APPROVAL OF THE SERIES A-1 PREFERRED
AMENDMENT PROPOSAL
The Board believes that approval of the
amendment of the Certificate of Designation for our Series A-1 Preferred is in the best interests of Outlook Therapeutics,
Inc. and our stockholders and has unanimously recommended that the proposed amendment be presented to our stockholders for approval.
Background
Original Issuance to BioLexis and Stockholder Approval
As described in “Transactions with
Related Persons” under “BioLexis Private Placement,” our controlling stockholder BioLexis has made a number of
investments in our company beginning in September 2017. Our stockholders approved the initial issuance, and conversion terms
of, the convertible preferred stock originally acquired by BioLexis in 2017, and which was converted into common stock (in part)
and the remainder exchanged for our Series A-1 Preferred in July 2018 (as described below).
Exchange for Series A-1 Preferred
In July 2018, we entered into an exchange
agreement with BioLexis pursuant to which we exchanged the shares of Series A convertible preferred stock held by BioLexis
for shares of newly created Series A-1 Preferred. The Series A-1 Preferred has the same conversion and dividend features
as the Series A convertible preferred stock (10% per annum, compounded quarterly, payable quarterly at our option in cash
or in kind in additional shares of Series A-1 Preferred), but reflects an increased redemption premium (120% to 600%) and
increased liquidation preference (110% to 550%) that provide BioLexis with similar redemption premium and liquidation preference
for its aggregate preferred stockholdings prior to converting to common stock and exchanging the remainder for Series A-1
Preferred. See “Transactions with Related Persons — BioLexis Private Placement — Conversion
of Series A Convertible and Exchange for Series A-1 Preferred” for additional details.
There are currently 68,112 shares of Series A-1
Preferred outstanding, all of which are held by BioLexis, and which are convertible into approximately 1,287,178 shares of our
common stock, and have a liquidation preference of $37.5 million and a redemption premium of $40.9 million.
Amendment of Conversion Rate
On January 27, 2020, we entered into
an agreement with BioLexis whereby we agreed to seek stockholder approval of the Certificate of Amendment of the Certificate of
Designation of the Series A-1 Preferred, included as Appendix A hereto, as required by Delaware law, and the issuance
of shares of our common stock pursuant to such amended terms, as required by applicable Nasdaq rules, and BioLexis agreed to promptly
convert its shares of Series A-1 Preferred pursuant to such amended terms, and in any event, within five business days of
stockholder approval thereof. Accordingly, if stockholders approve this Proposal No. 3 and Proposal No. 4, BioLexis will convert
its 68,112 shares of Series A-1 Preferred into 29,358,621 shares of our common stock, and we will no longer have any shares
of Series A-1 Preferred issued and outstanding.
As proposed in the Certificate of Amendment
of the Certificate of Designation of the Series A-1 Preferred, included as Appendix A hereto, the effective conversion
rate will be increased from the current $18.89797 per share to $431.03447263 per share. If approved, this would result in 29,358,621
shares issuable upon conversion of the 68,112 shares of Series A-1 Preferred outstanding (rather than 1,287,178; or an effective
conversion price of $0.232 per share). The proposed terms also clarify that while the Series A-1 Preferred vote on
an as-converted basis, they will use a conversion rate of $111.982082867 per share, resulting in approximately 112 votes
per share (or an effective rate of $0.893 per share, the “Minimum Price” on January 27, 2020) in order
to comply with applicable Nasdaq rules, an increase over the current approximately 19 votes per share.
Reason for the Amendment
For the past 15 months, we have been attempting
raise sufficient capital to complete the development of ONS-5010, our sole product candidate in active development. While we have
been successful in periodically raising small amounts of capital in the public equity markets, we have not been able to raise as
much additional capital as we will require to complete development of ONS-5010 on terms that were acceptable to us as some investors
have not been willing to invest in Outlook Therapeutics due to the royalty agreements in place with MTTR LLC, or MTTR, relating
to ONS-5010, outstanding securities exercisable or convertible for shares of our common stock and/or the liquidation preference
and redemption rights of our Series A-1 Preferred. As of December 31, 2019, we had a cash balance of $1.3 million and significant
liabilities, including $7.6 million outstanding aggregate principal amount and accrued interest of senior secured notes that mature
on December 31, 2020 and $3.6 million unsecured notes that were due on demand as of such date.
