ADIAL PHARMACEUTICALS INC

1 — DESCRIPTION OF BUSINESS

Adial Pharmaceuticals, Inc. (“Adial”) was converted from a limited liability company formed on November 23, 2010 in the Commonwealth of Virginia under the name ADial Pharmaceuticals, LLC, to a corporation and reincorporated in Delaware on October 1, 2017. Adial is presently engaged in the development of medications for the treatment or prevention of addictions and related disorders.

Adial’s wholly owned subsidiary, Purnovate, Inc. (“Purnovate”), was formed on January 26, 2021 to acquire, having been formed as Purnovate, LLC in December of 2019. Purnovate was a drug development company with a platform focused on developing drug candidates for non-opioid pain reduction and other diseases and disorders potentially targeted with adenosine analogs that are selective, potent, stable, and soluble. On January 27, 2023, the Company entered into an option agreement for the acquisition of Purnovate’s assets and business with Adovate, LLC (“Adovate”), a Virginia limited liability company that was formed and majority owned by a then Director of the Company and then CEO of Purnovate and was therefore a related party. On May 8, 2023, Adovate sent a letter to the Company exercising its option effective May 16, 2023 for the purchase of the assets and business of the Company’s wholly owned subsidiary, Purnovate, Inc. and made payment of the $450,000 in fees due on exercise. Effective June 30, 2023, Adovate issued to the Company the equity stake in Adovate due on exercise of the option agreement. On August 17, 2023, a Bill of Sale, Assignment and Assumption Agreement (“Bill of Sale”) was executed between Purnovate and Adovate, transferring the Purnovate assets to Adovate, effective as of June 30, 2023. On August 17, 2023, Purnovate and Adovate also entered into a Letter Agreement which stated that Adovate acquired the assets of Purnovate effective as of June 30, 2023, pursuant to the Bill of Sale. On September 18, 2023, the parties executed a final acquisition agreement which memorialized the terms of the sale of the Purnovate assets to Adovate pursuant to the Option Agreement and Bill of Sale. See Note 4 for additional information.

In June of 2022, the Company released data from its ONWARD™ Phase 3 pivotal trial of its lead compound AD04 (“AD04”) for the treatment of Alcohol Use Disorder. Both the U.S. Food and Drug Administration (“FDA”) and the European Medicines Authority (“EMA”) have indicated they will accept heavy-drinking-based endpoints as a basis for approval for the treatment of Alcohol Use Disorder rather than the previously required abstinence-based endpoints. The Company has scheduled meetings with the FDA and national medicines authorities in Europe to determine the path toward approval. Key patents have been issued in the United States, the European Union, and other jurisdictions for which the Company has exclusive license rights. The active ingredient in AD04 is ondansetron, a serotonin-3 antagonist. Due to its mechanism of action, AD04 has the potential to be used for the treatment of other addictive disorders, such as Opioid Use Disorder, obesity, smoking, and other drug addictions.

2 — GOING CONCERN AND OTHER UNCERTAINTIES

The consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP”), which contemplate continuation of the Company as a going concern. The Company is in a development stage and has incurred losses each year since inception. Based on the current development plans for AD04 in both the U.S. and international markets and other operating requirements, the Company does not believe that the existing cash and cash equivalents are sufficient to fund operations for the next twelve months following the filing of these consolidated financial statements. The Company has a significant accumulated deficit, incurred recurring losses, and needs to raise additional funds to sustain its operations. These factors raise substantial doubt about the Company’s ability to continue as a going concern.

Based on the recently announced results of its ONWARD Phase 3 trial, the Company has scheduled meetings with the FDA and various European national authorities to discuss the appropriate next steps towards the expeditious development of AD04 and to seek product approval. The results of these meetings may materially change the Company’s expectations concerning the expected development cost of AD04. The Company has sold its Purnovate programs to a company formed for that purpose, reduced the Company’s operating expenses and provided approximately $1.5 million in working capital through that third party’s payment of $450 thousand in option exercise fees and a total $1.05 million in cost reimbursements owed pursuant to the Agreement. In October of 2023, the Company sold warrant for net proceeds of approximately $3.4 million. Nonetheless, the Company will require additional capital. There is no certainty that the Company will be able to access additional capital on acceptable terms, if at all, to continue operations after whatever funds are received from the buyer are expended. If unable to access sufficient capital, the Company would be required to delay, scale back or eliminate some or all of its research and development programs or delay its approach to commercialization of AD04, which would likely have a material adverse effect on the Company and its financial statements.

