UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
 
Washington, DC 20549
 
Form 10-Q
(Mark One)
     
þ
 
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended December 31, 2015
or
     
o
 
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: 000-54014
 
VistaGen Therapeutics, Inc.
(Exact name of registrant as specified in its charter)
     
   
Nevada
 
20-5093315
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
 
343 Allerton Avenue
South San Francisco, CA 94080
(Address of principal executive offices including zip code)
 
(650) 577-3600
(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 x No o
 
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 (Sec.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 x No o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
   
Large accelerated filer
 [  ]
Accelerated filer
[  ]
Non-Accelerated filer
 [  ]
Smaller reporting company
[X]
(do not check if a smaller reporting company)
     
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x
 
As of February 12, 2016, 2,272,406 shares of the registrant’s common stock, $0.001 par value, were issued and outstanding. 

 
 



 
 
VistaGen Therapeutics, Inc.
Quarterly Report on Form 10-Q
for the Quarter Ended December 31, 2015

 
TABLE OF CONTENTS

 
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PART I. FINANCIAL INFORMATION
 
Item 1. Condensed Consolidated Financial Statements (Unaudited)
 
VISTAGEN THERAPEUTICS, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS
(Amounts in Dollars, except share amounts)
 
   
December 31,
 
March 31,
 
   
2015
   
2015
 
   
(Unaudited)
   
(Note 2)
 
 ASSETS
           
Current assets:
           
Cash and cash equivalents
  $ 1,158,400     $ 70,000  
Prepaid expenses and other current assets
    728,300       35,700  
Total current assets
    1,886,700       105,700  
Property and equipment, net
    78,600       117,100  
Security deposits and other assets
    46,900       46,900  
Total assets
  $ 2,012,200     $ 269,700  
                 
 LIABILITIES AND STOCKHOLDERS’ DEFICIT
               
Current liabilities:
               
Accounts payable
  $ 1,097,600     $ 2,251,100  
Accrued expenses
    929,100       1,206,500  
Current maturities of senior secured convertible promissory notes and accrued interest
    -       4,146,100  
Current portion of notes payable, net of discount of $0 at December 31, 2015 and $474,500 at March 31, 2015, and accrued interest
    73,800       4,117,000  
Current portion of notes payable to related parties, net of discount of $0 at December 31, 2015 and $54,500 at March 31, 2015, and accrued interest
    -       1,508,800  
Convertible promissory notes and accrued interest, net of discount of $0 at December 31, 2015 and $180,000 at March 31, 2015, respectively
    -       4,157,600  
Capital lease obligations
    1,100       1,000  
Total current liabilities
    2,101,600       17,388,100  
                 
Non-current liabilities:
               
Senior secured convertible promissory notes and accrued interest
    -       296,200  
Notes payable
    29,300       35,600  
Warrant liability
    -       3,008,500  
Accrued dividends on Series B Preferred Stock
    1,415,800       -  
Deferred rent liability
    63,500       83,000  
Capital lease obligations
    300       1,100  
Total non-current liabilities
    1,508,900       3,424,400  
Total liabilities
    3,610,500       20,812,500  
                 
Commitments and contingencies
               
                 
Stockholders’ deficit:
               
Preferred stock, $0.001 par value; 10,000,000 shares authorized at December 31, 2015 and March 31, 2015:
 
Series A Preferred, 500,000 shares authorized and outstanding at December 31, 2015 and March 31, 2015
    500       500  
Series B Preferred, 4,000,000 shares and no shares authorized at December 31, 2015 and March 31, 2015, respectively; 3,588,863 shares and no shares issued and outstanding at December 31, 2015 and March 31, 2015, respectively
    3,600       -  
Common stock, $0.001 par value; 30,000,000 shares and 10,000,000 shares authorized at December 31, 2015 and March 31, 2015, respectively; 1,965,170 shares and 1,677,110 shares issued at December 31, 2015 and March 31, 2015 respectively
    2,000       1,700  
Additional paid-in capital
    125,605,200       67,945,800  
Treasury stock, at cost, 135,665 shares of common stock held at December 31, 2015 and March 31, 2015, respectively
    (3,968,100 )     (3,968,100 )
 Accumulated deficit
    (123,241,500 )     (84,522,700 )
 Total stockholders’ deficit
    (1,598,300 )     (20,542,800 )
 Total liabilities and stockholders’ deficit
  $ 2,012,200     $ 269,700  
 
See accompanying notes to Condensed Consolidated Financial Statements.

 
-1-


VISTAGEN THERAPEUTICS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
(Unaudited)
(Amounts in dollars, except share amounts)

   
Three Months Ended
   
Nine Months Ended
 
   
December 31,
   
December 31,
 
   
2015
   
2014
   
2015
   
2014
 
                         
Operating expenses:
                       
Research and development
    806,300       445,400     $ 2,835,000     $ 1,476,600  
General and administrative
    1,335,500       671,300       6,514,500       2,024,600  
Total operating expenses
    2,141,800       1,116,700       9,349,500       3,501,200  
Loss from operations
    (2,141,800 )     (1,116,700 )     (9,349,500 )     (3,501,200 )
Other expenses, net:
                               
Interest expense, net
    (2,500 )     (792,400 )     (769,800 )     (2,182,900 )
Change in warrant liability
    -       953,700       (1,894,700 )     528,300  
Loss on extinguishment of debt
    -       -       (26,700,200 )     (2,371,400 )
Other expense
    (2,300 )     (134,900 )     (2,300 )     (134,900 )
Loss before income taxes
    (2,146,600 )     (1,090,300 )     (38,716,500 )     (7,662,100 )
Income taxes
    -       -       (2,300 )     (2,400 )
                                 
Net loss and comprehensive loss
  $ (2,146,600 )   $ (1,090,300 )   $ (38,718,800 )   $ (7,664,500 )
Accrued dividends on Series B Preferred stock
    (631,300 )     -       (1,459,300 )     -  
Deemed dividend on Series B Preferred Units
    (668,700 )     -       (1,811,800 )     -  
                                 
Net loss attributable to common stockholders
  $ (3,446,600 )   $ (1,090,300 )   $ (41,989,900 )   $ (7,664,500 )
                                 
Basic net loss attributable to common stockholders
                         
   per common share
  $ (1.95 )   $ (0.84 )   $ (25.45 )   $ (6.03 )
                                 
Diluted net loss attributable to common stockholders
                         
   per common share
  $ (1.95 )   $ (1.08 )   $ (25.45 )   $ (6.14 )
                                 
Weighted average shares used in computing:
                               
Basic net loss attributable to common stockholders
                         
   per common share
    1,765,641       1,302,300       1,650,160       1,270,495  
                                 
Diluted net loss attributable to common stockholders
                         
   per common share
    1,765,641       1,302,300       1,650,160       1,288,674  
 
See accompanying notes to Condensed Consolidated Financial Statements.

 
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VISTAGEN THERAPEUTICS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(Amounts in Dollars)
 
   
Nine Months Ended December 31,
 
   
2015
   
2014
 
Cash flows from operating activities:
           
Net loss
  $ (38,718,800 )   $ (7,664,500 )
Adjustments to reconcile net loss to net cash used in operating activities:
         
Depreciation and amortization
    40,800       39,200  
Amortization of discounts on convertible and promissory notes
    564,800       1,294,700  
Change in warrant liability
    1,894,700       (528,300 )
Stock-based compensation
    3,868,300       564,000  
Expense related to modification of warrants
    614,900       -  
Non-cash rent expense
    (19,500 )     (9,700 )
Interest income on note receivable for common stock purchase
    -       2,800  
Loss on settlement of note receivable for common stock purchase
    -       134,900  
Fair value of common stock granted for services
    606,300       134,000  
Fair value of Series B Preferred stock granted for services
    1,045,000       -  
Fair value of warrants granted for services and interest
    111,200       38,700  
Foreign currency transaction gain
    (6,400 )     (22,000 )
Loss on extinguishment of debt
    26,700,200       2,371,400  
Loss on disposition of fixed assets
    2,300       -  
Changes in operating assets and liabilities:
               
Prepaid expenses and other current assets
    61,800       74,300  
Accounts payable and accrued expenses, including accrued interest
    (264,500 )     1,696,100  
Net cash used in operating activities
    (3,498,900 )     (1,874,400 )
                 
Cash flows from investing activities:
               
Purchases of equipment, net
    (4,600 )     -  
Net cash used in investing activities
    (4,600 )     -  
                 
Cash flows from financing activities:
               
Net proceeds from issuance of common stock and warrants, including Units
    280,000       2,128,200  
Net proceeds from issuance of Series B Preferred Units
    4,397,800       -  
Repayment of capital lease obligations
    (700 )     (3,700 )
Repayment of notes
    (85,200 )     (236,900 )
Net cash provided by financing activities
    4,591,900       1,887,600  
Net increase in cash and cash equivalents
    1,088,400       13,200  
Cash and cash equivalents at beginning of period
    70,000       -  
Cash and cash equivalents at end of period
  $ 1,158,400     $ 13,200  
                 
Supplemental disclosure of noncash activities:
               
Senior Secured Notes, 2014 Unit Notes, other promissory notes and related accrued interest, and accounts payable, including conversion premiums, converted into Series B Preferred stock
  $ 18,891,400     $ -  
 
See accompanying notes to Condensed Consolidated Financial Statements.

 
-3-


VISTAGEN THERAPEUTICS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Note 1.  Description of Business

Overview

VistaGen Therapeutics, Inc. (OTCQB: VSTA), a Nevada corporation, is a clinical-stage biopharmaceutical company committed to developing and commercializing innovative product candidates for patients with diseases and disorders involving the central nervous system (CNS).  Our principal executive offices are located at 343 Allerton Avenue, South San Francisco, California 94080, and our telephone number is (650) 577-3600. Our website address is www.vistagen.com. Unless the context otherwise requires, the words “VistaGen Therapeutics, Inc.” “VistaGen,” “we,” “the Company,” “us” and “our” refer to VistaGen Therapeutics, Inc., a Nevada corporation.

Our lead drug candidate, AV-101, is a new generation, orally available prodrug candidate in Phase 2A development, initially for the adjunctive treatment of Major Depressive Disorder (MDD) in patients with an inadequate response to standard antidepressants. AV-101’s novel mechanism of action, as an N-methyl D aspartate receptor (NMDAR) antagonist binding selectively at the glycine binding (GlyB) co-agonist site of the NMDAR, is fundamentally differentiated from all antidepressants currently approved by the U.S. Food and Drug Administration (FDA). Our Phase 2A clinical study of AV-101 in subjects with treatment-resistant MDD is being conducted and funded by the U.S. National Institutes of Mental Health (NIMH) under our February 2015 Cooperative Research and Development Agreement (CRADA) with the NIMH.  The Principal Investigator of this NIMH-funded Phase 2A study, which was initiated in late-2015, is Dr. Carlos Zarate, Jr., Chief of the NIMH’s Experimental Therapeutics & Pathophysiology Branch and its Section on Neurobiology and Treatment of Mood and Anxiety Disorders. Dr. Zarate is an internationally recognized expert in the field of depression and was among the first clinical researchers in the world to discover the therapeutic potential of the NMDAR antagonist ketamine in treatment-resistant MDD.

We believe AV-101 has therapeutic potential in multiple additional CNS indications, including neuropathic pain and epilepsy, and in neurodegenerative diseases such as Parkinson’s disease and Huntington’s disease.
 
In addition to our focus on CNS and neurology, we are applying our proprietary, human pluripotent stem cell (hPSC) technology for drug rescue to develop proprietary new chemical entities (NCEs) for our internal drug candidate pipeline. Initial drug rescue programs are focused on NCEs for the treatment of cancer. We are also considering potential therapeutic and commercial applications of our stem cell technology platform for regenerative medicine (RM).

AV-101 and Major Depressive Disorder
 
Background

The World Health Organization estimates that 350 million people worldwide are affected by depression. According to the U.S. National Institutes of Health (NIH), major depression is one of the most common mental disorders in the U.S. The NIMH reports that in 2014, an estimated 15.7 million adults aged 18 or older in the U.S. had at least one major depressive episode in the past year. This represented 6.7 percent of all U.S. adults.  According to the U.S. Centers for Disease Control and Prevention (CDC), one in 10 Americans takes an antidepressant medication.

Unfortunately, millions of depression sufferers (more than 30%) do not benefit from initial treatment with standard antidepressants, generally a selective serotonin reuptake inhibitor (SSRI) or a serotonin-norepinephrine reuptake inhibitor (SNRI). Moreover, even when they do relieve depressive symptoms and induce remission of a major depressive episode, SSRIs and SNRIs take many weeks to achieve therapeutic benefits because of their mechanism of action. During the weeks to months before onset of antidepressant effects, side effects of SSRIs and SNRIs, including anxiety, metabolic syndrome, sleep disturbance, sexual dysfunction and suicidal thoughts and behaviors, may be considerable. Unfortunately, even after treatment with as many as four different standard antidepressants, millions of patients (more than 30% of drug-treated patients) do not achieve an adequate therapeutic response to their standard antidepressant therapies.