In light of our financial position and need
to raise additional capital, in December 2019, we engaged an investment bank to assist us in raising capital and were informed
by the bank that the terms of then outstanding warrants that had been issued in April 2019 made it challenging to raise sufficient
additional capital on terms that were acceptable to us. As a result, we decided to expand the scope of our engagement with the
investment bank to negotiate on our behalf with the holders of the April 2019 warrants to eliminate such warrants for common stock
in a cashless exercise. As a result of this process, in late December 2019, we successfully negotiated an amendment of the warrants
issued in April 2019 to reduce the effective exercise price to $0.232 per warrant and provide for their immediate cashless exercise.
As a result, these warrants, which contained anti-dilution price protection, were exercised in full. BioLexis held some of these
April 2019 warrants but was not a party to the negotiation of the amended terms, which were negotiated at arm’s length by
certain of the other non-affiliate holders of the April 2019 warrants.
Also in December 2019, after the completion
of the April 2019 warrant exercise, we began negotiations with MTTR, our strategic partner for the ONS-5010 program, to terminate
the existing strategic partnership agreement and related royalty payment obligations in exchange for shares of our common stock.
These negotiations continued for several weeks and we were ultimately successful in reaching an agreement on January 27, 2020 (see
Proposal No. 4).
In late December, after completion of the
April 2019 warrant exercise, representatives of BioLexis approached management about potential conversion of the Series A-1 Preferred.
Following this discussion, management informed the Special Financing Committee (which was originally formed in April 2018 with
plenary authority to review and approve financing transactions with BioLexis and is comprised of Kurt Hilzinger and Randy Thurman,
the two independent members of the Board not affiliated with BioLexis) of the approach from BioLexis regarding possible conversion
of the Series A-1 Preferred. The Special Financing Committee authorized management to further explore this opportunity given the
challenges posed by our then-current capital structure and the associated challenges in raising additional capital.
In early January 2020, representatives of
BioLexis, management, and a member of the Special Financing Committee of the Board, engaged in conversations regarding possible
conversion of the Series A-1 Preferred into common stock. Representatives of BioLexis indicated that, in the event the royalty
obligation to MTTR would be terminated in exchange for common stock, BioLexis would be willing to agree to convert the Series A-1
Preferred into common stock at the effective price used for the April 2019 warrant amendment, or $0.232, and relinquish the associated
preferences. Management modeled out the proposal, including in the context of the proposal that MTTR terminate its royalty right
in exchange for common stock, and the potential aggregate share issuances as a result of both proposals. Based on this diligence
coupled with discussions with investors and the investment bank, the Special Financing Committee and management believed that such
changes would provide additional benefits to our company by simplifying our capital structure, making us a more attractive investment
and increasing the prospects of allowing us to raise additional outside capital to fund development of ONS-5010. On January 7,
2010, we notified Nasdaq of our intent to amend the Series A-1 Preferred.
Between January 7, 2020 and January 22,
2020, management met with potential new investors and, while the amendments to the April 2019 warrants were well received, investors
again indicated that the MTTR royalty payments and the current terms of the Series A-1 Preferred made an investment in our company
unattractive. Management updated a member of the Special Financing Committee regarding feedback from such discussions, and the
impact of the MTTR royalty payments and the Series A-1 Preferred on the company’s capital raising opportunities. On January
14, 2020, our outside counsel, a representative of BioLexis and management met in person to discuss the Series A-1 Preferred proposal
and the negotiations with MTTR. Following this meeting, our outside counsel finalized the proposed terms of the amendment agreement
and form of Certificate of Amendment with BioLexis and its counsel in consultation with Nasdaq as to its requirements, and we continued
to negotiate the termination of the MTTR strategic partnership agreement and consulting agreements with the four MTTR principals
with MTTR, such individuals, and MTTR’s counsel.