The Company’s continued operations will depend on its ability to raise additional capital through various potential sources, such as equity and/or debt financings, grant funding, strategic relationships, or out-licensing in order to complete its subsequent clinical trial requirements for AD04. Management is actively pursuing financing and other strategic plans but can provide no assurances that such financing or other strategic plans will be available on acceptable terms, or at all. Without additional funding, the Company would be required to delay, scale back or eliminate some or all of its research and development programs, which would likely have a material adverse effect on the Company and its financial statements.

Other Uncertainties

Generally, the industry in which the Company operates subjects the Company to a number of other risks and uncertainties that can affect its operating results and financial condition. Such factors include, but are not limited to: the timing, costs and results of clinical trials and other development activities versus expectations; the ability to obtain regulatory approval to market product candidates; the ability to manufacture products successfully; competition from products sold or being developed by other companies; the price of, and demand for, Company products once approved; the ability to negotiate favorable licensing or other manufacturing and marketing agreements for its products.

3 — SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Use of Estimates

The preparation of these consolidated financial statements in conformity with GAAP requires Company management to make estimates and assumptions the affect the amounts of assets and liabilities at the date of these consolidated financial statements and the reported amounts of expenses during the reporting period. Actual results might differ from these estimates.

Significant items subject to such estimates and assumptions include accruals associated with third party providers supporting clinical trials, income tax asset realization, and the valuation of equity method investments.

Basis of Presentation and Principals of Consolidation

The accompanying consolidated financial statements have been prepared in accordance with GAAP. The financial statements represent the consolidation of the Company and its subsidiary in conformity with GAAP. All intercompany transactions have been eliminated in consolidation.

Reverse Stock Split

On August 4, 2023, the Company effected a reverse stock split of its outstanding shares of common stock, trading on Nasdaq under the symbol ADIL, at a ratio of 1-for-25. The shares authorized for issue under the Company’s charter remained 50,000,000 common stock. All references to common stock, stock warrants to purchase common stock, stock options to purchase common stock, share data, per share data and related information contained in these financial statements have been retrospectively adjusted to reflect the effect of the Reverse Stock Split for all periods presented.

Basic and Diluted Loss per Share

Basic and diluted loss per share are computed based on the weighted-average outstanding shares of common stock, which are all voting shares. Diluted net loss per share is computed giving effect to all proportional shares of common stock, including stock options, restricted stock, and warrants to the extent dilutive. Basic net loss per share was the same as diluted net loss per share for the years ended December 31, 2023 and 2022 as the inclusion of all potential common shares outstanding would have an anti-dilutive effect.

The total potentially dilutive common shares that were excluded for the years ended December 31, 2023 and 2022 were as follows:

Cash and Cash Equivalents

The Company considers all highly liquid investments with original maturities of three months or less to be cash equivalents. At times, the Company’s cash balances may exceed the current insured amounts under the Federal Deposit Insurance Corporation. At December 31, 2023, the Company exceeded FDIC insurance limits by approximately $927,000 and held approximately $1.6 million in non-FDIC insured cash equivalent accounts. Included in cash equivalents are money market investments with maturity dates less than ninety days and are carried at fair value. Unrealized gain or loss are included in the interest income and are immaterial to the financial statements. At December 31, 2022, the Company did not exceed FDIC insurance limits but held approximately $3.8 million in non-FDIC insured cash equivalent investments.

Equity Method Investments

The Company utilizes the equity method to account for investments when it possesses the ability to exercise significant influence, but not control, over the operating and financial decisions of the investee.

Equity method investments are measured at cost minus impairment, if any, plus or minus the Company’s proportionate share of the equity method investee’s income or loss. The proportionate share of the income or loss from equity method investments is recognized on a lag.

Currently the Company is not obligated to make additional capital contributions for its equity method investments, and therefore only records losses up to the amount of its total investment, inclusive of other investments in and loans to the investee, which are not accounted for as equity method investments.

Fair Value Measurements

FASB ASC 820, Fair Value Measurement, (“ASC 820”) defines fair value as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the reporting date. The methodology establishes consistency and comparability by providing a fair value hierarchy that prioritizes the inputs to valuation techniques into three broad levels, which are described below:

The fair value of cash and cash equivalents and accounts payable approximate their carrying value due to their short-term maturities.

Research and Development

Research and development costs are charged to expense as incurred and include supplies and other direct trial expenses such as fees due to contract research organizations, consultants which support the Company’s research and development endeavors, the acquisition of technology rights without an alternative use, and compensation and benefits of clinical research and development personnel. Certain research and development costs, in particular fees to contract research organizations (“CROs”), are structured with milestone payments due on the occurrence of certain key events. Where such milestone payments are greater than those earned through the provision of such services, the Company recognizes a prepaid asset which is recorded as expense; where fees earned are greater than milestone payments, an accrued expense liability is recorded as expense.

