Development Derivative Liability

In January 2020, the Company entered into the SFJ Agreement, pursuant to which SFJ has agreed to provide up to $120.0 million in funding and project management services in connection with the global Phase 3 clinical trial of PB2452. During the term of the SFJ Agreement, the Company will have primary responsibility for clinical development and regulatory activities for PB2452 in the United States and the European Union, while SFJ will have primary responsibility for clinical development and regulatory activities for PB2452 in China and Japan and will provide clinical trials operational support in the European Union.

In March 2020, SFJ paid the Company an initial $10.0 million. From the inception of the SFJ Agreement through March 31, 2020, SFJ has reimbursed the Company for $0.6 million under the SFJ Agreement. SFJ will pay the Company an additional $79.4 million in six equal quarterly payments beginning with the quarter ending September 30, 2020 through the quarter ending December 31, 2021, less any services provided or amounts paid in clinical trial cost reimbursements. SFJ will also provide up to an additional $30.0 million upon the achievement of specified milestones with respect to the Company's clinical development of PB2452.

If the United States Food and Drug Administration ("FDA") approves a Biologics License Application for PB2452, the Company has agreed to pay to SFJ an initial payment of $5.0 million and an additional $325.0 million in the aggregate in seven additional annual payments (the “U.S. Approval Payments”). If the European Medicines Agency ("EMA") or the national regulatory authorities in certain European countries provide marketing approval of PB2452, the Company will pay SFJ an initial payment of $5.0 million and an additional $205.0 million in the aggregate in seven additional annual payments (the “EU Approval Payments”). The majority of the U.S. Approval Payments and the EU Approval Payments will be made from the third anniversary to the seventh anniversary of marketing approval in the applicable jurisdiction. If either the Pharmaceuticals and Medical Devices Agency (the “PMDA”) of Japan or the National Medical Products Administration (the “NMPA”) of China provide marketing approval of PB2452, the Company will pay SFJ an initial payment of $1.0 million and then an additional $59.0 million in the aggregate in eight additional annual payments (the “Japan/China Approval Payments”), with the majority of the payments to be made from the fifth anniversary to the eighth anniversary of marketing approval. The Japan/China Approval Payments will only be paid once regardless of receipt of marketing approval in both Japan and China. The U.S. Approval Payments, EU Approval Payments and Japan/China Approval Payments will be proportionately adjusted in the event that the actual funding from SFJ is lower or greater than $120.0 million. The Company will not be obligated to make the U.S. Approval Payments if it does not receive marketing approval for PB2452 from the FDA, the EU Approval Payments if it does not receive marketing approval for PB2452 from the EMA or the national regulatory authority in certain European countries or the Japan/China Approval Payments if it does not receive marketing approval for PB2452 from either the PMDA or the NMPA.

Upon execution of the SFJ Agreement, the Company issued to SFJ 2,200,000 common stock warrants at an exercise price of $6.50 per share and a contractual term of ten years. The warrants were issued in two tranches: Tranche A and Tranche B. Tranche A represents 1,100,000 warrants that are immediately exercisable by SFJ, provided that SFJ may not sell such exercised shares until one year from the original warrant issuance date. Tranche B represents 1,100,000 warrants that are exercisable at the earlier of (i) the achievement of certain development milestones or (ii) the consummation of an Acquisition, as defined in the SFJ Agreement. The warrants are equity-classified and were valued at $7.9 million at issuance using a probability adjusted Black-Scholes valuation technique.

The Company accounts for the SFJ Agreement as a derivative instrument that increases and decreases as consideration is received and repayments are made, respectively. The derivative is further adjusted at each reporting period to its estimated fair value. At March 31, 2020, the derivative is presented as a liability in the Company's condensed balance sheet. Any changes in fair value are recorded within the Company's condensed statements of operations. The liability was initially recorded at a value of $2.1 million, which incorporates the $10.0 million upfront payment from SFJ and the issuance of the Company's common stock warrants to SFJ. During the three months ended March 31, 2020, SFJ provided services under the SFJ Agreement in the amount of $0.6 million and the development derivative liability was subsequently remeasured at March 31, 2020, as a Level 3 derivative. The change of fair value resulted in a $0.5 million loss from remeasurement of development derivative liability on the condensed statements of operations.

The derivative is valued using a scenario-based discounted cash flow method, whereby each scenario makes assumptions about the probability and timing of cash flows, and such cash flows are present valued using a risk-adjusted discount rate. The valuation method incorporates certain unobservable Level 3 key inputs including (i) the probability and timing of funding, (ii) the probability and timing of achieving regulatory approvals, (iii) the Company's cost of borrowing (16.00% plus the risk free borrowing rate) and (iv) SFJ's cost of borrowing (2.50% plus the risk free borrowing rate).

The following table presents activity for the development derivative liability during the three months ended March 31, 2020 (in thousands):



	Development Derivative Liability
Balance at December 31, 2019	$	—
Initial payment, net of common stock warrants	2,075
Funding during the period	557
Change in fair value	454
Balance at March 31, 2020	$	3,086