fiscal years beginning after December 15, 2016, and interim periods within those fiscal years. Early adoption is permitted at the beginning of an interim or annual reporting period. The Company has not yet determined the effect that ASU 2015-17 will have on its statement of financial position or financial statement disclosures.

2.     Commitments and Contingencies

Financial Covenants

Effective September 30, 2015, the Company entered into a Fifth Amended and Restated Technology License and Escrow Agreement with Cord Blood Registry Systems, Inc. which modified the financial covenant that the Company must meet in order to avoid an event of default: cash balance and short-term investments net of debt or borrowed funds that are payable within one year of not less than $2,000 must be maintained. The Company is in compliance with this financial covenant as of December 31, 2015.

Warranty

The Company offers a warranty on all of its non-disposable products of one to two years. The Company warrants disposable products through their expiration date. The Company periodically assesses the adequacy of its recorded warranty liabilities and adjusts the amounts as necessary.

The warranty liability is included in other current liabilities in the unaudited balance sheet. The change in the warranty liability for the six months ended December 31, 2015 is summarized in the following table:

3.     Convertible Debentures

Convertible debentures consist of the following as of December 31, 2015:

On August 31, 2015, the Company sold senior secured convertible debentures in a financing to raise up to $15,000 (“Thirty-Year Debentures”), Series A warrants to purchase up to 22,058,823 shares of the Company’s common stock at an exercise price equal to $0.68 per share for a period of five and one-half years (“Series A warrants”) and Series B warrants to purchase up to 12,132,353 shares of the Company’s common stock at an exercise price equal to $0.68 per share for a period of eighteen months (“Series B warrants”). At the initial closing on August 31, 2015, the Company received gross proceeds of $5,500 and 8,088,235 Series A warrants vested and 4,448,529 Series B warrants vested. The second closing for up to an additional $9,500 was dependent on a number of items including receipt by the Company of approval from CIRM for a grant in the amount of $10,000, to support the Company’s pivotal trial for CLIRST III. The Company applied for the CIRM grant in August 2015. However, based upon preliminary feedback received in early November, the Company withdrew its application for, and shall not receive, the CIRM grant. Therefore any funds released in a second close will only be at the election of the holders. The warrants issued in contemplation of a second close will remain outstanding until they expire.

The Thirty-Year Debentures bear no interest, may be converted into shares of the Company’s common stock at a conversion price of $0.68 per share, are secured by all of the Company’s assets and, unless previously converted, will mature on the 30 year anniversary of the date of issuance.  The Series A warrants and Series B warrants are subject to vesting based upon the amount of funds actually received by the Company in the sale of the Thirty-Year Debentures and became exercisable on October 30, 2015, the date stockholder approval was received. The warrants are non-cancelable and will expire in accordance with their terms. The Series A warrants may be exercised for cash or, upon the failure to maintain an effective registration statement, on a cashless basis. The Series B warrants may be exercised on a cashless basis at 90% of the weighted-average price at the time of exercise if it is lower than the conversion price subject to a floor of $0.10 per share with a 250% uplift in the number of shares to be issued.

In addition to standard and customary events of default, the holders can declare an event of default under the Thirty-Year Debentures if: a registration statement registering all of the registrable securities shall not have been declared effective by the earlier of (a) the CIRM grant approval date or (b) February 27, 2016 or the Company does not meet the current public information requirements under Rule 144 in respect of the registrable securities. The holders can also declare an event of default if they are not able to resell the registrable securities for a period of more than 20 consecutive trading days or 30 non-consecutive trading days in a year. As the registration statement was declared effective on November 24, 2015 but the Company was precluded from registering all of the shares required, the holders of the Thirty-Year Debentures could declare the Company in default.

If there is an event of default, the holder of the Thirty-Year Debentures may require the Company to redeem all or any portion of the Thirty-Year Debentures (including all accrued and unpaid interest, if any), in cash, at a price equal to the greater of: (i) the outstanding principal amount of the Thirty-Year Debentures, plus all accrued and unpaid interest thereon, divided by the conversion price on the date the default amount is either (A) demanded (if demand or notice is required to create an event of default) or otherwise due or (B) paid in full, whichever has a lower conversion price, multiplied by the Volume Weighted Average Price (“VWAP”) on the date the default amount is either demanded or otherwise due, or paid in full, whichever has a higher VWAP, or (ii) 130% of the outstanding principal amount of the Thirty-Year Debentures. As of February 16, 2016 the holders of the Thirty-Year Debentures had not declared the Company in default.

