News Column

ELEVEN BIOTHERAPEUTICS, INC. - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations.

August 13, 2014

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our financial statements and the notes to those financial statements appearing in this Quarterly Report on Form 10-Q and our Annual Report on Form 10-K for the year ended December 31, 2013, or the 2013 10-K. This discussion contains forward-looking statements that involve risks and uncertainties. As a result of many factors, including those factors set forth in Part II, Item IA, "Risk Factors" of this Quarterly Report on Form 10-Q, our actual results could differ materially from the results described in or implied by the forward-looking statements.

Overview

We are a clinical-stage biopharmaceutical company with a proprietary protein engineering platform, called AMP-Rx, that we apply to the discovery and development of protein therapeutics to treat diseases of the eye. Our therapeutic approach is based on the role of cytokines in diseases of the eye, our understanding of the structural biology of cytokines and our ability to rationally design and engineer proteins to modulate the effects of cytokines. Cytokines are cell signaling molecules found in the body that can have important inflammatory effects. Our most advanced product candidate is EBI-005, which we designed, engineered and generated using our AMP-Rx platform and are developing as a topical treatment for dry eye disease and allergic conjunctivitis. In 2013, we completed a Phase 1b/2a clinical trial of EBI-005 in patients with moderate to severe dry eye disease. In early 2014, we initiated a pivotal Phase 3 clinical program evaluating EBI-005 for the treatment of moderate to severe dry eye disease. We also initiated a Phase 2 clinical trial to evaluate the use of EBI-005 in patients with allergic conjunctivitis in early 2014. We hold worldwide commercialization rights to EBI-005.

We were incorporated and commenced active operations in early 2008, and our operations to date have been limited to organizing and staffing our company, acquiring rights to intellectual property, business planning, raising capital, developing our technology, identifying potential product candidates, undertaking preclinical studies and, beginning in 2012, conducting clinical trials. To date, we have financed our operations primarily through private placements of our preferred stock and convertible bridge notes, venture debt borrowings, the initial public offering of our common stock, or IPO, and, to a lesser extent, from a collaboration. All of our revenue to date has been collaboration revenue, which we first began to generate in 2013. Since inception, we have incurred significant operating losses. As of June 30, 2014, we had an accumulated deficit of $72.9 million. In February 2014, we closed our IPO. We received aggregate net proceeds from the IPO of approximately $50.2 million, after deducting underwriting discounts and commissions and other offering expenses payable by us.

We anticipate that our expenses will increase substantially as compared to prior periods in connection with conducting our pivotal Phase 3 clinical program, consisting of two Phase 3 clinical trials evaluating the safety and efficacy of EBI-005, our most advanced product candidate, for the treatment of moderate to severe dry eye disease and a separate clinical trial evaluating the safety of treatment with EBI-005 for one year, and seeking marketing approval for EBI-005 for this indication in the United States.

We also expect our expenses to increase as we conduct our Phase 2 clinical trial of EBI-005 for the treatment of allergic conjunctivitis, as we conduct additional clinical trials of EBI-005 for the treatment of additional indications or for use in other patient populations, as we seek marketing approval of EBI-005 for the treatment of allergic conjunctivitis or other indications or for use in other patient populations, and as we continue research and development and initiate additional clinical trials of, and seek marketing approval for, our other product candidates. In addition, if we obtain marketing approval for EBI-005 or any other product candidates, we expect to incur significant commercialization expenses related to product manufacturing, marketing, sales and distribution. Furthermore, with the closing of our IPO, we have begun to incur additional costs associated with operating as a public company. Accordingly, we will need to obtain substantial additional funding in connection with our continuing operations. If we are unable to raise capital when needed or on attractive terms, we could be forced to delay, reduce or eliminate our research and development programs or any future commercialization efforts.

Financial Operations Overview

Revenue

To date, we have not generated any revenue from the sale of products. All of our revenue to date has been derived from a collaboration. We do not expect to generate significant product revenue unless and until we obtain marketing approval for, and commercialize, EBI-005, which we do not expect will occur before 2017, if ever.