AV-101
 
AV-101, our orally available prodrug candidate, is in Phase 2 clinical development, initially for the adjunctive treatment of MDD patients with an inadequate response to standard antidepressant therapies. As published in the October 2015 issue of the peer-reviewed, Journal of Pharmacology and Experimental Therapeutics, in an article entitled, The prodrug 4-chlorokynurenine causes ketamine-like antidepressant effects, but not side effects, by NMDA/glycineB-site inhibition, in well-established preclinical models of depression, AV-101 was shown to induce fast-acting, dose-dependent, persistent and statistically significant antidepressant-like responses, following a single treatment, which responses were equivalent to responses seen with a control single sub-anesthetic dose of the NMDAR antagonist ketamine, an FDA-approved anesthetic administered intravenously by clinicians in a medical setting to treat MDD patients who have not responded adequately to standard antidepressant therapies).  In the same preclinical studies, the SSRI fluoxetine did not induce rapid onset antidepressant-like responses.   

Following two successful randomized, double-blind, placebo-controlled Phase 1A and Phase 1B safety studies funded by the NIH, we are now collaborating with the NIMH on a Phase 2A efficacy and safety study of AV-101 in subjects with treatment-resistant MDD. This NIMH-funded Phase 2A study began in late-2015, and is expected to enroll from 24 to 28 patients. As noted above, Dr. Carlos Zarate, Jr. of the NIMH is the Principal Investigator of the study.

Preclinical studies also support the hypothesis that AV-101 has the potential to treat several additional CNS disorders and neurodegenerative diseases, including chronic neuropathic pain, epilepsy, Parkinson’s disease and Huntington’s disease, where modulation of the NMDAR or active metabolites of AV-101 may have therapeutic benefit.

 
-4-


NCE Drug Rescue and Regenerative Medicine

Our drug rescue programs involve using CardioSafe 3D(TM), our customized in vitro bioassay system, to predict potential human heart toxicity of NCEs, long before they are ever tested in animal and human studies. We are are focused on leveraging our stem cell technology platform to recapture value from substantial prior investments by pharmaceutical companies and others related to screening large-scale compound libraries, optimizing and testing for efficacy NCEs that were terminated before FDA approval due to heart toxicity risks and are now available in the public domain and amenable to drug rescue.

Our current interests in the regenerative medicine arena include  collaborative nonclinical proof of concept studies with academic research partners to explore potential regenerative medicine applications involving hPSC-derived blood, bone, cartilage, heart, and liver cells.
 
Subsidiaries and Stock Consolidation

VistaGen Therapeutics, Inc., a California corporation (VistaGen California), is our wholly-owned subsidiary. Our Condensed Consolidated Financial Statements in this Report also include the accounts of VistaGen California’s two wholly-owned subsidiaries, Artemis Neuroscience, Inc., a Maryland corporation, and VistaStem Canada, Inc., a corporation organized under the laws of Ontario, Canada.

Effective August 14, 2014, we consummated a 1-for-20 reverse split of our authorized, and issued and outstanding shares of common stock (Stock Consolidation). Each reference to shares of common stock or the price per share of common stock in these financial statements is post-Stock Consolidation, and reflects the 1-for-20 adjustment as a result of the Stock Consolidation.
 
Note 2.  Basis of Presentation and Going Concern

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 Rule 8-03 of Regulation S-X. Accordingly, they do not contain all of the information and footnotes required for complete consolidated financial statements. In the opinion of management, the accompanying unaudited Condensed Consolidated Financial Statements reflect all adjustments, which include only normal recurring adjustments, necessary to present fairly our interim financial information. The accompanying Condensed Consolidated Balance Sheet at March 31, 2015 has been derived from our audited consolidated financial statements at that date but does not include all disclosures required by U.S. GAAP.  The operating results for the nine months ended December 31, 2015 are not necessarily indicative of the operating results to be expected for our fiscal year ending March 31, 2016 or for any other interim period or any other future period.
 
The accompanying unaudited Condensed Consolidated Financial Statements and notes to Condensed Consolidated Financial Statements should be read in conjunction with our audited Consolidated Financial Statements for the fiscal year ended March 31, 2015 contained in our Annual Report on Form 10-K, as filed with the Securities and Exchange Commission (SEC) on June 29, 2015.

The accompanying Condensed Consolidated Financial Statements have been prepared assuming we will continue as a going concern. As an entity having not yet achieved sustainable revenues, we have experienced recurring losses and negative cash flows from operations resulting in a deficit of $123.2 million accumulated from inception in May 1998 through December 31, 2015. We expect losses and negative cash flows from operations to continue for the foreseeable future as we continue to develop AV-101 for Major Depressive Disorder and additional CNS indications, and engage in drug rescue, drug development and exploratory regenerative medicine programs.
 
Since our inception in May 1998 through December 31, 2015, we have financed our operations through (1) the issuance and sale of our common stock, preferred stock, warrants for common stock, and promissory notes for aggregate cash proceeds of approximately $33.8 million; (2) issuance of common stock and preferred stock with an approximate value at issuance of $28.9 million as consideration for, among other things, technology license fees and patent prosecution, sponsored research, contract research, drug development, drug manufacturing, U.S. and foreign regulatory services, as well as legal, corporate development and financial advisory services; and (3) receipt of aggregate non-dilutive cash proceeds of approximately $16.4 million from government research and development grant awards and strategic collaboration transactions.
 
As described more completely in Note 7, Convertible Promissory Notes and other Notes Payable, and Note 8, Capital Stock, in May 2015, we created our Series B 10% Convertible Preferred Stock (Series B Preferred). Between March 31, 2015 and December 31, 2015, we extinguished approximately $17.2 million of indebtedness through conversion of such indebtedness into our Series B Preferred and, with respect to a portion of the indebtedness converted, warrants to purchase our common stock. More specifically, we converted (i) all Senior Secured Convertible Promissory Notes originally issued to Platinum Long Term Growth VII, LLC (Platinum), (ii) all 2014 Unit Notes outstanding at March 31, 2015 and those issued subsequently, and (iii) certain other outstanding promissory notes, including promissory notes issued to Cato Research Ltd., Cato Holding Company, Morrison & Foerster LLP (Note A and Note B), McCarthy Tetrault, Burr Pilger & Mayer, University Health Network (Toronto), the Icahn School of Medicine at Mount Sinai, National Jewish Health and others, into an aggregate of 2,618,917 shares of our Series B Preferred. Additionally, through December 31, 2015, we issued in self-placed private placement transactions with Platinum and other accredited investors, Series B Preferred Units consisting of an aggregate of 628,264 unregistered shares of Series B Preferred and five-year warrants to purchase 628,264 shares of our common stock, and we received cash proceeds of $4,397,800 therefrom. See Note 10, Subsequent Events, regarding disclosure of additional self-placed private placement sales of Series B Preferred Units after December 31, 2015.
 
 
-5-

 
At December 31, 2015, we did not have sufficient cash and cash equivalents to enable us to fund our planned operations over the next twelve months, including expected cash expenditures of approximately $6.0 million. In August 2015, we entered into an agreement with Platinum (August 2015 Agreement) pursuant to which we agreed to sell to Platinum an additional $3.0 million of our Series B Preferred and Series B Warrants (collectively, Series B Units). Through December 31, 2015, Platinum purchased an additional $1.65 million of Series B Units under the August 2015 Agreement. Concurrently with its December 2015 purchase of $1.0 million of Series B Units and at our request, Platinum agreed to cancel its right to purchase the remaining $1.35 million of the Series B Units under the August 2015 Agreement.  As more particularly disclosed in Note 10, Subsequent Events, from January 1, 2016 through February 12, 2016, we sold to certain accredited investors other than Platinum $128,000 of our Series B Units in self-placed private placement transactions. We intend to raise additional capital through conversions, exchanges, issuances, and/or sales of our securities, which may include both debt and equity securities. We may also seek research and development collaborations that could generate revenue, as well as government grant awards. Further, strategic collaborations, such as our February 2015 Cooperative Research and Development Agreement (CRADA) with the U.S. National Institute of Mental Health (NIMH) providing NIMH funding of our Phase 2A study of AV-101 in MDD, may provide resources to support a portion of our future cash needs and working capital requirements. Although we may seek additional collaborations that could generate revenue, as well as new government grant awards, no assurance can be provided that any such collaborations or awards will occur in the future.  Our future working capital requirements will depend on many factors, including, without limitation, the scope and nature of opportunities related to our success and the success of certain other companies in clinical trials, including our development of AV-101 as a treatment for MDD and other CNS conditions, and our stem cell technology platform, the availability of, and our ability to obtain, government grant awards and our ability to enter into collaborations on terms acceptable to us. To further advance the clinical development of AV-101 and our stem cell technology platform, as well as support our operating activities, we plan to continue to carefully manage our routine operating costs, including the size of our staff and staff salaries and benefits, as well as costs relating to regulatory consulting, contract research and development, investor relations and corporate development, legal, accounting, public company compliance and other professional services and working capital costs. 
 
Notwithstanding the foregoing, substantial additional financing may not be available to us on a timely basis, on acceptable terms, or at all. If we are unable to obtain substantial additional financing on a timely basis in the near term, our business, financial condition, and results of operations may be harmed, the price of our stock may decline, we may be required to reduce, defer, or discontinue certain of our research and development activities, including those relating to AV-101, and we may not be able to continue as a going concern. The accompanying Condensed Consolidated Financial Statements do not include any adjustments that might result from the outcome of this uncertainty.

Note 3.  Summary of Significant Accounting Policies

Use of Estimates

The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.  Significant estimates include those relating to share-based compensation, and assumptions that have been used to value warrants, warrant modifications, warrant liabilities.  We do not currently have, nor have we had during the periods covered by this report, any arrangements requiring the recognition of revenue.

Research and Development Expenses

Research and development expenses are composed of both internal and external costs.  Internal costs include salaries and employment-related expenses of scientific personnel and direct project costs.  External research and development expenses consist primarily of costs associated with nonclinical and clinical development of AV-101, now in Phase 2 clinical development, initially for Major Depressive Disorder, stem cell technology-related research and development costs, and costs related to the filing, maintenance and prosecution of patents and patent applications. All such costs are charged to expense as incurred.
 
 
-6-

 
Stock-Based Compensation

We recognize compensation cost for all stock-based awards to employees or consultants based on the grant date fair value of the award.  Non-cash, stock-based compensation expense is recognized over the period during which the employee or consultant is required to perform services in exchange for the award, which generally represents the scheduled vesting period.  We have no awards with market or performance conditions.  For equity awards to non-employees, we re-measure the fair value of the awards as they vest and the resulting value is recognized as an expense during the period over which the services are performed.

The table below summarizes stock-based compensation expense included in the accompanying Condensed Consolidated Statements of Operations and Comprehensive Loss for the three and nine months ended December 31, 2015 and 2014.
 
   
Three Months Ended
   
Nine Months Ended
 
   
December 31,
   
December 31,
 
   
2015
   
2014
   
2015
   
2014
 
Research and development expense:
                       
Stock option grants
  $ 71,300     $ 30,000     $ 118,700     $ 156,100  
Warrants granted to officer in March 2014 and March 2013
    2,800       36,300       8,500       108,900  
Warrants granted to officer in September 2015
    -       -       852,200       -  
      74,100       66,300       979,400       265,000  
                                 
General and administrative expense:
                               
Stock option grants
    20,400       18,600       36,500       86,700  
 
                               
Warrants granted to officers and directors in March 2014 and March 2013
    3,900       70,700       11,700       212,300  
Warrants granted to officers, directors and  consultants in September 2015
    -       -       2,840,700       -  
      24,300       89,300       2,888,900       299,000  
Total stock-based compensation expense
  $ 98,400     $ 155,600     $ 3,868,300     $ 564,000  

 
-7-

 
During September 2015, we granted options to purchase an aggregate of 90,000 shares of our common stock at an exercise price of $9.25 per share to our non-officer employees and certain strategic consultants. We did not grant stock options to any of our employees or strategic consultants during the nine months ended December 31, 2014. At December 31, 2015, there were stock options outstanding to purchase 296,738 shares of our common stock at a weighted average exercise price of $9.83 per share. During September 2015, we also granted immediately vested warrants to purchase an aggregate of 650,000 shares of our common stock to our executive officers, independent members of our Board of Directors and certain strategic consultants. We valued the warrants and options granted in September 2015 using the Black-Scholes Option Pricing Model and the following assumptions:

Assumption:
 
Warrants
   
Employee Options
 
Non-employee Options
 
Market price per share at grant date
 
$
9.11
 
$
9.11
 
$
9.11
 
Exercise price per share
 
$
9.25
 
$
9.25
 
$
9.25
 
Risk-free interest rate
   
1.52
 
2.02
 
2.20
%
Contractual or estimated term in years
   
5.00
   
6.25
   
10.00
 
Volatility
   
77.19
%  
79.48
%  
103.42
%
Dividend rate
   
0.0
%  
0.0%
%  
0.0
%
Shares
   
650,000
   
60,000
   
30,000
 
                     
Fair Value per share
 
$
5.68
 
$
6.35
 
$
8.27
 

Warrant Liability

Between October 2012 and July 2013, we issued to Platinum warrants to purchase an aggregate of 176,129 unregistered shares of our common stock and, subject to Platinum’s exercise of its rights to exchange shares of our Series A Preferred Stock that it holds, we are obligated to issue to Platinum an additional warrant to purchase 375,000 unregistered shares of common stock (the Series A Preferred Exchange Warrant) (collectively, the Platinum Warrants). As originally issued, the Platinum Warrants contained an exercise price adjustment feature that would reduce the exercise price of the Platinum Warrants and increase the number of shares of our common stock eligible for Platinum’s purchase thereunder in the event we subsequently issued equity instruments at a price lower than the exercise price of the Platinum Warrants. Prior to their amendment in May 2015, as described below, we accounted for the Platinum Warrants as non-cash liabilities and estimated their fair value at the end of each financial reporting period and recorded the change in the fair value as non-cash expense or non-cash income. The key component in determining the fair value of the Platinum Warrants and the related liability was the market price of our common stock, which is subject to significant fluctuation and is not under our control. The resulting change in the fair value of the warrant liability on our net income or loss was therefore also subject to significant fluctuation. Assuming all other fair value inputs remained generally constant, we generally recorded an increase in the warrant liability and non-cash losses when our stock price increased and a decrease in the warrant liability and non-cash gains when our stock price decreased.
 