Stock-Based Compensation

The Company measures the cost of option awards based on the grant date fair value of the awards. That cost is recognized on a straight-line basis over the period during which the awardee was required to provide service in exchange for the entire award. The fair value of options is calculated using the Black-Scholes option pricing model, based on key assumptions such as the expected volatility of the Company’s common stock, the risk-free rate of return, and expected term of the options. The Company’s estimates of these assumptions are primarily based on historical data, peer company data, government data, and the judgment of management regarding future trends.

Common shares issued are valued based on the fair value of the Company’s common shares as determined by the market closing price of a share of our common stock on the date of the commitment to make the issuance.

Income Taxes

The Company accounts for income taxes using the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis and tax carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.

A valuation allowance is established to reduce net deferred tax assets to the amount expected to be realized. The Company recognizes the effect of income tax positions only if those positions are more likely than not of being sustained. Changes in recognition and measurement are reflected in the period in which the change in judgment occurs. Interest and penalties related to unrecognized tax benefits are included in income tax expense. The Company has generally recorded a full valuation allowance for its tax carryforwards, reflecting the judgment of Company management that they are more likely than not to expire unused.

Recent Accounting Pronouncements

In December 2023, the FASB issued ASU 2023-09 (Topic 740),Improvements to income tax disclosures, which enhances the disclosure requirements for the income tax rate reconciliation, domestic and foreign income taxes paid, requiring disclosure of disaggregated income taxes paid by jurisdiction, unrecognized tax benefits, and modifies other income tax-related disclosures. The amendments are effective for annual periods beginning after December 15, 2024. Early adoption is permitted and should be applied prospectively. The Company is currently evaluating the effect of adopting this guidance on its consolidated financial statements.

The FASB has recently issued various other updates, most of which represented technical corrections to the accounting literature or application to specific industries. Management does not expect these updates to have a material impact on the Company’s financial position, results of operations or cash flows.

4 — SALE OF PURNOVATE

On January 27, 2023, the Company entered into an option agreement for the acquisition of Purnovate’s assets and business with Adovate, LLC (“Adovate”). On May 8, 2023, Adovate sent a letter to the Company exercising its option effective May 16, 2023 for the purchase of the assets and business of the Company’s wholly owned subsidiary, Purnovate, Inc. and made payment of the $450,000 in fees due on exercise. Effective June 30, 2023, Adovate issued to the Company the equity stake in Adovate due on exercise of the option agreement. On August 17, 2023, a Bill of Sale, Assignment and Assumption Agreement (“Bill of Sale”) was executed between Purnovate and Adovate, transferring the Purnovate assets to Adovate, effective as of June 30, 2023. On August 17, 2023, Purnovate and Adovate also entered into a Letter Agreement which stated that Adovate acquired the assets of Purnovate effective as of June 30, 2023, pursuant to the Bill of Sale. On September 18, 2023, the parties executed a final acquisition agreement which memorialized the terms of the sale of the Purnovate assets to Adovate pursuant to the Option Agreement and Bill of Sale. The CEO, founder, and a major equity holder of Adovate is a former director and the former CEO of the Company, but ceased to be a related party on resigning as a director on September 18, 2023.

Under the terms of the option agreement, upon the exercise of the option Adovate became liable for reimbursement of all Purnovate operating expenses incurred and paid after December 1, 2022, such reimbursement to be paid within thirty days of execution of the final acquisition agreement with the Company holding a security interest in the assets of Adovate until the expense reimbursement is paid in full. On June 30, 2023, September 20, 2023, and December 8, 2023, payments totaling of $1,050,000 for the reimbursement of previously incurred Purnovate project costs were paid to the Company by the buyer of Purnovate. On June 30, 2023, Adovate issued to the Company a 19.9% equity stake in Adovate as part of consideration owed, which the Company valued at $1,727,897 (see Note 6). Consideration paid by Adovate also included contingent payments based on the occurrence of certain milestone events and a contingent royalty on future sales. No value has been imputed to these contingent payments on the Company’s balance sheet, since it is at present less likely than not that such payments will ever be made. On execution of the final asset purchase agreement, the Company recognized a charge of $37,276 on adjustment of the final expense reimbursement due from its previous estimate, which was recognized as an expense of discontinued operations. Total consideration paid or receivable is $3,227,897. The gain on the sale of Purnovate has been classified as income from discontinued operation.

The assets, liabilities, and results of operations of Purnovate, Inc. have been classified as discontinued for purposes of these financial statements and have been retroactively reclassified for past periods.