We have generated collaboration revenue exclusively from our collaboration and license agreement with ThromboGenics N.V., or Thrombogenics, which we entered into in May 2013. Under the agreement, we and ThromboGenics are collaborating to identify protein or peptide therapeutics that directly modulate any of a specified set of targets in a novel pathway in retinal disease. We call the therapeutics that are identified, and whose modulation of one of the targets is confirmed, in the course of the research collaboration,

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collaboration products. The initial research term extends for 30 months from the date we entered into the agreement, but may be extended on mutual agreement. The agreement expires when all of ThromboGenics' payment obligations expire. We are responsible for specified non-clinical activities during the research term. ThromboGenics is responsible for all development, manufacturing and commercialization activities with respect to the collaboration products. We granted ThromboGenics an exclusive, sublicensable, worldwide royalty-bearing license under our rights in any intellectual property made in the course of this collaboration, as well as under any other intellectual property we control during the research term that is necessary for ThromboGenics to perform its obligations to research, develop, manufacture and commercialize collaboration products. During the term of the agreement, neither we nor ThromboGenics, nor our respective affiliates other than any entities which become affiliates as a result of an acquisition of us or ThromboGenics, are permitted to research, develop, manufacture or commercialize any protein or peptide therapeutic that directly modulates one of the specified targets, except as otherwise provided in the agreement.

In connection with the agreement, we received an upfront, non-refundable payment of $1.75 million, and are entitled to receive payment for our performance of activities under the agreement at a set rate per full time annual equivalent personnel for research services pursuant to the agreement. We identified three deliverables in the arrangement: the research license, the research services and our participation on the joint research committee, or JRC, and concluded that there are two units of accounting: a combined research license and research services deliverable and the JRC deliverable. The estimated selling price for the JRC deliverable was de minimis, and thus we allocated the fixed arrangement consideration to the combined unit of accounting. We are recognizing revenue using the proportional performance method by which the amounts are recognized in proportion to the costs incurred based on full time equivalent efforts. In addition, we are eligible to receive up to an aggregate of $10.0 million if ThromboGenics achieves specified preclinical and clinical development milestones and up to an aggregate of $15.0 million if ThromboGenics achieves specified regulatory milestones. There are no commercialization or sales based milestones under the agreement. ThromboGenics is obligated to pay us a low single digit royalty on the sale of collaboration products. We recognized collaboration revenue of $761,000 and $202,000 in connection with this collaboration for the three months ended June 30, 2014 and 2013, respectively and $1.3 million and $202,000 for the six months ended June 30, 2014 and 2013, respectively. We expect that any revenue we generate from our collaboration with ThromboGenics will fluctuate from quarter to quarter as a result of the uncertain timing and amount of payments for research services, milestone payments and royalties.

Research and Development Expenses

Research and development expenses consist primarily of costs incurred for the development of our product candidates, which include:

employee-related expenses, including salaries, benefits, travel and stock-based compensation expense; expenses incurred under agreements with contract research organizations, or CROs, and investigative sites that conduct our clinical trials; expenses associated with developing manufacturing capabilities and manufacturing clinical study materials; facilities, depreciation, and other expenses, which include direct and allocated expenses for rent and maintenance of facilities, insurance, and other supplies; and expenses associated with preclinical and regulatory activities.



We expense research and development costs as incurred. We recognize external development costs based on an evaluation of the progress to completion of specific tasks using information and data provided to us by our vendors and our clinical sites.

In April 2013, we implemented a strategic restructuring designed to conserve resources and improve our financial position. As part of this strategic restructuring, we reduced spending on early stage research programs and implemented a reduction in force of 15 positions, or 50% of our workforce, primarily in the research area. We expect our research and development expenses to increase substantially as compared to prior periods in connection with conducting our pivotal Phase 3 clinical program for EBI-005, seeking marketing approval for EBI-005 in the United States and, whether alone or in collaboration with third parties, in the European Union and other jurisdictions, initiating and conducting additional clinical trials of EBI-005 for the treatment of allergic conjunctivitis or additional indications or for use in other patient populations, and continuing the research and development and initiating clinical trials of our other product candidates.

The successful development and commercialization of our product candidates is highly uncertain. This is due to the numerous risks and uncertainties associated with product development and commercialization, including the uncertainty of:

the scope, progress, outcome and costs of our clinical trials and other research and development activities; the efficacy and potential advantages of our product candidates compared to alternative treatments, including any standard of care; 13



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the market acceptance of our product candidates; obtaining, maintaining, defending and enforcing patent claims and other intellectual property rights; significant and changing government regulation; and the timing, receipt and terms of any marketing approvals.