In connection with this financing, the Company entered into a registration rights agreement pursuant to which the Company agreed to register (a) all of the shares of common stock then issued and issuable upon conversion in full of the Thirty-Year Debentures (assuming on such date the Thirty-Year Debentures are converted in full without regard to any conversion limitations therein) and (b) all warrant shares then issued and issuable upon exercise of the warrants (assuming on such date the warrants are exercised in full without regard to any exercise limitations therein). In addition, the holders are entitled to receive liquidated damages upon the occurrence of a number of events relating to filing, getting an effective and maintaining an effective registration statement including the failure of the Company to have such registration statement declared effective by October 26, 2015. The liquidated damages are payable upon the occurrence of each of those events and each monthly anniversary thereof until cured. The amount of liquidated damages payable is equal to 4% of the subscription amount paid by each holder. If the Company fails to pay any partial liquidated damages in full within seven days after the date payable, the Company will pay 18% interest.

As the Company did not file an effective registration statement until November 24, 2015 and the Company was precluded by the SEC from registering all of the registrable securities on a single registration statement, management considered it probable that 4 months of liquidated damages would be due and accrued $880 during the three months ended September 30, 2015. During the three months ended December 31, 2015, it was determined that one additional month would be due prior to February 27, 2016, the date the holders will be able to trade securities under Rule 144. Therefore, management accrued an additional $220 of registration rights liquidated damages during the three months ended December 31, 2015. Management has made one liquidated damages payment of $220 during the three months ended December 31, 2015 and at December 31, 2015 has reflected the remaining accrual balance of $880 in other current liabilities.

For financial reporting purposes, the net proceeds of $4,720 was allocated first to the residual fair value of the Series A warrants, amounting to $3,385, then to the residual fair value of the obligation to issue the Series B warrants of $897, the remaining value to the intrinsic value of the beneficial conversion feature on the convertible debentures of $438, resulting in an initial carrying value of the Debentures of $0. The initial debt discount on the Debentures totaled $4,720 and is being amortized over the 30 year life of the convertible debentures. During the three and six months ended December 31, 2015, the Company amortized $39 and $52 of the debt discount, respectively.

Beneficial Conversion Feature

The beneficial conversion feature value was calculated as the difference resulting from subtracting the effective conversion price from the market price of the common stock on the issuance date, multiplied by the number of common shares into which the initial funding of the Debentures are convertible.

4.     Derivative Obligations

Series A and Series B Warrants

Series A and Series B warrants to purchase 8,088,235 and 4,448,529 common shares, respectively, were issued and vested during the six months ended December 31, 2015 (see Note 3). At the time of issuance, the Company determined that as the warrants can be settled for cash at the holders’ option in a future fundamental transaction they constituted a derivative liability. The Company estimated the fair value of the derivative liability aggregating approximately $4,282, using a Binomial Lattice Valuation Model and the following assumptions:

Expected volatilities are based on the historical volatility of the Company’s common stock. Contractual term is based on remaining term of the respective warrants. The discount rate represents the yield on U.S. Treasury bonds with a maturity equal to the contractual term.

The Company recorded a gain of approximately $2,180 and $3,606 during the three and six months ended December 31, 2015, representing the net change in the fair value of the derivative liability, which is presented as fair value change of derivative instruments, in the accompanying condensed consolidated statements of operations and comprehensive loss.

During the three months ended December 31, 2015, 503,696 Series B warrants were exercised on a cashless basis and the holders of the warrants received 2,134,203 shares of common stock. These warrants had an aggregate exercise date fair value of $33. The Company recorded a gain on the fair value change of derivative instruments for these warrants of $16 during the three months ended December 31, 2015. The Company recomputed the fair value of these warrants using the Binomial option pricing model (Level 3 inputs) using the following weighted average assumptions: expected volatility of 88%, discount rate of 0.57%, contractual term of 1.2 years and dividend rate of 0%. The Company recorded a loss on cashless exercise of warrants of $564, based on the fair market value of the Company’s common stock at the time of exercise, during the three months ended December 31, 2015.

In accordance with U.S. GAAP, the following table represents the Company’s fair value hierarchy for its financial liabilities measured at fair value on a recurring basis as of December 31, 2015:

The following table reflects the change in fair value of the Company’s derivative liabilities for the six months ended December 31, 2015:

5.     Stockholders’ Equity

Stock Based Compensation

The Company recorded stock-based compensation of ($39) and $304 for the three and six months ended December 31, 2015, and $392 and $676 for the three and six months ended December 31, 2014. The Company recorded an overall credit to stock-based compensation for the three months ended December 31, 2015 primarily due to revising estimated completion dates on restricted stock units performance milestones, terminations and revaluing consultant awards.