As described more completely in Note 8, Capital Stock, on May 12, 2015, we entered into an agreement with Platinum pursuant to which Platinum agreed, among other things, to amend the Platinum Warrants to (i) fix the exercise price thereof, (ii) eliminate the exercise price reset and cashless exercise features (iii) fix the number of shares of our common stock issuable thereunder and (iv) eliminate the cashless exercise provisions from the Platinum Warrants.  This agreement and the related modifications to the Platinum Warrants resulted in the complete elimination of the warrant liability with respect to the Platinum Warrants during our fiscal quarter ended June 30, 2015.

As described more completely in Note 10, Subsequent Events, in January 2016, we entered into an Exchange Agreement with Platinum pursuant to which Platinum exchanged all outstanding Platinum Warrants, plus the shares issuable pursuant to the Series A Preferred Exchange Warrant for unregistered shares of our Series C Convertible Preferred Stock (Series C Preferred) in the ratio of 0.75 share of Series C Preferred for each warrant share cancelled.

Comprehensive Loss

We have no components of other comprehensive loss other than net loss, and accordingly our comprehensive loss is equivalent to our net loss for the periods presented.

 
-8-

 
Income (Loss) per Common Share

Basic income (loss) per share of common stock excludes the effect of dilution and is computed by dividing net income (loss) by the weighted-average number of shares of common stock outstanding for the period. Diluted income (loss) per share of common stock reflects the potential dilution that could occur if securities or other contracts to issue shares of common stock were exercised or converted into shares of common stock. In calculating diluted net income (loss) per share, we have historically adjusted the numerator for the change in the fair value of the warrant liability attributable to outstanding warrants, only if dilutive, and increased the denominator to include the number of potentially dilutive common shares assumed to be outstanding during the period using the treasury stock method. The change in the fair value of the warrant liability had an impact on the diluted earnings per share calculation in both the three and nine month periods ended December 31, 2014, but in no other periods included in these Condensed Consolidated Financial Statements, as indicated in the table below:
 
   
Three Months Ended December 31,
   
Nine Months Ended December 31,
 
   
2015
   
2014
   
2015
   
2014
 
                         
Numerator:
                       
Net loss attributable to common stockholders for basic earnings per share
  $ (3,446,600 )   $ (1,090,300 )   $ (41,989,900 )   $ (7,664,500 )
less: change in fair value of warrant liability attributable to outstanding warrants issued to Platinum
    -       (314,900 )     -       (251,500 )
Net loss for diluted earnings per share attributable to common stockholders
  $ (3,446,600 )   $ (1,405,200 )   $ (41,989,900 )   $ (7,916,000 )
                                 
Denominator:
                               
Weighted average basic common shares outstanding
    1,765,641       1,302,300       1,650,160       1,270,495  
Assumed conversion of dilutive securities:
                               
Warrants to purchase common stock
    -       -       -       18,179  
Potentially dilutive common shares assumed converted
    -       -       -       18,179  
Denominator for diluted earnings per share - adjusted weighted average shares
    1,765,641       1,302,300       1,650,160       1,288,674  
                                 
                                 
Basic net loss attributable to common stockholders per common share
  $ (1.95 )   $ (0.84 )   $ (25.45 )   $ (6.03 )
                                 
Diluted net loss attributable to common stockholders per common share
  $ (1.95 )   $ (1.08 )   $ (25.45 )   $ (6.14 )
 
 
-9-

 
As a result of our net loss for the periods presented, potentially dilutive securities were excluded from the computation, as their effect would be antidilutive. For the three month and nine month periods ended December 31, 2015, the accrual for dividends on our Series B Preferred and the deemed dividend attributable to the issuance of our Series B Preferred Units represent deductions from our net loss to arrive at net loss attributable to common stockholders for those periods.
 
Potentially dilutive securities excluded in determining diluted net loss per common share are as follows:
 
   
As of December 31,
 
   
2015
   
2014
 
             
Series A Preferred stock issued and outstanding (1)
    750,000       750,000  
                 
Series B Preferred stock issued and outstanding (2)
    3,588,863       -  
                 
Warrant shares issuable to Platinum upon exercise of common stock warrants by Platinum upon exchange of Series A Preferred under the terms of the October 11, 2012 Note Exchange and Purchase Agreement, as subsequently amended
    535,715       375,000  
                 
Outstanding options under the 2008 and 1999 Stock Incentive Plans
    296,738       207,768  
                 
Outstanding warrants to purchase common stock
    4,971,497       999,840  
                 
10% Senior Secured Convertible Notes issued to Platinum between October 2012 and July 2013, including accrued interest through December 31, 2014
    -       433,311  
                 
10% convertible notes issued as a component of Unit Private Placements, including accrued interest through December 31, 2014
    -       322,091  
                 
Total
    10,142,813       3,088,010  
____________
               
(1) Assumes exchange under the terms of the October 11, 2012 Note Exchange and Purchase Agreement with Platinum, as amended
 
(2) Assumes exchange under the terms of the Certificate of Designation of the Relative Rights and Preferences of the Series B 10% Convertible Preferred Stock, effective May 5, 2015
 
 
Recent Accounting Pronouncements

There have been no recent accounting pronouncements or changes in accounting pronouncements during the nine months ended December 31, 2015, as compared to the recent accounting pronouncements described in the Company’s Form 10-K for the fiscal year ended March 31, 2015, that are of significance or potential significance to the Company.
 
 
-10-

 
Note 4.  Fair Value Measurements

We follow the principles of fair value accounting as they relate to our financial assets and financial liabilities. The required fair value hierarchy that prioritizes observable and unobservable inputs used to measure and classify fair value into three broad levels is described as follows:

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

 
Level 2 — Inputs other than Level 1 that are observable, either directly or indirectly, 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 (i.e., inputs that reflect the reporting entity’s own assumptions about the assumptions that market participants would use in estimating the fair value of an asset or liability) are used when little or no market data is available.

We do not use derivative instruments for hedging of market risks or for trading or speculative purposes. In conjunction with the issuance to Platinum of the Senior Secured Convertible Promissory Notes and Platinum Warrants between October 2012 and July 2013, and the potential issuance of the Series A Preferred Exchange Warrant pursuant to Platinum’s exchange of the Series A Preferred stock that it holds into shares of our common stock, we determined that the Platinum Warrants included certain exercise price adjustment features that required the warrants to be treated as non-cash liabilities and recorded at their estimated fair value. Prior to their amendment in May 2015, as described below, we determined the initial fair value and subsequent fair value measurements of the warrant liability using a Monte Carlo simulation model with Level 3 inputs or the Black-Scholes Option Pricing model. Inputs used to determine fair value included the remaining contractual term of the Platinum Warrants, risk-free interest rates, expected volatility of the price of the underlying common stock, and the probability of a financing transaction or other equity issuance that would trigger a reset in the exercise price of the Platinum Warrants, and, in the case of the Series A Preferred Exchange Warrant, the probability of Platinum’s exchange of the shares of Series A preferred stock it holds into shares of common stock. As described more completely in Note 8, Capital Stock, on May 12, 2015, we entered into an agreement with Platinum pursuant to which we amended the Platinum Warrants to fix the exercise price thereof and eliminate the anti-dilution reset features that had previously required the Platinum Warrants to be treated as liabilities and carried at fair value. As a result of the agreement with Platinum, at May 12, 2015, we adjusted the Platinum Warrants to their fair value, estimated to be $4,903,200, reflecting an increase of $1,894,700 since March 31, 2015, which was recorded as a non-cash charge to other expense, net in the Condensed Consolidated Statements of Operations and Comprehensive Loss for the first quarter of our current fiscal year, and subsequently eliminated the warrant liability with respect to the Platinum Warrants, with a corresponding credit to Additional Paid-in Capital.
 
The fair value hierarchy for the warrant liability which had been measured at fair value on a recurring basis is as follows:
 
 
       
Fair Value Measurements at Reporting Date Using
 
   
Total
Carrying
   
Quoted Prices inActive Markets for Identical
Assets
   
Significant Other
Observable Inputs
   
Significant
Unobservable
Inputs
 
 
 
Value
   
(Level 1)
   
(Level 2)
   
(Level 3)
 
December 31, 2015:
                   
Warrant liability
  $ -     $ -     $ -     $ -  
March 31, 2015:
                               
Warrant liability
  $ 3,008,500     $ -     $ -     $ 3,008,500  
 
During the nine month period ended December 31, 2015, there was no significant change to the valuation models used for purposes of determining the fair value of the Level 3 warrant liability.
 
 
-11-

 
The changes in Level 3 liabilities measured at fair value on a recurring basis are as follows:
 
   
Fair Value Measurements
 
   
Using Significant
 
   
Unobservable Inputs
 
   
(Level 3)
 
       
   
Warrant Liability
 
       
Balance at March 31, 2015
  $ 3,008,500  
Mark to market loss included in net loss
    1,894,700  
Elimination of liability upon modification of warrants
    (4,903,200 )
         
Balance at December 31, 2015
  $ -  

We carried no assets or other liabilities at fair value at December 31, 2015 or March 31, 2015.
 
Note 5.  Prepaid Expenses and Other Current Assets
 
Prepaid expenses and other current assets are composed of the following at December 31, 2015 and March 31, 2015:
 
   
December 31,
   
March 31,
 
   
2015
   
2015
 
             
Insurance
  $ 51,600     $ 27,300  
Prepaid compensation under financial advisory and other consulting agreements
    675,000       -  
Legal fees
    -       3,400  
Technology license fees and all other
    1,700       5,000  
                 
    $ 728,300     $ 35,700  
 
Note 6. Accrued Expenses
 
Accrued expenses are composed of the following at December 31, 2015 and March 31, 2015:
 
   
December 31,
   
March 31,
 
   
2015
   
2015
 
             
Accrued professional services
  $ 367,000     $ 213,800  
Accrued compensation
    561,100       990,700  
All other
    1,000       2,000  
                 
    $ 929,100     $ 1,206,500  
 
 
-12-

 
Note 7.  Convertible Promissory Notes and Other Notes Payable
 
The following table summarizes our secured and unsecured convertible promissory notes and other notes payable at December 31, 2015 and March 31, 2015.
 
 
 
December 31, 2015
         
March 31, 2015
       
 
 
Principal
   
Accrued
         
Principal
   
Accrued
       
   
Balance
   
Interest
   
Total
   
Balance
   
Interest
   
Total
 
Senior Secured 10% Convertible Promissory Notes issued to Platinum:
                                   
Total Senior notes issued between October 11, 2012  and July 23, 2013
  $ -     $ -     $ -     $ 3,522,600     $ 919,700     $ 4,442,300  
less: current portion
    -       -       -       (3,272,600 )     (873,500 )     (4,146,100 )
Senior notes - non-current portion
  $ -     $ -     $ -     $ 250,000     $ 46,200     $ 296,200  
                                                 
10% Convertible Promissory Notes (Unit Notes)
                                               
2014 Unit Notes, including amended notes, due 3/31/15
  $ -     $ -     $ -     $ 4,066,900     $ 270,700     $ 4,337,600  
Note discounts
    -       -       -       (180,000 )     -       (180,000 )
Net convertible notes (all current at March 31, 2015)
  $ -     $ -     $ -     $ 3,886,900     $ 270,700     $ 4,157,600  
                                                 
Notes Payable to unrelated parties:
                                               
7.5% Notes payable to service providers for accounts payable converted to notes payable:
                                               
Burr, Pilger, Mayer
  $ -     $ -     $ -     $ 90,400     $ 13,100     $ 103,500  
Desjardins
    -       -       -       156,300       24,100       180,400  
McCarthy Tetrault
    -       -       -       319,700       46,000       365,700  
August 2012 Morrison & Foerster Note A
    -       -       -       918,200       193,200       1,111,400  
August 2012 Morrison & Foerster Note B
    -       -       -       1,379,400       333,100       1,712,500  
University Health Network
    -       -       -       549,500       101,800       651,300  
      -       -       -       3,413,500       711,300       4,124,800  
Note discount
    -       -       -       (474,500 )     -       (474,500 )
      -       -       -       2,939,000       711,300       3,650,300  
less: current portion (and discount at March 31, 2015)
    -       -       -       (2,939,000 )     (711,300 )     (3,650,300 )
non-current portion and discount
  $ -     $ -     $ -     $ -     $ -     $ -  
                                                 
5.67% and 10.25% Notes payable to insurance premium financing company (current)
  $ -     $ -     $ -     $ 5,800     $ -     $ 5,800  
                                                 
10% Notes payable to vendors for accounts payable converted to notes payable
  $ 26,300     $ 7,000     $ 33,300     $ 378,300     $ 51,500     $ 429,800  
less: current portion
    (26,300 )     (7,000 )     (33,300 )     (378,300 )     (51,500 )     (429,800 )
non-current portion
  $ -     $ -     $ -     $ -     $ -     $ -  
                                                 