A change in the outcome of any of these variables with respect to the development of EBI-005 or any other product candidate that we may develop could mean a significant change in the costs and timing associated with the development of that product candidate. For example, if the FDA or another regulatory authority were to require us to conduct clinical trials or other testing beyond those that we currently contemplate will be required for the completion of clinical development of EBI-005 or any other product candidate that we may develop, or if we experience significant delays in enrollment in any of our clinical trials, we could be required to expend significant additional financial resources and time on the completion of clinical development of that product candidate.

We allocate direct research and development expenses, consisting principally of external costs, such as fees paid to investigators, consultants, central laboratories and CROs in connection with our clinical trials, and costs related to manufacturing or purchasing clinical trial materials, to specific product programs. We do not allocate employee and contractor-related costs, costs associated with our platform and facility expenses, including depreciation or other indirect costs, to specific product programs because these costs are deployed across multiple product programs under research and development and, as such, are separately classified. The table below provides research and development expenses incurred for our EBI-005 product program and other expenses by category. We did not allocate research and development expenses to any other specific product program during the periods presented:

Three months ended Six months ended June 30, June 30, 2014 2013 2014 2013 (in thousands) EBI-005 $ 5,047$ 886$ 9,078$ 3,730



Personnel and other expenses:

Employee and contractor-related expenses 1,158 1,384 2,185 2,415

Platform-related lab expenses 273 210 455 593 Facility expenses 128 199 232 399 Other expenses 148 25 623 63 Total personnel and other expenses 1,707 1,818 3,495 3,470



Total research and development expenses $ 6,754$ 2,704$ 12,573$ 7,200

General and Administrative Expenses

General and administrative expenses consist primarily of salaries and related costs for personnel, including stock-based compensation, in executive, operational, finance and human resource functions. Other general and administrative expenses include facility-related costs and professional fees for legal, patent, consulting and accounting services.

We anticipate that our general and administrative expenses will increase in the future as we increase our headcount to support our continued research and development and potential commercialization of our product candidates. We also anticipate increased accounting, audit, legal, regulatory, compliance, insurance and investor and public relations expenses associated with being a public company.

Other Income (Expense), Net

Other income and expense consists primarily of interest income earned on cash and cash equivalents, interest expense on outstanding debt and the gain or loss associated with the change in the fair value of our preferred stock warrant liability.

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Critical Accounting Policies and Significant Judgments and Estimates

This management's discussion and analysis of our financial condition and results of operations is based on our financial statements, which we have prepared in accordance with U.S. generally accepted accounting principles. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, and expenses and the disclosure of contingent assets and liabilities in our financial statements. On an ongoing basis, we evaluate our estimates and judgments, including those related to revenue recognition, accrued research and development expenses and stock-based compensation. We base our estimates on historical experience, known trends and events and various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

While our significant accounting policies are described in more detail in the notes to our audited financial statements appearing elsewhere in the 2013 10-K, we believe the following accounting policies to be most critical to the judgments and estimates used in the preparation of our financial statements.

Revenue Recognition

We recognize revenue in accordance with Accounting Standards Codification, or ASC, 605, Revenue Recognition. Accordingly, we recognize revenue for each unit of accounting when all of the following criteria are met:

Persuasive evidence of an arrangement exists; Delivery has occurred or services have been rendered; The seller's price to the buyer is fixed or determinable; and Collectability is reasonably assured.



We record as deferred revenue any amounts received prior to satisfying the revenue recognition criteria. We classify as deferred revenue, current any amounts expected to be recognized as revenue within the 12 months following the balance sheet date. We classify as deferred revenue, net of current portion any amounts not expected to be recognized as revenue within the 12 months following the balance sheet date.

We evaluate multiple-element arrangements based on the guidance in ASC Topic 605-25, Revenue Recognition-Multiple-Element Arrangements, or ASC 605-25. Pursuant to the guidance in ASC 605-25, we evaluate multiple-element arrangements to determine (1) the deliverables included in the arrangement and (2) whether the individual deliverables represent separate units of accounting or whether they must be accounted for as a combined unit of accounting. This evaluation involves subjective determinations and requires us to make judgments about the individual deliverables and whether such deliverables are separable from the other aspects of the contractual relationship. Deliverables are considered separate units of accounting provided that the delivered item has value to the customer on a standalone basis, and if the arrangement includes a general right of return with respect to the delivered item, delivery or performance of the undelivered item is considered probable and substantially in our control. In assessing whether an item has standalone value, we consider factors such as the research, development, manufacturing and commercialization capabilities of the collaboration partner and the availability of the associated expertise in the general marketplace. In addition, we consider whether the collaboration partner can use any other deliverable for its intended purpose without the receipt of the remaining deliverable, whether the value of the deliverable is dependent on the undelivered item and whether there are other vendors that can provide the undelivered items. The consideration received under the arrangement that is fixed or determinable is then allocated among the separate units of accounting using the relative selling price method. We determine the selling price of a unit of accounting following the hierarchy of evidence prescribed by ASC 605-25. Accordingly, we determine the estimated selling price for units of accounting within each arrangement using vendor-specific objective evidence, or VSOE, of selling price, if available, third-party evidence, or TPE, of selling price if VSOE is not available, or best estimate of selling price, or BESP, if neither VSOE nor TPE is available.