The following is a summary of option activity for the Company’s stock option plans:

The aggregate intrinsic value is calculated as the difference between the exercise price of the underlying awards and the quoted price of the Company’s common stock. There were no options exercised during the six months ended December 31, 2015 and 2014.

The fair value of the Company’s stock options granted for the six months ended December 31, 2015 was estimated using the following weighted-average assumptions:

At December 31, 2015, the total compensation cost related to options granted but not yet recognized was $303 which will be amortized over a weighted-average period of approximately two years.

Common Stock Restricted Units

The following is a summary of restricted stock activity during the six months ended December 31, 2015:

In connection with the vesting of the restricted stock awards, the election was made by some of the employees to satisfy the applicable federal income tax withholding obligation by a net share settlement, pursuant to which the Company withheld 9,915 shares and used the deemed proceeds from those shares to pay the income tax withholding. The net share settlement is deemed to be a repurchase by the Company of its common stock.

Warrants

A summary of warrant activity for the six months ended December 31, 2015 follows:

At December 31, 2015, the total intrinsic value of warrants outstanding and exercisable was $0 as calculated as the difference between the exercise price of the underlying warrants and the quoted price of the Company’s common stock. However, the Series B warrants may be exercised on a cashless basis at 90% of the five-day weighted-average price at the time of exercise if it is lower than the conversion price subject to a floor of $0.10 per share with a 250% uplift in the number of shares to be issued.

6.     Subsequent Events

Financing Transaction

On February 2, 2016, the Company entered into a purchase agreement pursuant to which the Company agreed to issue 14,705,882 shares of common stock, senior secured three-year convertible debentures (“Three-Year Debentures”) and five year warrants to purchase additional shares of common stock. The sale and issuance of the common stock, the Three-Year Debentures and the warrants will take place in two closings. At the first closing which occurred on February 13, 2016, in exchange for aggregate proceeds to the Company of $10.5 million, the Company sold 14,705,882 shares of common stock, Three-Year Debentures for $8.0 million, convertible into 47,058,824 shares and warrants to purchase 49,411,765 additional shares of Common Stock with an exercise price of $0.40. The second closing was dependent on the Thirty-Year Debentures, being repaid and cancelled. At the second closing, in exchange for aggregate proceeds to the Company of $4.5 million, the Company shall issue $4.5 million of additional Three-Year Debentures, convertible into 26,470,588 common shares and warrants to purchase 21,176,470 additional shares of common stock at an exercise price of $0.40. The second closing occurred on February 16, 2016.

The Three-Year Debentures have a 22% interest rate and may not be prepaid without prior consent. The Three-Year Debentures will be secured by a first priority, senior lien over all of the Company’s assets. All outstanding principal and accrued and unpaid interest will be convertible into shares of common stock at the option of the holder at maturity or, provided that the second closing has occurred prior to maturity if (i) for 15 days upon and after the time that the Company’s cash balance and short-term investments, net of short term debt, are less than $2.1 million, (ii) the Company effects certain changes in control, or (iii) the Company’s common stock is delisted from NASDAQ. The Three-Year Debentures may be converted at the Company’s option prior to maturity, provided that (i) the 20-day simple moving average price of the Company’s common stock is at least $0.2125 and (ii) the volume weighted average trading price of the Company’s common stock is greater than $0.17 for ten consecutive days.

This financing transaction may result in a change of control of the Company. Upon the second closing and assuming the conversion of the Three-Year Debentures, exercise of the warrants in full and completion of the Thirty-Year Debenture restructuring transaction discussed below, the investors will own approximately 77% of the Company’s outstanding common stock on a fully-diluted basis based on the capitalization of the Company at February 2, 2016. The exercise of the warrants in full would result in proceeds to the Company of $28,235.

Thirty-Year Debenture Restructuring Transaction

In connection with the financing transaction described above, the Company concurrently entered into a Consent, Repayment and Release Agreement, pursuant to which the holders of the Thirty-Year Debentures have agreed to allow the Company to repay the Thirty-Year Debentures and all related interest and liquidated damages immediately on or after the first closing of the Three-Year Debentures. Upon the Company’s payment of $7.5 million, the Thirty-Year Debentures shall be deemed repaid in full and cancelled, all liquidated damages due and payable shall be deemed paid and satisfied in full, the registration rights agreement shall be terminated and the exercise price of the Series A warrants shall be changed from $0.68 to $0.40. Pursuant to the terms of the Consent Repayment and Release Agreement, upon receipt of the $7.5 million, the holders of the Series B warrants shall make a single, one-time cashless exercise of their remaining Series B warrants for 2,500,000 shares of common stock. All remaining Series B warrants shall be cancelled. This restructuring transaction occurred on February 16, 2016.