7.0% Note payable (August 2012)
  $ 58,800     $ 11,000     $ 69,800     $ 58,800     $ 7,900     $ 66,700  
less: current portion
    (29,500 )     (11,000 )     (40,500 )     (23,200 )     (7,900 )     (31,100 )
7.0% Notes payable - non-current portion
  $ 29,300     $ -     $ 29,300     $ 35,600     $ -     $ 35,600  
                                                 
Total notes payable to unrelated parties
  $ 85,100     $ 18,000     $ 103,100     $ 3,381,900     $ 770,700     $ 4,152,600  
less: current portion (and discount at March 31, 2015)
    (55,800 )     (18,000 )     (73,800 )     (3,346,300 )     (770,700 )     (4,117,000 )
Net non-current portion
  $ 29,300     $ -     $ 29,300     $ 35,600     $ -     $ 35,600  
                                                 
Notes payable to related parties:
                                               
October 2012 7.5% Note to Cato Holding Co.
  $ -     $ -     $ -     $ 293,600     $ 55,900     $ 349,500  
October 2012 7.5% Note to Cato Research Ltd.
    -       -       -       1,009,000       204,800       1,213,800  
      -       -       -       1,302,600       260,700       1,563,300  
Note discount
    -       -       -       (54,500 )     -       (54,500 )
Total notes payable to related parties
    -       -       -       1,248,100       260,700       1,508,800  
less: current portion
    -       -       -       (1,248,100 )     (260,700 )     (1,508,800 )
non-current portion and discount
  $ -     $ -     $ -     $ -     $ -     $ -  
 
        Between March 31, 2015 and December 31, 2015, we have extinguished the outstanding balances of approximately $17.2 million of indebtedness, including all senior secured promissory notes, all except $85,100 principal of unsecured promissory notes, and a substantial portion of other indebtedness, and certain adjustments thereto, that were either due and payable or would have become due and payable prior to March 31, 2016, by converting all such indebtedness into shares of our Series B Preferred (which is described more completely below under the caption Creation of Series B Preferred Stock in Note 8, Capital Stock). Significant changes in and conversions of our convertible promissory notes and other promissory notes since March 31, 2015 are described below.
 
10% Convertible Notes Issued in Connection with 2014 Unit Private Placement

As described more completely under the caption 2014 Unit Private Placement in Note 8, Capital Stock, between April 1, 2015 and May 14, 2015, we issued to accredited investors in self-placed private placement transactions 10% convertible notes (the 2014 Unit Notes) in the aggregate face amount of $280,000. The 2014 Unit Notes issued in April and May 2015 represented a continuation of the 2014 Unit Private Placement pursuant to which we had issued in self-placed private placement transactions to accredited investors an aggregate of $3,113,500 principal amount of substantially similar notes between late-March 2014 and March 31, 2015. The 2014 Unit Notes matured between April 30, 2015 and May 15, 2015 (Maturity) and the outstanding principal of the 2014 Unit Notes and their related accrued interest (the Outstanding Balance) was convertible into shares of our common stock at a conversion price of $10.00 per share at or prior to Maturity, at the option of the accredited investor. In addition, upon our consummation of either (i) an equity or equity-based public financing registered with the SEC, or (ii) an equity or equity-based private placement, or series of private placements, not registered with the SEC, in either case resulting in gross cash proceeds to us of at least $10.0 million prior to Maturity (a Qualified Financing), the Outstanding Balance of the 2014 Unit Notes would automatically convert into securities substantially similar to those sold in the Qualified Financing, based on the following formula: (the Outstanding Balance as of the closing of the Qualified Financing) x 1.25 / (the per security price of the securities sold in the Qualified Financing).

We allocated the proceeds from the self-placed private placement of the units to the 2014 Unit Notes, the common stock and the warrants comprising the units based on the relative fair value of the individual securities in the unit on the date of the unit sale. Based on the short-duration of the 2014 Unit Notes and their other terms, we determined that the fair value of the 2014 Unit Notes at the date of issuance was equal to their face value. Accordingly, we recorded an initial discount attributable to each 2014 Unit Note for an amount representing the difference between the face value of the 2014 Unit Note and its allocated relative value. Additionally, the 2014 Unit Notes contained an embedded conversion feature having intrinsic value at the issuance date, which value we treated as an additional discount attributable to those 2014 Unit Notes, subject to limitations on the absolute amount of discount attributable to each 2014 Unit Note. We recorded a corresponding credit to additional paid-in capital, an equity account, attributable to the beneficial conversion feature. We amortized the discounts attributable to the 2014 Unit Notes issued in April and May 2015, an aggregate of $277,200, using the effective interest method over the respective term of each 2014 Unit Note. Because the discount on each of these 2014 Unit Notes represented 99% of its initial face value, and because we were required to amortize such discount over the period from issuance to maturity, which was no more than two months for these notes, the calculated effective interest rate is extremely high. Based on the amounts of their respective discounts and the term between issuance and maturity, the effective interest rates attributable to the 2014 Unit Notes issued in April and May 2015 are in excess of 10,000%.
 
 
-13-

 
Conversion of Senior Secured 10% Convertible Promissory Notes issued to Platinum into Series B Preferred

As described more completely in Note 8, Capital Stock, effective on May 12, 2015, we entered in to a broad strategic agreement with Platinum (Platinum Agreement) pursuant to which Platinum, among other things, converted all of the $4,489,300 outstanding balance (principal and accrued interest) of the Senior Secured Notes having maturity dates between October 2015 and July 2016 into 641,335 shares of our Series B Preferred. We determined that the conversion of the Senior Secured Notes into Series B Preferred should be accounted for as an extinguishment of debt. Considering the exchangeability of the Series B Preferred into our common stock, the 10% in-kind dividend applicable to the Series B Preferred prior to such exchange and other factors, we also determined that the fair value of a share of Series B Preferred issued pursuant to the conversions of the Senior Secured Notes was equal to the market value of a share of our common stock on the conversion date. Based on the $10.00 per share fair value of the Series B Preferred at the date the Senior Secured Notes were converted, we issued Series B Preferred having an aggregate fair value of $6,413,300 to Platinum.  Accordingly, we recognized a non-cash loss on the extinguishment of debt of $1,924,000 in the quarter ended June 30, 2015, as reflected in the accompanying Condensed Consolidated Statement of Operations and Comprehensive Loss.
 
Conversion of 2014 Unit Notes into Series B Preferred

Pursuant to the Platinum Agreement, Platinum also converted the $1,345,700 outstanding balance of the 2014 Unit Notes originally issued by us to Platinum that had matured on March 31, 2015 (Platinum Unit Notes) into shares of our Series B Preferred. Platinum additionally agreed to acquire and convert into our Series B Preferred other 2014 Unit Notes that had matured on March 31, 2015 originally issued to other investors having an aggregate outstanding balance of $1,487,900 (Acquired Unit Notes). Further, effective May 20, 2015, the holders of other 2014 Unit Notes that had matured on March 31, 2015 or shortly thereafter having an aggregate outstanding balance of $1,831,200 (Investor Unit Notes) individually converted such notes into our Series B Preferred. Consequently, the aggregate outstanding balance totaling $4,664,800 of all 2014 Unit Notes, including those issued in April and May 2015, was converted into shares of our Series B Preferred. We determined that the Series B Preferred Unit Offering, as described in Note 8, Capital Stock, would be treated as a Qualified Financing applicable to the 2014 Unit Notes, entitling the 2014 Unit Note holders at the time of conversion to the 25% Qualified Financing conversion premium under the terms of the 2014 Unit Notes.  Accordingly, we issued in a self-placed private placement transaction an aggregate of 833,020 shares of our Series B Preferred and warrants to purchase an aggregate of 833,020 shares of our common stock upon the conversion of the outstanding balance of all 2014 Unit Notes, including an aggregate conversion premium of $1,166,200.
 
We determined that the conversion of the 2014 Unit Notes into Series B Preferred should be accounted for as an extinguishment of debt. Considering the exchangeability of the Series B Preferred into our common stock, the dividend applicable to the Series B Preferred prior to such exchange and other factors, we also determined that the fair value of a share of Series B Preferred issued pursuant to the conversion of the 2014 Unit Notes was equal to the market value of a share of our common stock on the conversion dates. Based on the $10.00 per share fair value of the Series B Preferred at the date the Platinum Unit Notes and Acquired Unit Notes were converted and the $8.00 per share fair value of the Series B Preferred at the date the Investor Unit Notes were converted, we issued in a self-placed private placement transaction Series B Preferred having an aggregate fair value of $7,676,200 upon the conversions. We valued the warrants issued in connection with the 2014 Unit Note conversions at an aggregate of $5,168,400 using the Black Scholes option pricing model and the following assumptions:

Assumption:
 
Platinum Unit Notes and Acquired
Unit Notes
   
Investor
Unit Notes
 
Market price per share at conversion date
 
$
10.00
   
$
8.00
 
Exercise price per share
 
$
7.00
   
$
7.00
 
Risk-free interest rate
   
1.58
     
1.57
 
Contractual term in years
   
5.00
     
5.00
 
Volatility
   
76.5
%    
75.7
Dividend rate
   
0.0
%    
0.0
%
Warrant shares
   
506,004
     
327,016
 
                 
Fair Value per share
 
$
6.89
   
$
5.15
 

Nearly all of the 2014 Unit Notes contained a beneficial conversion feature at the time they were originally issued. We have accounted for the repurchase of the beneficial conversion feature at the time of the extinguishment and conversion, an aggregate of $2,237,100, as a reduction to the loss on extinguishment of debt in the accompanying Condensed Consolidated Statements of Operations and Comprehensive Loss, with a corresponding reduction to additional paid-in capital. In aggregate, we recognized a non-cash loss on extinguishment of debt attributable to the conversion of the 2014 Unit Notes in the amount of $5,942,700 in the quarter ended June 30, 2015, as reflected in the accompanying Condensed Consolidated Statement of Operations and Comprehensive Loss.
 
 
-14-

 
Conversion of Promissory Note issued to University Health Network into Series B Preferred

On May 29, 2015, University Health Network (UHN) converted the entire $656,400 outstanding balance (principal and accrued interest) of our promissory note maturing on March 31, 2016 into 93,775 shares of our Series B Preferred. We determined that the conversion of the UHN note into Series B Preferred should be accounted for as an extinguishment of debt. Considering the exchangeability of the Series B Preferred into our common stock, the dividend applicable to the Series B Preferred prior to such exchange and other factors, we also determined that the fair value of a share of Series B Preferred issued pursuant to the conversion of the UHN note was equal to the market value of a share of our common stock on the conversion date. Based on the $10.00 per share fair value of the Series B Preferred at the date the UHN note was converted, we issued Series B Preferred having an aggregate fair value of $937,800 to UHN. After eliminating the remaining $27,500 of unamortized discount on the UHN note, we recognized a non-cash loss on the extinguishment of debt attributable to the conversion of the UHN Note of $308,900 in the quarter ended June 30, 2015, as reflected in the accompanying Condensed Consolidated Statement of Operations and Comprehensive Loss.

Conversion of Promissory Notes and Accounts Payable issued to Cato Holding Company (CHC) and Cato Research Ltd. (CRL) into Series B Preferred

On June 10, 2015, CHC, the parent company of CRL and a related party, converted the entire aggregate outstanding balance (principal and accrued interest) of $1,583,000 of our outstanding promissory notes issued to CHC and CRL and maturing on March 31, 2016 (together, the Cato Notes), plus an additional $171,300 of past due accounts payable to CRL and a strategic adjustment thereto (CRL Payables) into a total of 328,571 shares of our Series B Preferred. We determined that the conversion of the Cato Notes and the CRL Payables into Series B Preferred should be accounted for as an extinguishment of debt. Considering the exchangeability of the Series B Preferred into our common stock, the dividend applicable to the Series B Preferred prior to such exchange and other factors, we also determined that the fair value of a share of Series B Preferred issued pursuant to the conversion of the Cato Notes and CRL Payables was equal to the market value of a share of our common stock on the conversion date. Based on the $10.00 per share fair value of the Series B Preferred at the date the Cato Notes and CRL Payables were converted, we issued Series B Preferred having an aggregate fair value of $3,285,700 to CHC. As additional consideration for the conversion of the Cato Notes and the CRL Payables, we amended certain outstanding warrants held by CHC and CRL to purchase 12,500 and 60,691 restricted shares of our common stock, respectively, to reduce the exercise price thereof from $30.00 and $20.00 per share, respectively, to $7.00 per share. We calculated the fair value of the warrants immediately before and after the modifications and determined that the fair value of the warrants increased by $222,700. The warrants subject to the exercise price modifications were valued using the Black-Scholes Option Pricing Model and the following assumptions:

Assumption:
 
Pre-
modification
   
Post-
modification
 
Market price per share at modification date
 
$
10.00
   
$
10.00
 
Exercise price per share
 
$
20.00 and $30.00
   
$
7.00
 
Risk-free interest rate
   
0.87
   
0.87
Contractual term in years
   
2.31
     
2.31
 
Volatility
   
73.9
   
73.9
Dividend rate
   
0.0
 %    
0.0
 %
                 
Weighted Average Fair Value per share
 
$
2.44 and $1.57
   
$
5.33
 

After eliminating the remaining unamortized discount of $46,000 attributable to the Cato Notes, we recognized a non-cash loss on the extinguishment of debt attributable to the conversion of the Cato Notes and CRL Payables of $1,800,100 in the quarter ended June 30, 2015, as reflected in the accompanying Condensed Consolidated Statement of Operations and Comprehensive Loss.
 