We recognize arrangement consideration allocated to each unit of accounting when all of the revenue recognition criteria in ASC 605 are satisfied for that particular unit of accounting. In the event that a deliverable does not represent a separate unit of accounting, we recognize revenue from the combined unit of accounting over our contractual or estimated performance period for the undelivered items, which is typically the term of our research and development obligations. If there is no discernible pattern of performance or objectively measurable performance measures do not exist, then we recognize revenue under the arrangement on a straight-line basis over the period we are expected to complete our performance obligations. Conversely, if the pattern of performance in which the service is provided to the customer can be determined and objectively measurable performance measures exist, then we recognize revenue under the arrangement using the proportional performance method. Revenue recognized is limited to the lesser of the cumulative amount of payments received or the cumulative amount of revenue earned, as determined using the straight-line method or proportional performance method, as applicable, as of the period ending date.

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At the inception of an arrangement that includes milestone payments, we evaluate whether each milestone is substantive and at risk to both parties on the basis of the contingent nature of the milestone. This evaluation includes an assessment of whether: (1) the consideration is commensurate with either our performance to achieve the milestone or the enhancement of the value of the delivered item as a result of a specific outcome resulting from our performance to achieve the milestone; (2) the consideration relates solely to past performance; and (3) the consideration is reasonable relative to all of the deliverables and payment terms within the arrangement. We evaluate factors such as the scientific, clinical, regulatory, commercial and other risks that must be overcome to achieve the particular milestone and the level of effort and investment required to achieve the particular milestone in making this assessment. There is considerable judgment involved in determining whether a milestone satisfies all of the criteria required to conclude that a milestone is substantive. We have concluded that certain of the preclinical and clinical development milestone payments pursuant to our collaboration and license arrangement with ThromboGenics are substantive. Accordingly, in accordance with ASC Topic 605-28,Revenue Recognition-Milestone Method, we will recognize revenue in its entirety upon successful accomplishment of these milestones, assuming all other revenue recognition criteria are met. Milestones that are not considered substantive are recognized as earned if there are no remaining performance obligations or over the remaining period of performance, assuming all other revenue recognition criteria are met.

Accrued Research and Development Expenses

As part of the process of preparing our financial statements, we are required to estimate our accrued expenses. This process involves reviewing quotes and contracts, identifying services that have been performed on our behalf and estimating the level of service performed and the associated cost incurred for the service when we have not yet been invoiced or otherwise notified of the actual cost. The majority of our service providers invoice us monthly in arrears for services performed or when contractual milestones are met. We make estimates of our accrued expenses as of each balance sheet date in our financial statements based on facts and circumstances known to us at that time. We periodically confirm the accuracy of our estimates with the service providers and make adjustments if necessary. The significant estimates in our accrued research and development expenses are related to fees paid to CROs and other vendors in connection with research and development activities for which we have not yet been invoiced.

We base our expenses related to CROs on our estimates of the services received and efforts expended pursuant to quotes and contracts with CROs that conduct research and development on our behalf. The financial terms of these agreements are subject to negotiation, vary from contract to contract and may result in uneven payment flows. There may be instances in which payments made to our vendors will exceed the level of services provided and result in a prepayment of the research and development expense. In accruing service fees, we estimate the time period over which services will be performed and the level of effort to be expended in each period. If the actual timing of the performance of services or the level of effort varies from our estimate, we adjust the accrual or prepayment expense accordingly. Although we do not expect our estimates to be materially different from amounts actually incurred, our understanding of the status and timing of services performed relative to the actual status and timing of services performed may vary and could result in our reporting amounts that are too high or too low in any particular period. There have been no material changes in estimates for the periods presented.