On January 22, 2020, the Special Financing
Committee held a meeting to review and discuss the proposed amendment of the Series A-1 Preferred. Our outside counsel and Lawrence
A. Kenyon, our CEO, were also present at this meeting. It was noted during the meeting that eliminating the significant liquidation
preference (or in the alternative, the even higher redemption premium payable in certain circumstances) would benefit our stockholders,
but the most important issue was the anticipated positive effect on our ability to raise necessary capital, and the limited prospects
to raise such needed capital without addressing the Series A-1 Preferred (given that we had already addressed other investor concerns
about our capitalization structure and future prospects, namely the April 2019 warrants and were separately addressing the MTTR
royalty for ONS-5010 under the strategic partnership agreement). The Special Financing Committee also considered that the proposed
$0.232 effective conversion price for the Series A-1 Preferred was based on the amended exercise price of the April 2019 warrants,
which was the result of an independent arm’s length negotiations with certain non-affiliate holders of such warrants. Following
the discussion, on January 22, 2020, the Special Financing Committee approved the entry into the agreement to amend the Series
A-1 Preferred. Once we had reached agreement with MTTR to eliminate its royalty right in exchange for equity (see Proposal No.
4), BioLexis agreed to amend its Series A-1 Preferred to eliminate its preferences in exchange for common stock on the terms approved
on January 22, 2020.
We believe that the amendment of the Series A-1
Preferred to increase the conversion rate and voting rights is in the best interests of our company and our stockholders because
BioLexis has agreed to promptly convert such shares into common stock pursuant to the amended terms. Following such conversion
under the amended terms, we will no longer have any Series A-1 Preferred (or any preferred stock) issued and outstanding.
We believe eliminating this senior preferred equity security, and its associated rights, preferences and privileges, including
its $37.5 million liquidation preference (or in the alternative, the $40.9 million redemption premium that is payable
in certain circumstances), will make an investment in our company more attractive to our current and potential future investors.
On February 26, 2020, we announced the closing of an aggregate $10.2 million equity raise priced “at-the-market.” We
believe the terms of such financing reflect the expectation that our stockholders will approve the MTTR share issuance (Proposal
No. 4) and the Series A-1 Preferred amendment (Proposals No. 2 and No. 3), and that the MTTR royalty obligation will be terminated
and the Series A-1 Preferred converted to common stock pursuant to the proposed amended terms.
The Series A-1 Preferred has provisions
that limit our ability to pay dividends or take other actions in respect of our common stock, receives quarterly PIK dividends,
has redemption rights and ranks senior to our common stockholders in terms of distributions and in the event of any liquidation
of our company. Once converted into common stock, these preferred rights will terminate and such shares will have the same rights
as our other common stockholders.
Consequences of Not Obtaining Stockholder Approval
If stockholders do not vote in favor of
the Series A-1 Preferred Amendment Proposal, we will not be able to file the Certificate of Amendment of the Certificate of
Designation, and the current terms of the Series A-1 Preferred will remain as is, and BioLexis will not be required to convert
all of its outstanding shares of Series A-1 Preferred. The shares of Series A-1 Preferred will remain outstanding and
convertible (and will vote in proportion thereto) in accordance with existing terms, and will also continue to have rights and
preferences that are senior to our common stockholders, restrict our ability to pay dividends to our common stockholders, and have
a $37.5 million liquidation preference (or in the alternative, a redemption premium equal to approximately $40.9 million that
is payable in certain circumstances).
Vote Required
The affirmative vote of the holders of a
majority of the outstanding voting shares (common stock and Series A-1 Preferred voting together as a single class) will be
required to approve the Series A-1 Preferred Amendment. Approval of this Proposal No. 2 is not conditioned upon approval of
Proposal No. 3.
The Board of Directors Recommends
A Vote “For” Proposal 2.