 
-15-

 
Conversion of Promissory Note B issued to Morrison & Foerster into Series B Preferred

On June 12, 2015, Morrison & Foerster (M&F) converted the entire aggregate outstanding balance (principal and accrued interest) of $1,735,500 of our August 2012 promissory Note B maturing on March 31, 2016 (M&F Note B), plus an agreed strategic adjustment thereto into a total of 257,143 shares of our Series B Preferred. We determined that the conversion of M&F Note B into Series B Preferred should be accounted for as an extinguishment of debt. Considering the exchangeability of the Series B Preferred into our common stock, the dividend applicable to the Series B Preferred prior to such exchange and other factors, we also determined that the fair value of a share of Series B Preferred issued pursuant to the conversion of M&F Note B was equal to the market value of a share of our common stock on the conversion date. Based on the $10.00 per share fair value of the Series B Preferred at the date M&F Note B was converted, we issued Series B Preferred having an aggregate fair value of $2,571,400 to M&F. As additional consideration for the conversion of M&F Note B, we amended two outstanding warrants held by M&F to purchase an aggregate of 110,448 restricted shares of our common stock to reduce the exercise price of one of the warrants from $40.00 per share to $20.00 per share and to extend the term of both warrants from September 15, 2017 to September 15, 2019. We calculated the fair value of the warrants immediately before and after the modifications and determined that the fair value of the warrants increased by $244,200. The warrants subject to the exercise price and term modifications were valued using the Black-Scholes Option Pricing Model and the following assumptions:

Assumption:
 
Pre-
modification
   
Post-
modification
 
Market price per share at modification date
 
$
10.00
   
$
10.00
 
Exercise price per share
 
$
20.00 and $40.00
   
$
20.00
 
Risk-free interest rate
   
0.86
   
1.57
%
Contractual term in years
   
2.27
     
4.27
 
Volatility
   
73.8
%    
76.7
  %
Dividend rate
   
0.0
%    
0.0
%
                 
Weighted Average Fair Value per share
 
$
2.39 and $1.04
   
$
4.35
 

After eliminating the remaining unamortized discount of $225,500 attributable to M&F Note B, we recognized a non-cash loss on the extinguishment of debt attributable to the conversion of M&F Note B of $1,305,600 in the quarter ended June 30, 2015, as reflected in the accompanying Condensed Consolidated Statement of Operations and Comprehensive Loss.

In addition to its agreement to convert M&F Note B into Series B Preferred, M&F also agreed to withhold, through the later of (i) December 31, 2016 or (ii) our consummation of a registered public offering or a strategic transaction involving AV-101 in which, in either case, we received gross proceeds of at least $20.0 million, any and all action to collect amounts due under our August 2012 promissory Note A maturing on March 31, 2016 (M&F Note A) and all past due amounts owed by us to M&F in connection with professional services previously rendered by M&F (M&F Payables).

Conversion of Morrison & Foerster Note A and Morrison & Foerster Payables into Series B Preferred

In a transaction to which we were not a party, M&F sold M&F Note A, which, at the time of the sale, had an outstanding balance (principal and accrued interest) of $1,149,000, as well as the M&F Payables in the amount of $165,100, to two third-party accredited investors (the M&F Note A Investors). On August 10, 2015, the M&F Note A Investors converted M&F Note A and the M&F Payables into 192,628 shares of our Series B Preferred. We determined that the conversion of M&F Note A and the M&F Payables into Series B Preferred should be accounted for as an extinguishment of debt. Considering the exchangeability of the Series B Preferred into our common stock, the dividend applicable to the Series B Preferred prior to such exchange and other factors, we also determined that the fair value of a share of Series B Preferred issued pursuant to the conversion of the M&F Note A and M&F Payables was equal to the market value of a share of our common stock on the conversion date. Based on the $12.25 per share fair value of the Series B Preferred at the date M&F Note A and the M&F Payables were converted, we issued Series B Preferred having an aggregate fair value of $2,359,700 to the M&F Note A Investors. After eliminating the remaining unamortized discount of $122,400 attributable to M&F Note A, we recognized a non-cash loss on extinguishment of debt attributable to the conversion of M&F Note A and the M&F Payables of $1,168,000 in the quarter ended September 30, 2015, as reflected in the accompanying Condensed Consolidated Statement of Operations and Comprehensive Loss.

Conversion of Promissory Note issued to McCarthy Tetrault into Series B Preferred

On June 18, 2015, McCarthy Tetrault (McCarthy) converted the entire $379,600 outstanding balance (principal and accrued interest) of our past due promissory note issued in May 2011, plus an additional $2,100 of past due accounts payable (together, the McCarthy Note), into 59,230 shares of our Series B Preferred. We determined that the conversion of the McCarthy Note into Series B Preferred should be accounted for as an extinguishment of debt. Considering the exchangeability of the Series B Preferred into our common stock, the dividend applicable to the Series B Preferred prior to such exchange and other factors, we also determined that the fair value of a share of Series B Preferred issued pursuant to the conversion of the McCarthy Note was equal to the market value of a share of our common stock on the McCarthy Note conversion date. Based on the $14.00 per share fair value of the Series B Preferred at the date the McCarthy Note was converted, we issued Series B Preferred having an aggregate fair value of $829,200 to McCarthy. Accordingly, we recognized a non-cash loss on extinguishment of debt attributable to the conversion of the McCarthy Note of $447,500 in the quarter ended June 30, 2015 in the accompanying Condensed Consolidated Statement of Operations and Comprehensive Loss.
   
 
-16-

 
Conversion of Promissory Note issued to Burr Pilger & Mayer into Series B Preferred

On June 24, 2015, Burr Pilger & Mayer (Burr) converted the entire $105,200 outstanding balance (principal and accrued interest) of our past due promissory note issued in May 2011, plus an additional $17,900 of past due accounts payable (together, the Burr Note), into 21,429 shares of our Series B Preferred. We determined that the conversion of the Burr Note into Series B Preferred should be accounted for as an extinguishment of debt. Considering the exchangeability of the Series B Preferred into our common stock, the dividend applicable to the Series B Preferred prior to such exchange and other factors, we also determined that the fair value of a share of Series B Preferred issued pursuant to the conversion of the Burr Note was equal to the market value of a share of our common stock on the note conversion date. Based on the $16.50 per share fair value of the Series B Preferred at the date the Burr Note was converted, we issued Series B Preferred having an aggregate fair value of $353,600 to Burr.  Accordiungly, we recognized a non-cash loss on the extinguishment of debt attributable to the conversion of the Burr Note of $230,500 in the quarter ended June 30, 2015, as reflected in the accompanying Condensed Consolidated Statement of Operations and Comprehensive Loss.

Conversion of Promissory Note and Accounts Payable Issued to Icahn School of Medicine at Mount Sinai into Series B Preferred

On June 26, 2015, Icahn School of Medicine at Mount Sinai (ISMMS) converted the entire $270,400 outstanding balance (principal and accrued interest) of our past due April 2014 promissory note into a total of 40,000 shares of our Series B Preferred. We determined that the conversion of the ISMMS note into Series B Preferred should be accounted for as an extinguishment of debt. Considering the exchangeability of the Series B Preferred into our common stock, the dividend applicable to the Series B Preferred prior to such exchange and other factors, we also determined that the fair value of a share of Series B Preferred issued pursuant to the conversion of the ISMMS note was equal to the market value of a share of our common stock on the conversion date. Based on the $16.00 per share fair value of the Series B Preferred at the date the note was converted, we issued Series B Preferred having an aggregate fair value of $640,000 to ISMMS. As additional consideration for the conversion of the ISMMS note, we amended an outstanding warrant held by ISMMS to purchase 15,000 restricted shares of our common stock to reduce the exercise price from $10.00 per share to $7.00 per share. We calculated the fair value of the warrant immediately before and after the modification and determined that the fair value of the warrant increased by $16,600. The warrant subject to the exercise price modification was valued using the Black-Scholes Option Pricing Model and the following assumptions:

Assumption:
 
Pre-
modification
   
Post-
modification
 
Market price per share at modification date
 
$
16.00
   
$
16.00
 
Exercise price per share
 
$
10.00
   
$
7.00
 
Risk-free interest rate
   
1.34
%    
1.34%
Contractual term in years
   
3.76
     
3.76
 
Volatility
   
76.3
%    
76.3
%
Dividend rate
   
0.0
%    
0.0
%
                 
Weighted Average Fair Value per share
 
$
10.48
   
$
11.60
 

We recognized a non-cash loss on extinguishment of debt attributable to the conversion of ISMMS note of $386,200 in the quarter ended June 30, 2015 in the accompanying Condensed Consolidated Statement of Operations and Comprehensive Loss.

On July 13, 2015, ISMMS also converted accounts payable in the amount of $19,100 (ISMMS Payables) into an additional 3,000 shares of our Series B Preferred. We determined that the conversion of the ISMMS Payables into Series B Preferred should also be accounted for as an extinguishment of debt. Based on the $12.00 per share fair value of the Series B Preferred at the date the ISMMS Payables were converted, we issued Series B Preferred having an aggregate fair value of $36,000 to ISMMS.  Accordingly, we recognized a non-cash loss on the extinguishment of debt attributable to the conversion of the ISMMS Payables of $16,900 in the quarter ended September 30, 2015 in the accompanying Condensed Consolidated Statement of Operations and Comprehensive Loss.

Conversion of Promissory Note issued to National Jewish Health into Series B Preferred

On June 29, 2015, National Jewish Health (NJH) converted the entire $115,000 outstanding balance (principal and accrued interest) of our past due promissory note into 17,857 shares of our Series B Preferred. We determined that the conversion of the NJH note into Series B Preferred should be accounted for as an extinguishment of debt. Considering the exchangeability of the Series B Preferred into our common stock, the dividend applicable to the Series B Preferred prior to such exchange and other factors, we also determined that the fair value of a share of Series B Preferred issued pursuant to the conversion of the NJH note was equal to the market value of a share of our common stock on the conversion date. Based on the $15.00 per share fair value of the Series B Preferred at the date the NJH note was converted, we issued Series B Preferred having an aggregate fair value of $267,900 to NJH.  Accordingly, we recognized a non-cash loss on the extinguishment of debt attributable to the conversion of the NJH note of $152,900 in the quarter ended June 30, 2015, as reflected in the accompanying Condensed Consolidated Statement of Operations and Comprehensive Loss.
 
 
-17-

 
Conversion of Promissory Note issued to Desjardins Securities into Series B Preferred

On July 2, 2015, Desjardins Securities (Desjardins) converted the entire $187,400 outstanding balance (principal and accrued interest) of our past due promissory note into 32,143 shares of our Series B Preferred. We determined that the conversion of the Desjardins note into Series B Preferred should be accounted for as an extinguishment of debt. Considering the exchangeability of the Series B Preferred into our common stock, the dividend applicable to the Series B Preferred prior to such exchange and other factors, we also determined that the fair value of a share of Series B Preferred issued pursuant to the conversion of the Desjardins note was equal to the market value of a share of our common stock on the conversion date. Based on the $14.00 per share fair value of the Series B Preferred at the date the Desjardins note was converted, we issued Series B Preferred having an aggregate fair value of $450,000 to Desjardins.  Accordingly, we recognized a non-cash loss on extinguishment of the debt attributable to the conversion of the Desjardins note of $262,600 in the quarter ended September 30, 2015 as reflected in the accompanying Condensed Consolidated Statement of Operations and Comprehensive Loss.
 
Conversion of Promissory Note and Accounts Payable issued to MicroConstants into Series B Preferred

On July 6, 2015, MicroConstants, Inc. (MicroConstants) converted the $22,000 outstanding balance (principal and accrued interest) of our past due promissory note and outstanding accounts payable in the amount of $70,400 into an aggregate of 17,857 shares of our Series B Preferred. We determined that the conversion of the MicroConstants note and accounts payables into Series B Preferred should be accounted for as an extinguishment of debt. Considering the exchangeability of the Series B Preferred into our common stock, the dividend applicable to the Series B Preferred prior to such exchange and other factors, we also determined that the fair value of a share of Series B Preferred issued pursuant to the conversion of the MicroConstants note and accounts payable was equal to the market value of a share of our common stock on the conversion date. Based on the $14.00 per share fair value of the Series B Preferred at the date the MicroConstants note and accounts payable were converted, we issued Series B Preferred having an aggregate fair value of $250,000. Accordingly, we recognized a non-cash loss on extinguishment of debt attributable to the conversion of the MicroConstants note and payables of $157,600 in the quarter ended September 30, 2015 as reflected in the accompanying Condensed Consolidated Statement of Operations and Comprehensive Loss.