The table below summarizes the sale:

5 — DISCONTINUED OPERATIONS

The business of the Company’s wholly owned subsidiary, Purnovate, Inc., was sold during the year ended December 31, 2023 (see Note 4). As a result, all the assets and liabilities and the operating results of Purnovate, Inc. have been classified as discontinued operations.

Assets and liabilities included within discontinued operations on the Consolidated Balance Sheets at December 31, 2023 and 2022 are as follows:

Income from discontinued operations, net of tax for the years ended December 31, 2023 and 2022 are as follows:

6 — EQUITY METHOD INVESTMENTS

On June 30, 2023, Adovate issued to the Company a 19.9% equity stake in Adovate as part of consideration owed upon the exercise of Adovate’s option to purchase the business and assets of the Company’s wholly owned subsidiary, Purnovate, Inc. (See Note 4.) Under the terms of the final asset purchase agreement, Adovate is obligated to protect the Company against dilution by issuing additional equity to the Company in Adovate as Adovate equity is sold to maintain the Company’s 15% equity stake until such time as Adovate has raised $4 million through equity sales. The Company determined the fair value of this equity to be $1,727,897 at time of issue, based on the price of cash sales by Adovate of the same class of equity to third parties around the same time as the date of issue.

In accordance with ASC 810, the Company determined that Adovate does not qualify as a variable interest entity, nor does the Company have a controlling financial interest in Adovate. The Company has influence over, but does not control, Adovate through its equity interest in Adovate. The Company has determined that the equity it owns is in-substance common stock. The Company is not the primary beneficiary as it does not have the power to direct the activities of Adovate that most significantly impact Adovate’s economic performance. Accordingly, the Company does not consolidate the financial statements of Adovate with those of the Company.

The Company recorded the initial investment in Adovate of $1,727,897 in “Equity method investments” on its consolidated balance sheet. Due to the timing and availability of Adovate’s financial information, the Company is recording its proportionate share of losses from Adovate on a one quarter lag basis. Adovate’s summary balance sheet information as of September 30, 2023 is below:

Results for Adovate’s operations in the three months ended September 30, 2023 are summarized below:

The Company held a weighted average of 19.9% of Adovate’s equity in the period from issuance to September 30, 2023. The Company recognized an expense of $193,884, classified as other income (expense), against the carrying amount of the equity method investment, representing the Company’s portion of Adovate operating loss for the from issuance to September 30, 2023. At December 31, 2023, the Company held 18.4% of Adovate’s outstanding equity.

Activity recorded for the Company’s equity method investment in Adovate in the year ended December 31, 2023 is summarized in the following table:

At December 31, 2023, the Company’s maximum exposure to loss through its equity method investment is limited to the value of its equity.

7 — ACCRUED EXPENSES

Accrued expenses consist of the following:

8 — RELATED PARTY TRANSACTIONS

In January 2011, the Company entered into an exclusive, worldwide license agreement with The University of Virginia Patent Foundation d/b/a the University of Virginia Licensing and Ventures Group (the “UVA LVG”) for rights to make, use or sell licensed products in the United States based upon patents and patent applications made and held by UVA LVG (the “UVA LVG License”). The Company is required to pay compensation to the UVA LVG, as described in Note 11. A certain percentage of these payments by the Company to the UVA LVG may then be distributed to the Company’s former Chairman of the Board who currently serves as the Company’s Chief Medical Officer in his capacity as inventor of the patents by the UVA LVG in accordance with their policies at the time.

On July 1, 2023, the Company executed a shared services agreement with Adovate, Inc., in which the Company holds a significant equity stake (see Note 6), for sharing of the efforts of certain Adovate employee time and use of Adovate office space and equipment. At December 31, 2023, the Company had $24,062 in outstanding accounts payable and had recognized $7,942 of accrued expense associated with this agreement. In the year ended December 31, 2023 and 2022, the Company recognized $32,005 andzero dollars, respectively, in expenses associated with this agreement.

See Note 11 for related party vendor, consulting, and lease agreements. See Note 4 for a related party sale of business.