Stock-based Compensation

We account for all stock-based compensation payments to employees, directors and non-employees using an option pricing model for estimating fair value. Accordingly, stock-based compensation expense is measured based on the estimated fair value of the awards on the date of grant, net of estimated forfeitures. We recognize compensation expense for the portion of the award that is ultimately expected to vest over the period during which the recipient renders the required services to us using the straight-line method. In accordance with authoritative guidance, we remeasure the fair value of non-employee stock-based awards as the awards vest, and recognize the resulting value, if any, as expense during the period the related services are rendered.

Significant Factors, Assumptions and Methodologies Used in Determining Fair Value

We apply the fair value recognition provisions of ASC Topic 718, Compensation-Stock Compensation, or ASC 718. Determining the amount of stock-based compensation to be recorded requires us to develop estimates of the fair value of stock options as of their grant date. We recognize stock-based compensation expense ratably over the requisite service period, which in most cases is the vesting period of the award. Calculating the fair value of stock-based awards requires that we make highly subjective assumptions.

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We use the Black-Scholes option pricing model to value our stock option awards. Use of this valuation methodology requires that we make assumptions as to the volatility of our common stock, the expected term of our stock options, the risk free interest rate for a period that approximates the expected term of our stock options and our expected dividend yield. As a new public company, we do not have sufficient history to estimate the volatility of our common stock price or the expected life of the options. We calculate expected volatility based on reported data for similar publicly traded companies for which historical information is available and will continue to do so until the historical volatility of our common stock is sufficient to measure expected volatility for future option grants. We utilize data from a representative group of public companies to estimate expected stock price volatility. We select companies from the biopharmaceutical industry with similar characteristics to us, including those at a similar stage of development and with a similar therapeutic focus.

We use the "simplified method" to estimate the expected term of stock option grants to employees and directors. Under this approach, the weighted-average expected life is presumed to be the average of the contractual term (ten years) and the vesting term (generally four years) of our stock options, taking into consideration multiple vesting tranches. We utilize this method due to lack of historical exercise data and the plain-vanilla nature of our share-based awards. We have never paid, and do not anticipate paying, any cash dividends in the foreseeable future, and therefore use an expected dividend yield of zero in the option-pricing model. The risk-free rate is based on the yield curve of U.S. Treasury securities with periods commensurate with the expected term of the options being valued. We are also required to estimate forfeitures at the time of grant and revise those estimates in subsequent periods if actual forfeitures differ from our estimates. We use historical data to estimate pre-vesting option forfeitures and record stock-based compensation expense only for those awards that are expected to vest. To the extent that actual forfeitures differ from our estimates, the difference is recorded as a cumulative adjustment in the period the estimates are revised. Stock-based compensation expense recognized in the financial statements is based on awards that are ultimately expected to vest.

Fair Value of Common Stock

Prior to the completion of our IPO, we were required to estimate the fair value of our common stock underlying our stock-based awards when performing the fair value calculations using the Black-Scholes option pricing model. The fair value of our common stock underlying our stock-based awards was determined on each grant date by our board of directors, with input from management. All options to purchase shares of our common stock are intended to be granted with an exercise price per share no less than the fair value per share of our common stock underlying those options on the date of grant, based on the information known to us on the date of grant. In the absence of a public trading market for our common stock, on each grant date, we developed an estimate of the fair value of our common stock in order to determine an exercise price for the option grants. We determined the fair value of stock options using methodologies, approaches and assumptions consistent with the American Institute of Certified Public Accountants, or AICPA, Audit and Accounting Practice Aid Series: Valuation of Privately Held Company Equity Securities Issued as Compensation, or the AICPA Practice Guide. In addition, we considered various objective and subjective factors, along with input from management and contemporaneous valuations, to determine the fair value of our common stock, including:

external market conditions affecting the biotechnology industry; trends within the biotechnology industry; the prices at which we sold shares of preferred stock; the superior rights and preferences of the preferred stock relative to our common stock at the time of each grant; our results of operations and financial position; the status of our research and development efforts; our stage of development and business strategy; the lack of an active public market for our capital stock; and the likelihood of achieving a liquidity event, such as an IPO, or sale of our company in light of prevailing market conditions. 17



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Results of Operations

Comparison of the Three Months Ended June 30, 2014 and 2013

Three Months ended June 30, 2014 2013 Change (in thousands) Collaboration revenue $ 761$ 202$ 559 Operating expenses: Research and development 6,754 2,704 4,050 General and administrative 2,052 881 1,171 Total operating expenses 8,806 3,585 5,221 Loss from operations (8,045 ) (3,383 ) (4,662 ) Other (expense) income, net (76 ) (251 ) 175 Net loss $ (8,121 )$ (3,634 )$ (4,487 )



Revenue. Revenue was $761,000 for the three months ended June 30, 2014 compared to $202,000 for the three months ended June 30, 2013. The increase of $559,000 was due to revenue recognized pursuant to the ThromboGenics collaboration and license agreement entered into in May 2013.