Conversion of Accounts Payable to Professional Services Providers and Other Debt into Series B Preferred

During June and July 2015, two of our professional service providers and a former employee to whom we were contractually obligated for certain accrued compensation amounts converted an aggregate of $497,900 past due amounts for prior services (Service Provider Payables) into an aggregate of 80,929 shares of our Series B Preferred. We determined that the conversion of the Service Provider Payables balances into Series B Preferred should be accounted for as an extinguishment of debt. Considering the exchangeability of the Series B Preferred into our common stock, the dividend applicable to the Series B Preferred prior to such exchange and other factors, we also determined that the fair value of a share of Series B Preferred issued pursuant to the conversion of the Service Provider Payables was equal to the market value of a share of our common stock on the respective Service Provider Payable conversion dates. Based on the per share fair value of the Series B Preferred on the respective dates that each Service Provider Payable was converted, which ranged from $10.00 per share to $12.00 per share, we issued Series B Preferred having an aggregate fair value of $823,800 to the Service Providers.  Accordingly, we recognized an aggregate non-cash loss on the extinguishment of debt attributable to the conversion of the Service Provider Payables in the amounts of $281,800 and $44,100 in the quarters ended June 30, 2015 and September 30, 2015, respectively, as reflected in the accompanying Condensed Consolidated Statement of Operations and Comprehensive Loss.
 
Note 8.  Capital Stock

2014 Unit Private Placement

Between April 1, 2015 and May 14, 2015, in self-placed private placement transactions, we entered into securities purchase agreements with accredited investors pursuant to which we sold Units (2014 Units) to such accredited investors for aggregate cash proceeds of $280,000, such 2014 Units consisting of (i) 10% convertible notes in the aggregate face amount of $280,000 due between April 30, 2015 and May 15, 2015 or automatically convertible into securities issuable upon our consummation of a Qualified Financing, as defined in the note (2014 Unit Notes); (ii) an aggregate of 33,000 restricted shares of our common stock (2014 Unit Stock); and (iii) warrants (2014 Unit Warrants) exercisable through December 31, 2016 to purchase an aggregate of 24,250 restricted shares of our common stock at an exercise price of $10.00 per share.

We allocated the proceeds from the private placement sales of the 2014 Units to the various securities based on their relative fair values on the dates of the sales. As described in Note 8, Convertible Promissory Notes and Other Notes Payable, based on the short-term nature of the Unit Notes, we determined that fair value of the 2014 Unit Notes was equal to their face value. We determined the fair value of the 2014 Unit Stock based on the quoted market price of our common stock on the respective dates of the 2014 Unit sales. We calculated the fair value of the 2014 Unit Warrants using the Black Scholes Option Pricing Model and the weighted average assumptions indicated in the table below. The table below also presents the aggregate allocation of the 2014 Unit sales proceeds based on the relative fair values of the 2014 Unit Stock, 2014 Unit Warrants and 2014 Unit Notes as of their respective 2014 Unit sales dates.
 
 Unit Warrants
       
Warrant
Weighted Average Issuance Date
Valuation Assumptions
Per Share
Fair
Aggregate
Fair Value
Aggregate
Proceeds
Aggregate Allocation of Proceeds
Based on Relative Fair Value of:
     
Risk free
   
Shares
Market
Exercise
Term
Interest
 
Dividend
Value of
of Unit
of Unit
Unit
   
Issued
Price
Price
(Years)
Rate
Volatility
Rate
Warrant
Warrants
Sales
Unit Stock
Warrant
Unit Note
                         
    24,250
 $   10.00
 $   10.00
       1.70
0.45%
73.19%
0.00%
 $     3.69
 $  89,600
 $ 280,000
 $  128,900
 $ 32,900
 $ 118,200

 
-18-

 
Between late-March 2014 and May 14, 2015, in self-placed private placement transactions, we entered into securities purchase agreements with accredited investors for the 2014 Unit Private Placement pursuant to which we sold 2014 Units to such accredited investors for aggregate cash proceeds of $3,393,500, consisting of (i) 2014 Unit Notes in the aggregate face amount of $3,393,500 due between March 31, 2015 and May 15, 2015 or automatically convertible into securities issuable upon our consummation of a Qualified Financing, as defined in the note; (ii) an aggregate of 315,850 restricted shares of 2014 Unit Stock; and (iii) 2014 Unit Warrants exercisable through December 31, 2016 to purchase an aggregate of 307,100 restricted shares of our common stock at an exercise price of $10.00 per share.

Creation of Series B Preferred Stock
 
On May 7, 2015, we filed a Certificate of Designation of the Relative Rights and Preferences of the Series B 10% Preferred Stock of VistaGen Therapeutics, Inc. (Certificate of Designation) with the Nevada Secretary of State to designate 4.0 million shares of our authorized preferred stock as Series B 10% Convertible Preferred Stock (Series B Preferred).
 
Each share of Series B Preferred is convertible, at the option of the holder (Voluntary Conversion), into one (1) share of our Common Stock, subject to adjustment, only for customary stock dividends, reclassifications, splits and similar transactions set forth in the Certificate of Designation. All outstanding shares of Series B Preferred are also convertible automatically on a one-to-one basis into shares of our Common Stock (Automatic Conversion) upon the closing or effective date of any of the following transactions or events: (i) a strategic transaction involving AV-101 with an initial up-front cash payment to us of at least $10.0 million; (ii) a registered public offering of our common stock with aggregate gross proceeds to us of at least $10.0 million; or (iii) for 20 consecutive trading days, our common stock trades at least 20,000 shares per day with a daily closing price of at least $12.00 per share; provided, however, that Automatic Conversion and Voluntary Conversion (collectively, Conversion) are subject to certain beneficial ownership blockers as set forth in the Certificate of Designation and/or securities purchase agreements.
 
Prior to Conversion, shares of Series B Preferred will accrue in-kind dividends (payable only in unregistered shares of our common stock) at a rate of 10% per annum (Accrued Dividends).  The Accrued Dividends will be payable on the date of either a Voluntary Conversion or Automatic Conversion solely in that number of shares of common stock equal to the Accrued Dividends.  At December 31, 2015, we have recognized a liability in the amount of $1,415,800 for Accrued Dividends in the accompanying Condensed Consolidated Balance Sheet at December 31, 2015, based on the Series B Preferred issued and outstanding, net of exchanges to common stock, through the quarter ended December 31, 2015. We have recognized a deduction from net loss of $1,459,300 related to dividends on Series B Preferred in arriving at net loss attributable to common stockholders in the accompanying Condensed Consolidated Statement of Operations and Comprehensive Loss for the nine months ended December 31, 2015.  The liquidation value of the Series B Preferred at December 31, 2015 is approximately $26,541,400.

May 2015 Agreement with Platinum
 
On May 5, 2015, we entered into an Agreement with Platinum, which, as modified, became effective on May 12, 2015 (Platinum Agreement) and pursuant to which Platinum:

 
·
Converted into 641,335 shares of Series B Preferred all of the approximately $4.5 million outstanding balance (principal and accrued but unpaid interest) of the Senior Secured Notes we had previously issued to Platinum, as described previously in Note 7, Convertible Promissory Notes and Other Notes Payable;

 
·
Released all of its security interests in our assets and those of our subsidiaries by terminating the Amended and Restated Security Agreement, IP Security Agreement and Negative Covenant, each dated October 11, 2012 between us and Platinum;

 
·
Converted into 240,305 shares of Series B Preferred and five-year warrants to purchase 240,305 shares of our common stock at a fixed exercise price of $7.00 per share (Series B Warrants) all of the approximately $1.3 million outstanding balance (principal and accrued but unpaid interest) of the 2014 Unit Notes that we issued to Platinum, as described previously in Note 7, Convertible Promissory Notes and Other Notes Payable;

 
·
Purchased approximately $1.5 million (including accrued but unpaid interest thereon) of outstanding 2014 Unit Notes we had previously issued to various accredited investors from the respective holders thereof (Acquired Unit Notes) and converted the entire approximately $1.5 million outstanding balance of the Acquired Unit Notes into 265,699 shares of Series B Preferred and Series B Warrants to purchase 265,699 shares of our common stock, as described previously in Note 7, Convertible Promissory Notes and Other Notes Payable;

 
·
Entered into a Securities Purchase Agreement (SPA) to purchase from us, in our self-placed private placement, for $1.0 million, a total of 142,857 shares of Series B Preferred and a Series B Warrant to purchase 142,857 shares of our common stock, which shares of Series B Preferred and Series B Warrants have been purchased and issued;

 
·
Amended the Platinum Warrants previously issued by us to Platinum in connection with the Senior Secured Notes and the Series A Exchange Warrant to (i) fix the exercise price thereof, (ii) eliminate the exercise price reset features and (iii) fix the number of shares of our common stock issuable thereunder, and (iv) eliminate the cashless exercise provisions from the Platinum Warrants; and

 
·
Agreed to refrain from the sale of any shares of our common stock held by Platinum or its affiliates until the earlier to occur of an effective registration statement relating to resale of certain specified shares of common stock under the Securities Act of 1933, as amended, or the closing price of our common stock is at least $15.00 per share.

 
-19-

 
As additional consideration for the several agreements of Platinum under the Platinum Agreement, we issued to Platinum 400,000 shares of Series B Preferred (Additional Consideration Shares) and Series B Warrants (Additional Consideration Warrants) to purchase 1.2 million shares of our common stock, and exchanged 30,000 shares of our common stock then beneficially owned or controlled by Platinum for 30,000 shares of Series B Preferred. Considering the exchangeability of the Series B Preferred into our common stock, the dividend applicable to the Series B Preferred prior to such exchange and other factors, we determined that the fair value of a share of Series B Preferred issued to Platinum pursuant to the Platinum Agreement was equal to the market value of a share of our common stock on the effective date of the Platinum Agreement. Based on the $10.00 per share fair value of the Series B Preferred at the May 12, 2015 effective date of the Platinum Agreement, we issued Additional Consideration Shares having an aggregate fair value of $4.0 million to Platinum. We valued the Additional Consideration Warrants at an aggregate of $8,270,900 using the Black Scholes option pricing model and the same assumptions used in valuing the Series B Warrants issued to Platinum in connection with the conversion of the Platinum Unit Notes and the Acquired Unit Notes, as described previously in Note 7, Convertible Promissory Notes and Other Notes Payable. We recognized the aggregate fair value of the Additional Consideration Shares and Additional Consideration Warrants as a non-cash component of loss on debt extinguishment in the quarter ended June 30, 2015, as reflected in the accompanying Condensed Consolidated Statement of Operations and Comprehensive Loss.

August 2015 Agreement with Platinum

On August 3, 2015, we entered into the August 2015 Agreement with Platinum pursuant to which we agreed to sell to Platinum an additional $3.0 million of our Series B Preferred and Series B Warrants between August 15, 2015 and October 15, 2015 and issue an aggregate of 458,571 shares of Series B Preferred and Series B Warrants to purchase 458,571 shares of our common stock. Through December 31, 2015, Platinum had purchased an aggregate of $1,650,000 of Series B Preferred and Series B Warrants contemplated under the August 2015 Agreement and we had issued 235,714 shares of Series B Preferred and Series B Warrants to purchase 235,714 shares of our common stock related to such purchases.

2015 Series B Preferred Unit Offering
 
Between May 26, 2015 and December 31, 2015, in self-placed private placement transactions, we sold to accredited investors an aggregate of $4,397,800 of units in our Series B Preferred Unit offering, which units consist of Series B Preferred and Series B Warrants (together Series B Preferred Units), including $2,650,000 to Platinum, which amount includes $1,650,000 pursuant to the August 2015 Agreement with Platinum. We issued 628,264 shares of Series B Preferred and Series B Warrants to purchase 628,264 shares of our common stock.  Through December 31, 2015, we received an aggregate of $4,397,800 in cash proceeds from our self-placed private placement and sale of the Series B Preferred Units.

We allocated the proceeds from the sale of the Series B Preferred Units to the Series B Preferred and the Seies B Warrants based on their relative fair values on the dates of the sales. As described in Note 7, Convertible Promissory Notes and Other Notes Payable, we determined that the fair value of a share of Series B Preferred was equal to the quoted market value of a share of our common stock on the date of a Series B Preferred Unit sale. We calculated the fair value of the Series B Warrants using the Black Scholes Option Pricing Model and the weighted average assumptions indicated in the table below. The table below also presents the aggregate allocation of the Series B Preferred Unit sales proceeds based on the relative fair values of the Series B Preferred and the Series B Warrants as of their respective Series B Preferred Unit sales dates.  The difference between the relative fair value per share of the Series B Preferred, approximately $4.12 per share, and its Conversion Price (or stated value) of $7.00 per share represents a deemed dividend to the purchasers of the Series B Preferred Units. Accordingly, we have recognized a deemed dividend in the aggregate amount of $1,811,800 in arriving at net loss attributable to common stockholders in the accompanying Condensed Consolidated Statement of Operations and Comprehensive Loss for the nine months ended December 31, 2015.

See Note 10, Subsequent Events, for disclosure regarding additional sales of Series B Preferred Units after December 31, 2015.
 