9 — STOCKHOLDERS’ EQUITY

Standby Equity Purchase Agreement

On May 31, 2023, the Company entered into an Equity Purchase Agreement with Alumni Capital, LLC (“Alumni”). This agreement constituted a standby equity purchase agreement (a “SEPA”). Pursuant to the SEPA, the Company has the right, but not the obligation, to sell to Alumni up to $3,000,000 of newly issued shares, subject to increase to $10,000,000 at the option of the Company, at the Company’s request at any time during the commitment period, which commenced on May 31, 2023 and will end on the earlier of (i) December 31, 2024, or (ii) the date on which Alumni shall have made payment of advances requested by the Company totaling up to the commitment amount of $3,000,000. Each sale the Company requests under the SEPA (a “Purchase Notice”) may be for a number of shares of common stock with an aggregate value of up to $500,000, and up to $2,000,000 provided certain conditions concerning the average daily trading value are met. The SEPA provides for shares to be sold to Alumni at 95% of the lowest daily volume weighted average price during the three days after a Purchase Notice is issued to Alumni. The Company determined that the SEPA contains put option elements and forward share issuance elements that fail to meet equity classification under ASC 815-40,Contracts in an Entity’s Own Equity; the put option is recorded at fair value at inception and each reporting date thereafter. Forward contracts to issue shares created on the occurrence of a Purchase Notice will be measured at fair value, with changes in fair value recognized in net loss upon closing of the Purchase Notice and sale of the Company’s stock.

Upon the Company’s entry into and subject to the terms and conditions set forth in the SEPA,7,983 shares of common stock were issued to Alumni as consideration for its irrevocable commitment to purchase shares of common stock, pursuant to the SEPA, as shown in the consolidated statement of shareholders’ equity. The fair value of these shares of $51,901 was recorded under other expenses.

On August 3, 2023,20,550 shares of common stock were sold under the terms of the SEPA for cash proceeds $140,330.

Common Stock Issuances

On February 10, 2022, the Company, entered into a securities purchase agreement with an accredited institutional investor (“the Investor”) providing for the issuance of (i)92,890 shares of the Company’s common stock, par value $0.001, (ii) pre-funded warrants to purchase up to 74,600 shares of common stock with an exercise price of $0.025 per share, which Pre-Funded Warrants are to be issued in lieu of shares of common stock to ensure that the Investor does not exceed certain beneficial ownership limitations, and (iii) warrants, with a term of five years and six months from the date of issuance, to purchase an aggregate of up to 159,115 shares of common stock at an exercise price of $63.00 per share. The Company received net proceeds from the offering of $9,123,741 after deducting fees due to the placement agent and the Company’s transaction expenses. On June 8, 2022, all of the pre-funded warrants issued on February 10, 2022 were exercised for proceeds of $1,865, resulting in issuance of 74,600 shares common stock.

During the year ended December 31, 2022, the Company issued 18,800 shares of common stock at a cost of $818,350 to consultants for services rendered.

During the year ended December 31, 2022, the Company issued employees 50,000 shares of common stock as bonuses, of which 40,000 remain outstanding. The first issuance of 10,000 shares was forfeited on the termination of the employment of the recipient. The second issuance of 40,000 shares are subject to forfeiture for nominal consideration to Company on termination of the employee, and vest on the following schedule: 1/6 of the issued shares vesting six months from date of issue, then 1/12 vesting at the end of each subsequent three month period, the entire grant being vested three years from date of issue. On December 31, 2023,13,335 uncancelled shares were vested and 26,665 shares remained subject to repurchase.

On February 23, 2023, the Company entered into a securities purchase agreement (the “2023 Purchase Agreement”) with an accredited institutional investor (the “Investor”) providing for the issuance of 73,144 shares of the Company’s common stock. Pursuant to the 2023 Purchase Agreement, the Investor purchased the shares of the Company’s common stock for an aggregate purchase price of $750,000 with net proceeds of $609,613, after placement agent fees and expenses. Pursuant to the Purchase Agreement, an aggregate of 73,144 shares were issued to the Investor.

The Company issued to the placement Agent a warrant (the “Placement Agent Warrants”) to purchase up to an aggregate of 7,317 shares of common stock, representing 10% of the aggregate number of shares of Common Stock sold pursuant to the Purchase Agreement. The Placement Agent Warrants have an exercise price equal to $10.25 and are exercisable two months after the closing date and expire five years after the date of issuance. The total estimated fair value of the Placement agent warrant was $58,540.

On June 20, 2023, warrants to purchase 432 shares at an exercise price of $0.13 per share were exercised for total proceeds of $58.

