Skye Bioscience, Inc. Quarterly report pursuant to Section 13 or 15(d)

Quarterly report pursuant to Section 13 or 15(d)

Warrants and Derivative Liabilities

Warrants and Derivative Liabilities

6 Months Ended

Jun. 30, 2021

Warrants and Rights Note Disclosure [Abstract]

Warrants and Derivative LiabilitiesThere are significant judgments and estimates inherent in the determination of the fair value of the Company’s warrants and derivative liabilities. These judgments and estimates include assumptions regarding the Company’s future operating performance, the time to completing a liquidity event, if applicable, and the determination of the appropriate valuation methods.

If the Company had made different assumptions, the fair value of the warrants and derivative liabilities could have been significantly different (See Note 2).

Warrants

Warrants vested and outstanding as of June 30, 2021 are summarized as follows:


Source	Exercise Price		Term (Years)	Number of Warrants Vested and Outstanding
Pre 2015 Common Stock Warrants	$	1.00	6-10	1,110,000
2015 Common Stock Warrants	$	5.00	10	100,000
2016 Common Stock Warrants to Service Providers	$	1.15	10	40,000
2016 Series C Common Stock Warrants to Placement Agent	$	0.40	5	125,000
2017 Series D Common Stock Warrants to Placement Agent	$	0.25	5	480,000
2017 Common Stock Warrants to Service Provider	$	0.41	5	125,000
2018 Emerald Financing Warrants	$	0.10	5	3,400,000
Emerald Multi-Draw Credit Agreement Warrants	$	0.50	5	7,500,000
2019 Common Stock Warrants	$	0.35	5	8,000,000
2020 Common Stock Warrants	$	0.06	5	21,166,667
2020 Common Stock Warrants to Placement Agent	$	0.075	4.99	8,166,667
Total warrants vested and outstanding as of June 30, 2021				50,213,334

Refer to Note 9 for warrant issuances and exercises subsequent to June 30, 2021.

Derivative Liabilities

The following tables summarize the activity of derivative liabilities for the periods indicated:


	Six Months Ended June 30, 2021
	December 31, 2020 Fair Value of Derivative Liabilities		Fair Value of Derivative Liabilities Issued		Change in Fair Value of Derivative Liabilities		Reclassification of Derivatives to Equity		June 30, 2021 Fair Value of Derivative Liabilities
Emerald Financing - warrant liability (1)	$	38,567	$	—	$	358,998	$	—	$	397,565
Current balance of derivative liabilities	$	38,567	$	—	$	358,998	$	—	$	397,565


	Six Months Ended June 30, 2020
	December 31, 2019 Fair Value of Derivative Liabilities		Fair Value of Derivative Liabilities Issued		Change in Fair Value of Derivative Liabilities		Reclassification of Derivatives to Equity		June 30, 2020 Fair Value of Derivative Liabilities
Emerald Multi Draw Credit Agreement - compound derivative liability (2)	$	90,797	$	—	$	(90,797)	$	—	$	—
Emerald Financing - warrant liability (1)	276,024		—		76,708		—		352,732
Series B - warrant liability(3)	134,579		—		4,539		(26,563)		112,555
Total derivative liabilities	$	501,400	$	—	$	(9,550)	$	(26,563)	$	465,287
Less, noncurrent portion of derivative liabilities	(90,797)								—
Current balance of derivative liabilities	$	410,603							$	465,287

Emerald Financing Warrant Liability (1)

In connection with the August 2020 Financing, the exercise price of the warrants was permanently set to $0.10. The warrants contain a contingent put option if the Company undergoes a subsequent financing that results in a change in control. The warrant holders also have the right to participate in subsequent financing transactions on an as-if converted basis.

The Company reviewed the warrants for liability or equity classification under the guidance of ASC 480-10, Distinguishing Liabilities from Equity, and concluded that the warrants should be classified as a liability and re-measured to fair value at the end of each reporting period. The Company also reviewed the warrants under ASC 815, Derivatives and Hedging/Contracts in Entity’s Own Equity, and determined that the warrants also meet the definition of a derivative. With the assistance of a third party valuation specialist, the Company valued the warrant liabilities utilizing the Monte Carlo valuation method pursuant to the accounting guidance of ASC 820-10, Fair Value Measurements. Beginning March 31 2021, the Company changed its valuation approach for the Emerald Financing Warrant Liability to a Black Scholes valuation method, as it was determined that a more simplistic model such as the Black Scholes valuation method yields a substantially similar result as a Monte Carlo simulation due to the Company's current assumptions.

The warrant liability is valued at the balance sheet dates using the following assumptions:


	June 30, 2021	December 31, 2020
Dividend yield	0.00%	0.00%
Volatility factor	145.3%	90.9%
Risk-free interest rate	0.18%	0.14%
Expected term (years)	1.63	2.13
Underlying common stock price	$0.16	$0.04

Emerald Multi-Draw Credit Agreement Compound Derivative Liability (2)

On April 29, 2020, the Company entered into the Amended Credit Agreement which removed the change in control provision as an event of default for advances before and after the amendment. As a result of the modification, the contingent interest feature component of the compound derivative is no longer required to be bifurcated as a derivative liability.

Series B Warrant Liability (3)

To compute the fair value of the warrants, the Company utilized the following assumptions in the Black Scholes Merton Option Pricing Model as follows:


			June 30, 2020
Dividend yield			0.00%
Volatility factor			104.9%
Risk-free interest rate			0.16%
Expected term (years)			0.14
Underlying common stock price			$0.16

During the six months ended June 30, 2020, 312,500 Series B Common Stock Warrants with an intrinsic value of $26,563 were exercised for no consideration per share, which resulted in the issuance of 312,500 shares of common stock. Prior to exercise, these Series B Warrants were adjusted to fair value using a Black Scholes Merton Option Pricing Model which considered the closing trading price on the exercise dates. Because the exercise price of these options had been reset to $0.00, the fair value derived from the valuation model approximated the market value of the Company’s common stock on the exercise dates.