 Unit Warrants
     
Warrant
Weighted Average Issuance Date
Valuation Assumptions
  Per Share
Fair
Aggregate
Fair Value
Aggregate
Proceeds
Aggregate Allocation of Proceeds
Based on Relative Fair Value of:
     
Risk free
   
Shares
Market
Exercise
Term
Interest
 
Dividend
Value of
of Unit
of Unit
 
Unit
Issued
Price
Price
(Years)
Rate
Volatility
Rate
Warrant
Warrants
Sales
Unit Stock
Warrant
                       
      628,264
 $       10.86
 $         7.00
            5.00
1.65%
77.16%
0.0%
 $         7.72
 $    4,849,100
 $ 4,397,800
 $             2,585,900
 $             1,811,900

Registration Statement for Common Stock underlying Series B Preferred and Series B Warrants

The securities purchase agreements for the Series B Preferred and Series B Preferred Units executed with Platinum, the holders of the Investor Unit Notes, the holders of our promissory notes and other contractual indebtedness converted into shares of Series B Preferred, initial investors in Series B Preferred Units, and certain others to whom we issued Series B Preferred, contained registration rights requiring that a Registration Statement on Form S-1 (Registration Statement) registering, under the Securities Act, certain shares of common stock underlying the Series B Preferred and the Series B Warrants be declared effective on or before August 30, 2015. We filed an initial Registration Statement with the SEC on July 21, 2015, which we amended on August 25, 2015, and which was declared effective by the SEC on August 28, 2015. The Registration Statement registered an aggregate of 3,992,479 shares of our common stock underlying outstanding Series B Preferred and Series B Warrants.  Accordingly, we incurred no cash or in kind penalties under the securities purchase agreements.

 
-20-

 
Conversion of Series B Preferred to Common Stock

Between September 2015 and December 31, 2015, holders of an aggregate of 213,318 shares of Series B Preferred converted such shares into an equivalent number of registered shares of our common stock.  Additionally, we issued an aggregate of 5,976 shares of our restricted common stock in payment of $43,500 in accrued dividends on the Series B Preferred converted.

Issuance of Securities to Professional Service Providers

In June 2015, we issued, in a self-placed private placement transaction, an aggregate of 25,000 shares of our Series B Preferred having a fair value of $250,000 as compensation for legal services related to our debt restructuring and other corporate finance matters.  Effective on June 30, 2015, we issued, in a self-placed private placement transaction, an aggregate of 90,000 shares of our Series B Preferred having an aggregate value of $1,350,000 as compensation for financial advisory and corporate development service contracts with two independent contractors for services to be performed through June 30, 2016. The value of the Series B Preferred grants was recorded as a prepaid expense in the Condensed Consolidated Balance Sheet at the date of the grant and is being expensed ratably over the twelve months ending June 30, 2016, with $337,500 and $675,000 expensed as a component of general and administrative expense in the three and nine months ended December 31, 2015, respectively.  During the quarter ended June 30, 2015, we also issued, in a self-placed private placement transaction, an aggregate of 50,000 shares of our common stock, having an aggregate value of $500,000, as compensation under two corporate development service contracts. The value of the common stock grants was expensed as a component of general and administrative expense in the Condensed Consolidated Statement of Operations and Comprehensive Loss for the quarter ended June 30, 2015. During the quarter ended September 30, 2015, we issued, in a self-placed private placement transaction, an aggregate of 10,000 shares of our Series B Preferred having an aggregate fair value of $120,000 to two providers of intellectual property-related legal services.  During the quarter ended December 31, 2015, we issued warrants to purchase an aggregate of 45,000 shares of our unregistered common stock to four parties as compensation under certain investment banking agreements.  We valued the warrants granted on the dates indicated using the Black Scholes Option Pricing Model and the following assumptions

Assumption:
 
11/23/2015
   
12/11/2015
 
Market price per share
 
$
6.75
   
$
5.00
 
Exercise price per share
 
$
7.00
   
$
7.00
 
Risk-free interest rate
   
1.70
%    
1.16
%
Contractual term in years
   
5.0
     
3.0
 
Volatility
   
77.95
%    
77.88
%
Dividend rate
   
0.0
%    
0.0
%
                 
Fair Value per share
 
$
4.22
   
$
2.12
 
Warrant shares granted
   
7,500
     
37,500
 
Expense recognized
 
$
31,700
   
$
79,600
 

                In connection with the November 2015 warrant grant, we also issued 15,750 shares of unregistered common stock valued at $106,300 and, in connection with the December 11, 2015 warrant grant, we made a cash payment of $20,000. We recognized an aggregate of $237,600 in general and administrative expense during the quarter ended December 31, 2015 attributable to these agreements, of which $20,000 was cash.

Modification of Warrants

In addition to warrants modified in connection with conversions of certain of our outstanding promissory notes into Series B Preferred as described earlier in Note 7, Convertible Promissory Notes and Other Notes Payable, on June 10, 2015, we modified certain other outstanding warrants to purchase an aggregate of 54,576 shares of our common stock to reduce their exercise price. We calculated the fair value of the modified warrants immediately before and after the modifications and determined that the fair value of the warrants increased by an aggregate of $122,300, which we recognized as a component of general and administrative expense in the Condensed Consolidated Statements of Operations and Comprehensive Loss for the quarter ended June 30, 2015, with a corresponding credit to additional paid-in capital. The warrants subject to the exercise price modifications were valued using the Black-Scholes Option Pricing Model and the following assumptions:

Assumption:
 
Pre-
modification
   
Post-
modification
 
Market price per share
 
$
10.00
   
$
10.00
 
Exercise price per share (weighted average)
 
$
30.23
   
$
11.92
 
Risk-free interest rate (weighted average)
   
0.8
   
0.83
Remaining contractual term in years (weighted average)
   
2.26
     
2.26
 
Volatility (weighted average)
   
73.7
%    
73.7
%
Dividend rate
   
0.0
%    
0.0
                 
Fair Value per share (weighted average)
 
$
1.55
   
$
3.79
 

 
-21-

 
Warrant Grants and Modifications

On September 2, 2015, when the market price of our common stock was $9.11 per share, our Board of Directors (Board) authorized the grant of fully-vested five-year warrants to purchase an aggregate of 650,000 restricted shares of our common stock at an exercise price of $9.25 per share, including an aggregate of 600,000 of such shares to company officers and independent members of the Board. We valued the new warrant grants at $5.68 per share, or an aggregate of $3,692,900, using the Black Scholes Option Pricing Model and the assumptions indicated in Note 2, Summary of Significant Accounting Policies. We recognized non-cash research and development and general and administrative stock compensation expense in the amounts of $852,200 and $2,840,700, respectively, attributable to the warrant grants in the quarter ended September 30, 2015, which amounts are reflected in the accompanying Condensed Consolidated Statement of Operations and Comprehensive Loss.

On November 11, 2015, when the market price of our common stock was $6.50 per share, our Board authorized the modification of outstanding warrants to purchase an aggregate of 1,123,533 shares of our common stock, including warrants to purchase an aggregate of 600,000 shares granted in September 2015, as described above, previously granted to company officers, independent members of the Board and a key scientific advisor to reduce the exercise prices thereof to $7.00 per share and to extend through March 19, 2019 the expiration date of such warrants to purchase an aggregate of 10,803 shares of our unregistered common stock otherwise scheduled to expire during calendar 2016. We calculated the fair value of the modified warrants immediately before and after the modifications and determined that the fair value of the warrants increased by an aggregate of $492,600. We recognized $357,500 of such increase as a component of general and administrative expense in the Condensed Consolidated Statements of Operations and Comprehensive Loss for the quarter ended December 31, 2015, and the remaining $135,100 as a component of research and development expense in the same period.  The warrants subject to the exercise price modifications were valued using the Black-Scholes Option Pricing Model and the following assumptions:

Assumption:
 
Pre-
modification
   
Post-
modification
 
Market price per share
 
$
6.50
   
$
6.50
 
Exercise price per share (weighted average)
 
$
9.97
   
$
7.00
 
Risk-free interest rate (weighted average)
   
1.74
   
1.75
Remaining contractual term in years (weighted average)
   
5.13
     
5.16
 
Volatility (weighted average)
   
78.8
%    
78.7
%
Dividend rate
   
0.0
%    
0.0
%
                 
Fair Value per share (weighted average)
 
$
3.65
   
$
4.08
 
 
Warrants Outstanding

Following the Series B Warrant issuances and other warrant grants and modifications described above, at December 31, 2015, we had outstanding warrants to purchase shares of our unregistered common stock at a weighted average exercise price of $7.81 per share as follows:
 
       
Shares Subject
 
Exercise
     
to Purchase at
 
Price
 
Expiration
 
December 31,
 
per Share
 
Date
 
2015
 
           
$ 7.00  
9/30/2017 to 3/3/2023
    4,169,645  
$ 9.25  
9/2/2020
    50,000  
$ 10.00  
1/31/2016 to 1/11/2020
    554,915  
$ 15.00  
2/14/2018 to 3/4/2018
    75,389  
$ 20.00  
7/30/2016 to 9/15/2019
    115,448  
$ 30.00  
2/13/2016 to 11/20/2017
    6,100  
               
            4,971,497  
 
 
-22-

 
Note 9.  Related Party Transactions

Cato Holding Company, doing business as Cato BioVentures (CBV), the parent of Cato Research Ltd. (CRL), is one the largest institutional holders of our common stock at December 31, 2015. In October 2012, we issued a 7.5% promissory note (CHC Note) and a warrant (CHC Warrant) to CHC in settlement of prior indebtedness. As disclosed in Note 7, Convertible Promissory Notes and Other Notes Payable, during June 2015, the outstanding balance of the CHC Note was converted into shares of our Series B Preferred and we reduced the exercise price of the CHC Warrant from $30.00 per share to $7.00 per share. Total interest expense, including amortization of note discount, on the CHC Note was $0 and $7,400 for the quarters ended December 31, 2015 and 2014, respectively, and $4,700 and $22,500 in the nine month periods ended December 31, 2015 and 2014, respectively.

During fiscal year 2007, we entered into a master contract research, development and regulatory service arrangement with CRL, a contract research organization (CRO), related to the development of AV-101, our orally available small molecule prodrug candidate now in Phase 2 clinical development for Major Depressive Disorder, and subsequent other projects under which we incurred expenses of $19,400 and $7,500 for the quarters ended December 31, 2015 and 2014, respectively, and $41,500 and $22,500 in the nine month periods ended December 31, 2015 and 2014, respectively.

In October 2012, we issued to CRL (i) a 7.5% promissory note (CRL Note) as payment in full for all contract research, development and regulatory services and advice (CRO Services) rendered by CRL to us through December 31, 2012 with respect to certain AV-101 preclinical and clinical development and regulatory activities, and (ii) a warrant (CRL Warrant). As disclosed in Note 7, Convertible Promissory Notes and Other Notes Payable, during June 2015, the entire outstanding balance of the CRL Note and all other outstanding amounts owed to CRL for CRO services were converted into shares of our Series B Preferred and we reduced the exercise price of the CRL Warrant from $20.00 per share to $7.00 per share. Total interest expense, including amortization of the note discount, on the CRL Note was $0 and $36,300 for the quarters ended December 31, 2015 and 2014, respectively, and $23,500 and $109,900 for the nine month periods ended December 31, 2015 and 2014, respectively.

Note 10.  Subsequent Events

Series B Preferred Unit Offering

Between January 1, 2016 and February 12, 2016, in self-placed private placement transactions, we sold to accredited investors Series B Preferred Units consisting of (i) an aggregate of 18,286 shares of our Series B Preferred and (ii) Series B Warrants to purchase an aggregate of 18,286 shares of our common stock at an exercise price of $7.00 per share. We received cash proceeds of $128,000 from these sales of Series B Preferred Units.

Conversion of Series B Preferred into Common Stock

Between January 1, 2016 and February 12, 2016, holders of an aggregate of 13,500 shares of Series B Preferred converted such shares into an equivalent number of registered shares of our common stock.  Additionally, we issued an aggregate of 716 shares of our restricted common stock in payment of $6,200 in accrued dividends on the Series B Preferred converted.

Creation of Series C Convertible Preferred Stock

On January 13, 2016, our Board authorized the creation of, and effective January 25, 2016, we filed a Certificate of Designation of the Relative Rights and Preferences of the Series C Convertible Preferred Stock of VistaGen Therapeutics, Inc. (the “Certificate of Designation”) with the Nevada Secretary of State to designate, 3.0 million shares of our preferred stock, par value $0.001 per share, as Series C Convertible Preferred Stock (“Series C Preferred”). Upon liquidation, each share of Series C Preferred ranks pari-passu with our Series B Preferred and our Series A Convertible Preferred Stock (“Series A Preferred”), and is convertible, at the option of the holder into one share of our common stock, subject to certain beneficial ownership limitations as set forth in the Certificate of Designation. Shares of the Series C Preferred do not accrue dividends, and holders of the Series C Preferred have no voting rights.  Each share of Series C Preferred is convertible into one (1) share of our common stock.

Warrant Exchanges

On January 25, 2016, we entered into an Exchange Agreement (the “Exchange Agreement”) with Platinum and Montsant Partners, LLC, an organization affiliated with Platinum (“Montsant” and, together with Platinum, the “Holders”), pursuant to which (i) 200,000 shares of our common stock held by the Holders were exchanged for 200,000 shares of Series C Preferred; (ii) the Holders canceled 2,368,658 warrants previously issued to them by the Company (the “Warrants”) in exchange for a total of 1,776,494 shares of Series C Preferred.  In addition, Platinum terminated its right under the Note Exchange and Purchase Agreement, originally dated October 11, 2012 (the “NEPA”), as amended, to receive warrants (“Series A Warrants”) to purchase a total of 455,358 shares of our common stock upon conversion of all of its shares of our Series A Preferred, and, as consideration, we issued to Platinum 341,518 shares of Series C Preferred. Upon execution of the Exchange Agreement and the termination of Platinum’s right to receive Series A Warrants under the NEPA, we issued Series A Warrants to purchase a total of 80,357 shares of our common stock to the holder of shares of Series A Preferred previously held, but subsequently assigned, by Platinum.