On October 19, 2023, the Company entered into a securities purchase agreement with an institutional investor for the issuance and sale in a private placement of (i) pre-funded warrants to purchase up to 1,418,440 shares of the Company’s common stock, par value $0.001 at an exercise price of $0.001 per share, (ii) series A warrants to purchase up to 1,418,440 shares of the Company’s Common Stock at an exercise price of $2.82 per share, and (iii) series B warrants to purchase up to 1,418,440 shares of the Company’s Common Stock at an exercise price of $2.82 per share. The combined purchase price for one Pre-Funded Warrant and the accompanying Warrants was $2.819, for gross proceeds of $3,998,582, which was recognized as additional paid-in capital. The net proceeds to the Company from the Private Placement were approximately $3.4 million, after deducting placement agent fees and expenses and offering expenses payable by the Company. In addition,85,106 warrants with an exercise price of $3.52 per share of common stock were issued to the placement agent. Pursuant to the terms of the purchase agreement, the Company was prohibited from entering into any agreement to issue or announcing the issuance or proposed issuance of any shares of common stock or securities convertible or exercisable into common stock for a period commencing on October 19, 2023 and expiring January 15, 2024.

At December 31, 2023, the Purchaser had exercised Pre-Funded Warrants to purchase 445,440 shares of common stock for total proceeds of $445, leaving 973,000 Pre-fund Warrants outstanding. See Note 12 for subsequent exercise of the remaining Pre-Funded Warrants.

2017 Equity Incentive Plan

On October 9, 2017, the Company adopted the Adial Pharmaceuticals, Inc. 2017 Equity Incentive Plan (the “2017 Equity Incentive Plan”); which became effective on July 31, 2018. Initially, the aggregate number of shares of our common stock that may be issued pursuant to stock awards under the 2017 Equity Incentive Plan was 70,000 shares. On September 29, 2023, by a vote of the shareholders, the number of shares issuable under the 2017 Equity Incentive Plan was increased to 500,000. At December 31, 2023 the Company had issued and outstanding 138,527 shares and 148,908 options to purchase shares of our common stock under the 2017 Equity Incentive Plan, as well as 3,286 options to purchase shares of common stock that were issued before the 2017 Equity Incentive Plan was adopted, leaving 212,565 available for issue.

Stock Options

The following table provides the stock option activity for the years ended December, 2023 and 2022:

At December 31, 2023, the total intrinsic value of the outstanding options waszero dollars.

The Company used the Black Scholes valuation model to determine the fair value of the options issued, using the following key assumptions for the years ended December 31, 2023 and 2022:

During the year ended December 31, 2023,39,800 options to purchase shares of common stock were granted at a fair value of $243,157, an approximate weighted average fair value of $6.11 per option, to be amortized over a service a weighted average period of 3.0 years. As of December 31, 2023, $690,035 in unrecognized compensation expense will be recognized over a dollar weighted remaining service period of 2.03 years.

The components of stock-based compensation expense included in the Company’s Statements of Operations for the years ended December 31, 2023 and 2022 are as follows:

Stock Warrants

The following table provides the activity in warrants for the respective periods.

This table includes warrants to purchase 13,794 shares of common stock issued to consultants, including the 8,000 issued during the year ended December 31, 2022, with a total fair value of $263,195 at time of issue, calculated using the Black Scholes model assuming an underlying security values of $51.50, volatility rate of 107.88% risk-free rate of 1.71%, and an expected term of 6.5 years.

During the years ended December 31, 2023 and 2022,445,872 and 74,600 warrants to purchase shares of common stock were exercised for total proceeds of $502 and $1,865, respectively.

10 — INCOME TAXES

A reconciliation of the statutory Federal income tax rate and effective rate of the provision for income taxes is as follows:

Tax expense (benefit) for the year ended December 31, 2023 is shown on the table below:

Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities recognized for financial reporting, and the amounts recognized for income tax purposes. The significant components of deferred tax assets and liabilities as of December 31, 2023 and 2022, respectively, are as follows:

Deferred Tax Assets & Liabilities (rounded)

The Company has a net operating loss carry-forward of $47.3 million for Federal and of $50.2 million state tax purposes at December 31, 2023, that is potentially available to offset future taxable income. NOLS generated prior to 2018 will expire in 2037 and the 20- year carryover limitation was eliminated for losses generated after January 1, 2018, giving the taxpayer the ability to carry forward losses indefinitely. However, NOL carry forward arising after January 1, 2018, will now be limited to 80 percent of Taxable income.

In assessing the realizability of the deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. Management considers the scheduled reversal of deferred tax liabilities, projected future taxable income, net operating loss carryback potential and tax planning strategies in making these assessments.

Based upon the above criteria, the Company believes that it is more likely than not that the remaining net deferred tax assets will not be realized. Accordingly, the Company has recorded a valuation allowance of $13.5 million against the net deferred tax asset that is not realizable as of December 31, 2023.