Research and development expenses. Research and development expenses were $6.8 million for the three months ended June 30, 2014 compared to $2.7 million for the three months ended June 30, 2013. The increase of $4.1 million was due to an increase of $4.2 million of EBI-005 related development expenses. In early 2014, we initiated a pivotal Phase 3 clinical program evaluating EBI-005 for the treatment of moderate to severe dry eye disease. We also initiated a Phase 2 clinical trial to evaluate the use of EBI-005 in patients with allergic conjunctivitis in early 2014. These increases in research and development expenses were partially offset by decreases in research and development expenses as a result of the completion of the Phase 1b/2a clinical trial of EBI-005 in patients with moderate to severe dry eye disease in 2013. In addition, stock-based compensation expense allocated to research and development expenses was $144,000 for the three months ended June 30, 2014 compared to $375,000 for the three months ended June 30, 2013.

General and administrative expenses. General and administrative expenses were $2.1 million for the three months ended June 30, 2014 compared to $881,000 for the three months ended June 30, 2013. The increase of $1.2 million was primarily due to increased operating costs as a result of our transition from a private company to a public company, including legal, accounting, insurance and investor relations expenses. In addition, stock-based compensation expense allocated to general and administrative expenses was $357,000 for the three months ended June 30, 2014 compared to $15,000 for the three months ended June 30, 2013.

Other (expense) income, net. Other (expense) income, net was $(76,000) for the three months ended June 30 2014 compared to $(251,000) for the three months ended June 30, 2013.

Comparison of the Six Months Ended June 30, 2014 and 2013

Six Months ended June 30, 2014 2013 Change (in thousands) Collaboration revenue $ 1,329$ 202$ 1,127 Operating expenses: Research and development 12,573 7,200 5,373 General and administrative 3,990 1,820 2,170 Total operating expenses 16,563 9,020 7,543 Loss from operations (15,234 ) (8,818 ) (6,416 ) Other income (expense), net (109 ) (328 ) 219 Net loss $ (15,343 )$ (9,146 )$ (6,197 )



Revenue. Revenue was $1.3 million for the six months ended June 30, 2014 compared to $202,000 for the six months ended June 30, 2013. The increase of $1.1 million was due to revenue recognized pursuant to the ThromboGenics collaboration and license agreement entered into in May 2013.

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Research and development expenses. Research and development expenses were $12.6 million for the six months ended June 30, 2014 compared to $7.2 million for the six months ended June 30, 2013. The increase of $5.4 million was due to an increase of $5.3 million of EBI-005 related development expenses. In early 2014, we initiated a pivotal Phase 3 clinical program evaluating EBI-005 for the treatment of moderate to severe dry eye disease. We also initiated a Phase 2 clinical trial to evaluate the use of EBI-005 in patients with allergic conjunctivitis in early 2014. These increases in research and development expenses were partially offset by decreases in research and development expenses as a result of the completion of the Phase 1b/2a clinical trial of EBI-005 in patients with moderate to severe dry eye disease in 2013. In addition, stock-based compensation expense allocated to research and development expenses was $499,000 for the six months ended June 30, 2014 compared to $408,000 for the six months ended June 30, 2013.

General and administrative expenses. General and administrative expenses were $4.0 million for the six months ended June 30, 2014 compared to $1.8 million for the six months ended June 30, 2013. The increase of $2.2 million was primarily due to increased operating costs as a result of our transition from a private company to a public company, including legal, accounting, insurance and investor relations expenses. In addition, stock-based compensation expense allocated to general and administrative expenses was $638,000 for the six months ended June 30, 2014 compared to $21,000 for the six months ended June 30, 2013.

Other (expense) income, net. Other (expense) income, net was $(109,000) for the six months ended June 30 2014 compared to $(328,000) for the six months ended June 30, 2013.