Between January 29, 2016 and February 12, 2016, we entered into Warrant Exchange Agreements with certain holders of outstanding warrants to purchase an aggregate of 824,887 shares of our common stock pursuant to which the holders agreed to the cancellation of such warrants in exchange for our issuance to them of an aggregate of 618,685 shares of our unregistered common stock. At February 12, 2016, we had warrants outstanding to purchase 1,874,595 shares of our common stock.

 
-23-

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

Cautionary Note Regarding Forward-Looking Statements
 
This Quarterly Report on Form 10-Q includes forward-looking statements. All statements contained in this Quarterly Report on Form 10-Q includes forward-looking statements. All statements contained in this Quarterly Report on Form 10-Q other than statements of historical fact, including statements regarding our future results of operations and financial position, our business strategy and plans, and our objectives for future operations, are forward- looking statements. The words “believe,” “may,” “estimate,” “continue,” “anticipate,” “intend,” “expect” and similar expressions are intended to identify forward-looking statements. We have based these forward- looking statements largely on our current expectations and projections about future events and trends that we believe may affect our financial condition, results of operations, business strategy, short-term and long-term business operations and objectives, and financial needs. These forward-looking statements are subject to a number of risks, uncertainties and assumptions. Our business is subject to significant risks including, but not limited to, our ability to obtain additional financing, the results of our research and development efforts, the results of non-clinical and clinical testing, the effect of regulation by the United States Food and Drug Administration (FDA) and other agencies, the impact of competitive products, product development, commercialization and technological difficulties, the effect of our accounting policies, and other risks as detailed in the section entitled “Risk Factors” in our Annual Report on Form 10-K for the year ended March 31, 2015 and in our other filings with the SEC. Further, even if our product candidates appear promising at various stages of development, our share price may decrease such that we are unable to raise additional capital without significant dilution or other terms that may be unacceptable to our management, Board of Directors and stockholders.

Moreover, we operate in a very competitive and rapidly changing environment. New risks emerge from time to time. It is not possible for our management to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. In light of these risks, uncertainties and assumptions, the future events and trends discussed in this Quarterly Report on Form 10-Q may not occur and actual results could differ materially and adversely from those anticipated or implied in the forward-looking statements.

You should not rely upon forward-looking statements as predictions of future events. The events and circumstances reflected in the forward-looking statements may not be achieved or occur. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. We are under no duty to update any of these forward-looking statements after the date of this Quarterly Report on Form 10-Q or to conform these statements to actual results or revised expectations. If we do update one or more forward-looking statements, no inference should be drawn that we will make additional updates with respect to those or other forward-looking statements.
 
Business Overview

We are a clinical-stage biopharmaceutical company committed to developing and commercializing innovative product candidates for patients with diseases and disorders involving the central nervous system (CNS) and cancer.  Our lead new drug candidate, AV-101, is a new generation, orally available prodrug candidate in Phase 2A development, initially for the adjunctive treatment of Major Depressive Disorder (MDD) in patients with an inadequate response to standard antidepressants. AV-101’s novel mechanism of action, as an N-methyl D aspartate receptor (NMDAR) antagonist binding selectively at the glycine binding (GlyB) co-agonist site of the NMDAR, is fundamentally differentiated from all antidepressants currently approved by the U.S. Food and Drug Administration (FDA). A Phase 2A clinical study of AV-101 in subjects with treatment-resistant MDD is being conducted and funded by the National Institutes of Mental Health (NIMH) under a Cooperative Research and Development Agreement (CRADA).  The Principal Investigator of this NIMH-funded Phase 2A study, which was initiated in October 2015, is Dr. Carlos Zarate, Jr., Chief of the NIMH’s Experimental Therapeutics & Pathophysiology Branch and its Section on Neurobiology and Treatment of Mood and Anxiety Disorders. Dr. Zarate is an internationally recognized expert in the field of depression and was among the first clinical researchers in the world to discover the therapeutic potential of the NMDAR antagonist ketamine in treatment-resistant MDD.

We also believe AV-101 has therapeutic potential in multiple additional CNS indications, including neuropathic pain and epilepsy, and in neurodegenerative diseases such as Parkinson’s disease and Huntington’s disease.

        We are applying our proprietary, human pluripotent stem cell (hPSC) technology for drug rescue to develop proprietary new chemical entities (NCEs) for our internal drug candidate pipeline. Initial drug rescue programs are focused on NCEs for the treatment of cancer. We are also considering potential therapeutic and commercial applications of our stem cell technology platform for regenerative medicine (RM), including, through strategic collaborations, nonclinical and clinical proof of concept studies focused on RM using blood, cartilage, heart and liver cells derived from our hPSC technology platform.
 
 
-24-

 
AV-101 and Major Depressive Disorder

 Background

The World Health Organization estimates that 350 million people worldwide are affected by depression. According to the U.S. National Institutes of Health (NIH), major depression is one of the most common mental disorders in the U.S. The NIMH reports that in 2014, an estimated 15.7 million adults aged 18 or older in the U.S. had at least one major depressive episode in the past year. This represented 6.7 percent of all U.S. adults.  According to the U.S. Centers for Disease Control and Prevention (CDC), one in 10 Americans takes an antidepressant medication.

Unfortunately, millions of depression sufferers (more than 30%) do not benefit from initial treatment with standard antidepressants, generally a selective serotonin reuptake inhibitor (SSRI) or a serotonin-norepinephrine reuptake inhibitor (SNRI). Moreover, even when they do relieve depressive symptoms and induce remission of a major depressive episode, SSRIs and SNRIs take many weeks to achieve therapeutic benefits because of their mechanism of action. During the weeks to months before onset of antidepressant effects, side effects of SSRIs and SNRIs, including anxiety, metabolic syndrome, sleep disturbance, sexual dysfunction and suicidal thoughts and behaviors, may be considerable. Unfortunately, even after treatment with as many as four different standard antidepressants, millions of patients (more than 30% of drug-treated patients) do not achieve an adequate therapeutic response to their standard antidepressant therapies.
 
AV-101
 
AV-101, our orally available prodrug candidate, is in Phase 2 clinical development, initially for the adjunctive treatment of MDD patients with an inadequate response to standard antidepressant therapies. As published in the October 2015 issue of the peer-reviewed, Journal of Pharmacology and Experimental Therapeutics, in an article entitled, The prodrug 4-chlorokynurenine causes ketamine-like antidepressant effects, but not side effects, by NMDA/glycineB-site inhibition, in well-established preclinical models of depression, AV-101 was shown to induce fast-acting, dose-dependent, persistent and statistically significant antidepressant-like responses, following a single treatment, which responses were equivalent to responses seen with a control single sub-anesthetic dose of the NMDAR antagonist ketamine, an FDA-approved anesthetic administered intravenously by clinicians in a medical setting to treat MDD patients who have not responded adequately to standard antidepressant therapies).  In the same preclinical studies, the SSRI fluoxetine did not induce rapid onset antidepressant-like responses.   

Following two successful randomized, double-blind, placebo-controlled Phase 1A and Phase 1B safety studies funded by the NIH, we are now collaborating with the NIMH on a Phase 2A efficacy and safety study of AV-101 in subjects with treatment-resistant MDD. This NIMH-funded Phase 2A study began in late-2015, and is expected to enroll from 24 to 28 patients. As noted above, Dr. Carlos Zarate, Jr.of the NIMH is the Principal Investigator of the study.

Preclinical studies also support the hypothesis that AV-101 has the potential to treat several additional CNS disorders and neurodegenerative diseases, including chronic neuropathic pain, epilepsy, Parkinson’s disease and Huntington’s disease, where modulation of the NMDAR or active metabolites of AV-101 may have therapeutic benefit.
 
NCE Drug Rescue and Regenerative Medicine

Our drug rescue programs involve using CardioSafe 3D(TM), our customized in vitro bioassay system, to predict potential human heart toxicity of NCEs, long before they are ever tested in animal and human studies. We are are focused on leveraging our stem cell technology platform to recapture value from substantial prior investments by pharmaceutical companies and others related to screening large-scale compound libraries, optimizing and testing for efficacy NCEs that were terminated before FDA approval due to heart toxicity risks and are now available in the public domain and amenable to drug rescue.

Our current interests in the regenerative medicine arena include  collaborative nonclinical proof of concept studies with academic research partners to explore potential regenerative medicine applications involving hPSC-derived blood, bone, cartilage, heart, and liver cells.

Financial Operations Overview and Results of Operations

Our critical accounting policies and estimates and recent accounting pronouncements are disclosed in our Annual Report on Form 10-K for the fiscal year ended March 31, 2015, as filed with the SEC on June 29, 2015, and in Note 3 to the accompanying unaudited Condensed Consolidated Financial Statements included in Part 1, Item 1 of this Quarterly Report on Form 10-Q.
 
 
-25-

 
Summary

Net Loss

We have not yet achieved revenue-generating status from any of our product candidates. Since inception, we have devoted substantially all of our time and efforts developing AV-101 from early preclinical studies to our ongoing Phase 2A clinical study in Major Depressive Disorder, as well as stem cell research and bioassay development, small molecule drug development, and creating, protecting and patenting intellectual property, with the corollary initiatives of recruiting personnel and raising working capital. As of December 31, 2015, we had an accumulated deficit of approximately $123.2 million. Our net loss for the nine month period ended December 31, 2015 was $38.7 million, including a non-cash loss of approximately $26.7 million attributable to converting over $17.2 million of our indebtedness into equity securities between May 2015 and August 2015. Our net loss for the nine month period ended December 31, 2014 was $7.7 million.  We expect losses to continue for the foreseeable future, primarily related to our further development of AV-101 for Major Depressive Disorder and additional CNS indications.

Summary of Nine Months Ended December 31, 2015

Although our financial resources have been limited, we have continued to advance development of AV-101 for Major Depressive Disorder and other CNS indications and explore NCE drug rescue and regenerative medicine opportunities related to our stem cell technology platform.  Pursuant to our February 2015 Cooperative Research and Development Agreement (CRADA) with the NIH, the NIH is funding and conducting our Phase 2 clinical study of AV-101 in Major Depressive Disorder.

Throughout fiscal 2014 and 2015 and the nine months ended December 31, 2015, through self-placed private placement transactions and other corporate finance initiatives, our executive management has been focused on raising sufficient operating capital to continue to advance development of AV-101, as well as other research and development objectives, while meeting our continuing operational needs.  Among our most significant accomplishments during the nine months ended December 31, 2015 have been the following: (i) entering into our Cooperative Research and Development Agreement (CRADA) with the U.S. National Institute of Mental Health (NIMH); (ii) launching, under the CRADA, our NIH-funded Phase 2A clinical study of AV-101 in subjects with treatment-resistant Major Depressive Disorder (MDD), with Dr. Carlos Zarate, Jr., Chief of the Section on the Neurobiology and Treatment of Mood Disorders and Chief of the Experimental Therapeutics and Pathophysiology Branch at the NIMH, as Principal Investigator; (iii) bolstering our Clinical and Scientific Advisory Board with the additions of both Dr. Maurizio Fava, Professor of Psychiatry at Harvard Medical School and Director of the Division of Clinical Research of the Massachusetts General Hospital Research Institute, and Dr. Gerard Sanacora, Associate Professor at Yale School of Medicine and Director of the Yale Depression Research Program; (iv) publishing AV-101 preclinical data in the October 2015 issue of the peer-reviewed, Journal of Pharmacology and Experimental Therapeutics, in an article entitled “The prodrug 4-chlorokynurenine causes ketamine-like antidepressant effects, but not side effects, by NMDA/glycineB-site inhibition;” (v) successfully negotiating, extinguishing and converting (in self-placed private placement transactions) approximately $17.2 million (substantially all) of our outstanding indebtedness into our equity securities; and (vi) completing self-placed private placement transactions with accredited investors thereby providing additional operating capital through the sale of our equity securities.
 
To meet our working capital needs, in April and May 2015, we completed self-placed private placement transactions involving securities purchase agreements with accredited investors  pursuant to which we sold to such accredited investors 2014 Private Placement Units, for aggregate cash proceeds of $280,000, consisting of (i) 10% convertible notes in the aggregate face amount of $280,000 due between April 30, 2015 and May 15, 2015; (ii) an aggregate of 33,000 restricted shares of our common stock; and (iii) warrants exercisable through December 31, 2016 to purchase an aggregate of 24,250 restricted shares of our common stock at an exercise price of $10.00 per share. Between May 2015 and December 31, 2015, we entered into self-placed private placement transactions involving securities purchase agreements with accredited investors, pursuant to which we sold Series B Preferred Units, for aggregate cash proceeds of approximately $4.3 million, consisting of an aggregate of (i) 628,264 shares of our Series B 10% Convertible Preferred Stock (Series B Preferred); and (ii) five-year warrants to purchase an aggregate of 628,264 shares of our common stock. In connection with the foregoing self-placed private placement transactions, from April 1, 2015 and December 31, 2015, we received aggregate cash proceeds of approximately $4.6 million.

As a matter of course, we seek to minimize cash commitments and expenditures for both internal and external research and development and general and administrative services to the greatest extent possible. The conversion of such a substantial portion of our outstanding indebtedness during the nine months ended December 31, 2015 materially reduced our cash requirements for debt service.
 
 
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Comparison of Three Months Ended December 31, 2015 and 2014
 
The following table summarizes the results of our operations for the three months ended December 31, 2015 and 2014 (amounts in thousands).
 
   
Three Months Ended December 31,