Section 382 of the Internal Revenue Code (“Section 382”) imposes limitations on a corporation’s ability to utilize net operating losses if it experiences an “ownership change.” In general terms, an ownership change may result from transactions increasing the ownership of certain stockholders in the stock of a corporation by more than 50 percentage points over a three-year period. Any unused annual limitation may be carried over to later years, and the amount of the limitation may under certain circumstances be increased by the built-in gains in assets held by us at the time of the change that are recognized in the five-year period after the change.

The company has not performed a study to assess whether an ownership change for purposes of Section 382 has occurred, or whether there have been multiple ownership change since the Company’s inception, due to the significant costs and complexities associated with such study. If the company has experienced a change in control, as defined by Section 382, at any time since its public offering, utilization of net operating loss carryforwards would be subject to an annual limitation under Section 382. Any limitation may result in expiration of a portion of the net operating losses before utilization.

The Company files tax returns as prescribed by the tax laws of the jurisdiction in which they operate. In the normal course of business, the Company is subject to examination of Federal and state jurisdiction where applicable based on the statute of limitations that apply in each jurisdiction. As of December 31, 2023, open years related to the federal and state Jurisdictions are 2022, 2021, & 2020. The company has no open tax audits with any taxing authority as of December 31, 2023.

The Company had no uncertain tax positions at December 31, 2023.

11 — COMMITMENTS AND CONTINGENCIES

License with University of Virginia Patent Foundation

In January 2011, the Company entered into an exclusive, worldwide license agreement with the University of Virginia Patent Foundation, dba UVA Licensing and Ventures Group (“UVA LVG”) for rights to make, use or sell licensed products in the United States based upon the ten separate patents and patent applications made and held by UVA LVG.

As consideration for the rights granted in the UVA LVG License, the Company is obligated to pay UVA LVG yearly license fees and milestone payments, as well as a royalty based on net sales of products covered by the patent-related rights. More specifically, the Company paid UVA LVG a license issue fee and is obligated to pay UVA LVG (i) annual minimum royalties of $40,000 commencing in 2017; (ii) a $20,000 milestone payments upon dosing the first patient under a Phase 3 human clinical trial of a licensed product, $155,000 upon the earlier of the completion of a Phase 3 trial of a licensed product, partnering of a licensed product, or sale of the Company, $275,000 upon acceptance of an NDA by the FDA, and $1,000,000 upon approval for sale of AD04 in the U.S., Europe or Japan; as well as (iii) royalties equal to a 2% and 1% of net sales of licensed products in countries in which a valid patent exists or does not exist, respectively, with royalties paid quarterly. In the event of a sublicense to a third party, the Company is obligated to pay royalties to UVA LVG equal to a percentage of what the Company would have been required to pay to UVA LVG had it sold the products under sublicense ourselves. In addition, the Company is required to pay to UVA LVG 15% of any sublicensing income. A certain percentage of these payments by the Company to the UVA LVG may then be distributed to the Company’s former Chairman of the Board who currently serves as the Company’s Chief Medical Officer in his capacity as inventor of the patents by the UVA LVG in accordance with their policies at the time.

The license agreement may be terminated by UVA LVG upon sixty (60) days written notice if the Company breaches its obligations thereunder, including failing to make any milestone, failure to make required payments, or the failure to exercise diligence to bring licensed products to market. In the event of a termination, the Company will be obligated to pay all amounts that accrued prior to such termination. The Company is required to use commercially reasonable efforts to achieve the goals of submitting a New Drug Application to the FDA for a licensed product by December 31, 2024 and commencing commercialization of an FDA approved product by December 31, 2025. If the Company were to fail to use commercially reasonable effort and fail to meet either goal, the licensor would have the right to terminate the license.

The term of the license continues until the expiration, abandonment or invalidation of all licensed patents and patent applications, and following any such expiration, abandonment or invalidation will continue in perpetuity on a royalty-free, fully paid basis.

During both the years ended December 31, 2023 and 2022, the Company recognized $40,000 minimum license royalty expenses under this agreement. At both December 31, 2023 and 2022, total accrued royalties and fees due to UVA LVG were $40,000, shown on balance sheet as accrued expenses, related party.

Grant Incentive Plan – Related Party

On April 1, 2018, the board of directors approved and then revised, respectively, a grant incentive plan to provide incentive for Bankole A. Johnson, the Company’s Chief Medical Officer and a related party, to secure grant funding for the Company. Under the Grant Incentive Plan, the Company will make a cash payment to the Dr. Johnson each year based on the grant funding received by us in the preceding year in an amount equal to 10% of the first $1 million of grant funding received and 5% of grant funding received in the preceding year above $1 million. Amounts to be paid to the Dr. Johnson be paid as follows:50% in cash and 50% in stock. As of December 31, 2023, no grant funding that would result in a payment to the Dr. Johnson had been obtained.