Liquidity and Capital Resources

Sources of Liquidity

Since inception, we have incurred significant operating losses. All of our revenue to date has been collaboration revenue. To date, we have financed our operations primarily through private placements of our preferred stock and bridge notes convertible into our preferred stock, venture debt borrowings, our IPO, which we closed in February 2014, and, to a lesser extent, from a collaboration.

In May 2013, we entered into the collaboration and license agreement with ThromboGenics. Under this collaboration, ThromboGenics made a $1.75 million up-front, non-refundable cash payment to us and will fund the research services that we provide under the agreement.

Cash Flows

As of June 30, 2014, we had cash and cash equivalents of $45.0 million. Cash in excess of immediate requirements is invested in accordance with our investment policy, primarily with a view to liquidity and capital preservation.

The following table sets forth the primary sources and uses of cash for each of the periods set forth below:

Six Months Ended June 30, 2014 2013 (in thousands) Net cash provided by (used in): Operating activities $ (13,483 )$ (7,257 ) Investing activities (132 ) - Financing activities 50,704 6,453 Net increase (decrease) in cash and cash equivalents $ 37,089$ (804 )



Operating activities. Net cash used in operating activities was $13.5 million for the six months ended June 30, 2014, and consisted primarily of a net loss of $15.3 million adjusted for non-cash items, including stock-based compensation expense of $1.1 million, depreciation expense of $209,000 and a net change in operating assets and liabilities of $546,000.

Net cash used in operating activities was $7.3 million for the six months ended June 30, 2013, and consisted primarily of a net loss of $9.1 million adjusted for non-cash items, including stock-based compensation expense of $429,000, depreciation expense of $228,000 and a net change in operating assets and liabilities of $1.1 million.

Investing activities. Net cash used in investing activities consists of purchases of property and equipment. For the six months ended June 30, 2014, we purchased $132,000 of property and equipment. We made no such purchases during the six months ended June 30, 2013.

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Financing activities. Net cash provided by financing activities for the six months ended June 30, 2014 was $50.7 million and consisted primarily of net proceeds from the initial public offering. We received aggregate net proceeds from the IPO of approximately $50.2 million, after deducting underwriting discounts and commissions and other offering expenses payable by us, of which $1.3 million were paid in 2013.

Net cash provided by financing activities for the six months ended June 30, 2013 was $6.5 million and consisted primarily of proceeds from the issuance of convertible notes in the aggregate principal amount of $3.5 million to certain of our stockholders and additional borrowings under our debt facility of $3.0 million.

Funding Requirements

We anticipate that our expenses will increase substantially as compared to prior periods in connection with conducting our pivotal Phase 3 clinical program, consisting of two Phase 3 clinical trials evaluating the safety and efficacy of EBI-005, our most advanced product candidate, for the treatment of moderate to severe dry eye disease and a separate clinical trial evaluating the safety of treatment with EBI-005 for one year, and seeking marketing approval for EBI-005 for this indication in the United States.

We received scientific advice from the European Medicine Agency's, or EMA, Committee for Medicinal Products for Human Use, or CHMP, that indicates that the requirements for European registration in dry eye disease will differ from the requirements for registration in the United States and our pivotal Phase 3 clinical program is not consistent with the advice of the CHMP. We will continue to evaluate the scientific advice received from the EMA and plan to further discuss with the EMA a registration plan for EBI-005 in moderate to severe dry eye disease for the European Union. We may be required to conduct additional clinical trials to support an application for marketing approval of EBI-005 in the European Union. We anticipate that our expenses will increase substantially if we pursue, alone or in collaboration with third parties, the development of and seek marketing approval for, EBI-005 for the treatment of moderate to severe dry eye disease in the European Union.

Furthermore, with the closing of our IPO, we have begun to incur additional costs associated with operating as a public company. Accordingly, we may need to obtain substantial additional funding in connection with our continuing operations. If we are unable to raise capital when needed or on attractive terms, we could be forced to delay, reduce or eliminate our research and development programs or any future commercialization efforts.