On March 24, 2019, the Company entered into a consulting agreement (the “Consulting Agreement”) with Dr. Bankole A. Johnson, who at the time of the agreement was serving as the Chairman of the Board of Directors, for his service as Chief Medical Officer of the Company. The Consulting Agreement has a term of three years, unless terminated by mutual consent or by the Company for cause. Dr. Johnson resigned as Chairman of the Board of Directors at the time of execution of the consulting agreement. Under the terms of the Consulting Agreement, Dr. Johnson’s annual fee of $375,000 per year is paid twice per month. On September 8, 2022, Dr. Johnson’s consulting agreement was amended to increase his annual compensation to $430,000 annually and to pay him series of bonuses in cash and shares on the occurrence of certain milestones. The Company recognized $435,000 and $416,200 in compensation expense in the years ended December 31, 2023 and 2022, respectively.

On October 24, 2022, the Company entered into a Master Services Agreement (the “MSA”) with Abuwala & Company, LLC, dba as Orbytel, for provision of strategic consulting services. Orbytel made it known that it intended to utilize the services of the Keswick Group, LLC as a subcontractor in the provision of these services. Tony Goodman, a director of Company, is the founder and principal of Keswick Group, LLC, therefore Orbytel was considered a related party. Statement of work #1 (“SOW #1”), executed with the MSA, committed the Company to $209,250 in payments. During the years ended December 31, 2023 and 2022, the Company recognized $57,750 and $151,500 in expenses, repectively, under SOW #1.

On March 15, 2023, the Company entered into a Master Services Agreement (the “MSA”) with the Keswick Group, LLC for provision of consulting services. Tony Goodman, a director, is the founder and principal of Keswick Group. Under the terms of this agreement, the Keswick Group is to be paid $22,000 per month for its services for a period of one year from execution of the MSA. In addition, should the Company execute a material partnering agreement on or before December 15, 2023, Keswick Group will be granted 4,000 shares of common stock. In the year ended December 31, 2023, the Company recognized $216,713 in expenses associated with this agreement. See Note 12 for an added statement of work under this MSA.

Other Consulting and Vendor Agreements

The Company has entered into a number of agreements and work orders for future consulting, clinical trial support, and testing services, with terms ranging between 12 and 30 months. These agreements, in aggregate, commit the Company to approximately $152 thousand in future cash.

Litigation

The Company is subject, from time to time, to claims by third parties under various legal disputes. The defense of such claims, or any adverse outcome relating to any such claims, could have a material adverse effect on the Company’s liquidity, financial condition and cash flows. As of December 31, 2023, the Company did not have any pending legal actions.

12 — SUBSEQUENT EVENTS

On January 17, 2024, we entered into a Statement of Work #2 (“SOW#2”) to the Services Agreement, with The Keswick Group, LLC, pursuant to which Tony Goodman, a director, agreed to serve as our Chief Operating Officer at a compensation of $25,000 per month and devote no less than 75% of his business time to performing this role.

On February 13, 2024, pre-funded warrants for the purchase of 184,000 shares of common stock were exercised for total proceeds of $184.

On February 14, 2024, pre-funded warrants for the purchase of 789,000 shares of common stock were exercised for total proceeds of $789. After this exercise, no pre-funded warrants remained outstanding.

On March 1, 2024, warrants for the purchase of 268,440 shares of common stock with an exercise fee of $2.82 per share were exercised for total gross proceeds of $756,732.

On March 1, 2024, Adial Pharmaceuticals, Inc. entered into a warrant inducement agreement with a certain holder of the Company’s warrants to purchase shares of the Company’s common stock, par value $0.001 per share issued in a private placement offering that closed on October 24, 2023. Pursuant to the inducement agreement, the holder of the existing warrants agreed to exercise for cash the existing warrants to purchase up to approximately 1,150,000 shares of common stock, at an exercise price of $2.82 per share. The transactions contemplated by the inducement agreement closed on March 6, 2024. The Company received aggregate gross proceeds of approximately $3.5 million, before deducting placement agent fees and other expenses payable by the Company. Net proceeds of this transaction were estimated to be approximately $3.1 million.

In consideration of the holder’s immediate exercise of the existing warrants and the payment of $0.125 per warrant in accordance with the inducement agreement, the Company issued unregistered Series C warrants to purchase 2,300,000 shares of common stock (200% of the number of shares of common stock issued upon exercise of the Existing Warrants) to the holder of existing warrants.

On March 25, 2024, the Company issued 205,000 options to purchase shares of the Company’s common stock at an exercise price of $1.35 per share to employees and directors.