Our expenses will also increase if and as we:

pursue the development of EBI-005 for the treatment of allergic conjunctivitis or additional indications or for use in other patient populations or, if it is approved, seek to broaden the label for EBI-005; continue the research and development of our other product candidates; seek to discover and develop additional product candidates; in-license or acquire the rights to other products, product candidates or technologies for the treatment of ophthalmic diseases; seek marketing approvals for any product candidates that successfully complete clinical trials; establish sales, marketing and distribution capabilities and scale up and validate external manufacturing capabilities to commercialize any products for which we may obtain marketing approval; maintain, expand and protect our intellectual property portfolio; hire additional clinical, quality control, scientific and management personnel; expand our operational, financial and management systems and personnel, including personnel to support our clinical development, manufacturing and planned future commercialization efforts and our operations as a public company; and increase our insurance coverage as we expand our clinical trials and commence commercialization of EBI-005.



As of June 30, 2014, we had cash and cash equivalents of $45.0 million. We believe that our cash and cash equivalents as of June 30, 2014 will enable us to fund our operating expenses, debt service obligations and capital expenditure requirements into the first quarter of 2016, without giving effect to any potential milestone payments we may receive under our collaboration and license agreement with ThromboGenics. We have based this estimate on assumptions that may prove to be wrong, and we could use our capital resources sooner than we currently expect.

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Our future capital requirements will depend on many factors, including:

the progress, costs and outcome of our pivotal Phase 3 clinical program for EBI-005 and of any clinical activities for regulatory review of EBI-005 outside of the United States; the costs and timing of process development and manufacturing scale up and validation activities associated with EBI-005; the costs, timing and outcome of regulatory review of EBI-005 in the United States, the European Union and in other jurisdictions; the costs and timing of commercialization activities for EBI-005 if we receive, or expect to receive, marketing approval, including the costs and timing of establishing product sales, marketing, distribution and outsourced manufacturing capabilities; subject to receipt of marketing approval, the amount of revenue received from commercial sales of EBI-005; the progress, costs and outcome of developing EBI-005 for the treatment of additional indications or for use in other patient populations, including our Phase 2 clinical trial to assess the potential therapeutic benefit of EBI-005 for the treatment of allergic conjunctivitis in patients who do not respond adequately to antihistamines and mast cell stabilizers; our ability to establish collaborations on favorable terms, if at all, particularly manufacturing, marketing and distribution arrangements for our product candidates; the scope, progress, results and costs of preclinical development, laboratory testing and, if we determine to proceed into clinical development, clinical trials of our other product candidates; the success of our collaboration with ThromboGenics; the costs and timing of preparing, filing and prosecuting patent applications, maintaining and enforcing our intellectual property rights and defending any intellectual property-related claims; and the extent to which we in-license or acquire rights to other products, product candidates or technologies for the treatment of ophthalmic diseases.



Until such time, if ever, as we can generate substantial product revenues, we expect to finance our cash needs through a combination of equity offerings, debt financings, government or other third-party funding, collaborations, strategic alliances, licensing arrangements and marketing and distribution arrangements. We do not have any committed external source of funds other than funding under our existing collaboration and license agreement with ThromboGenics in the form of research funding. Under this collaboration, we also may receive potential milestone payments upon the achievement of specified development, regulatory and other milestones and royalties with respect to future sales of collaboration products by ThromboGenics. ThromboGenics may terminate our existing collaboration for convenience on short notice. To the extent that we raise additional capital through the sale of equity or convertible debt securities, our stockholders' ownership interest will be diluted, and the terms of these securities may include liquidation or other preferences that adversely affect our stockholders' rights as holders of our common stock. Debt financing and equity financing, if available, may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, making capital expenditures or declaring dividends. Our pledge of specified assets as collateral to secure our obligations under our loan and security agreement with our venture debt lender, Silicon Valley Bank, may limit our ability to obtain additional debt financing. If we raise additional funds through government or other third-party funding, collaborations, strategic alliances, licensing arrangements or marketing and distribution arrangements, we may have to relinquish valuable rights to our technologies, future revenue streams, research programs or product candidates or grant licenses on terms that may not be favorable to us. If we are unable to raise additional funds through equity or debt financings when needed, we may be required to delay, limit, reduce or terminate our product development or future commercialization efforts or grant rights to develop and market products or product candidates that we would otherwise prefer to develop and market ourselves.

Contractual Obligations and Commitments

During the six months ended June 30, 2014, there were no material changes to our contractual obligations and commitments described under Management's Discussion and Analysis of Financial Condition and Results of Operations in the 2013 10-K.

Off-balance Sheet Arrangements

We did not have during the periods presented, and we do not currently have, any off-balance sheet arrangements, as defined in the rules and regulations of the Securities and Exchange Commission.

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