Document
Table of Contents

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 
(Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2019
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _________ to  _________                   

Commission File Number: 001-38984
 
CASTLE BIOSCIENCES, INC.
(Exact name of registrant as specified in its charter)
 
Delaware
 
77-0701774
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)
 
 
 
820 S. Friendswood Drive, Suite 201, Friendswood, Texas
 
77546
(Address of principal executive offices)
 
(Zip Code)
(866) 788-9007
(Registrant’s telephone number, including area code)
 

Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
Common Stock, $0.001 par value per share
CSTL
The Nasdaq Global Market
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ¨ No x

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes x No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of ‘‘large accelerated filer,’’ ‘‘accelerated filer,’’ ‘‘smaller reporting company,’’ and ‘‘emerging growth company’’ in Rule 12b-2 of the Exchange Act.
Large accelerated filer
¨
Accelerated filer
¨
Non-accelerated filer
x
Smaller reporting company
x
 
 
Emerging growth company
x
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x

As of August 30, 2019, there were 17,069,094 shares of common stock, par value $0.001 per share, issued and outstanding.
 


Table of Contents

Table of Contents
 
 
Page
PART I.
Item 1.
 
 
 
 
 
Item 2.
Item 3.
Item 4.
 
 
 
PART II.
Item 1.
Item 1A.
Item 2.
Item 3.
Item 4.
Item 5.
Item 6.
 


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Table of Contents

PART I—FINANCIAL INFORMATION

Item 1. Financial Statements.

CASTLE BIOSCIENCES, INC.
CONDENSED BALANCE SHEETS
 
June 30, 2019
 
December 31, 2018
 
(unaudited)
 
 
ASSETS
 

 
 

Current Assets
 

 
 

Cash and cash equivalents
$
17,468,466

 
$
4,478,512

Accounts receivable, net
9,730,319

 
12,089,719

Inventory
550,894

 
882,233

Prepaid expenses and other current assets
774,885

 
675,562

Total current assets
28,524,564

 
18,126,026

 
 
 
 
Long-term accounts receivable, net
1,266,098

 
2,532,011

Property and equipment, net
1,743,170

 
1,528,996

Intangible assets, net

 
4,167

Other assets – long-term
1,813,311

 
213,735

Total assets
$
33,347,143

 
$
22,404,935

 
 
 
 
LIABILITIES, CONVERTIBLE PREFERRED STOCK AND STOCKHOLDERS’ DEFICIT
 
 
 
Current Liabilities
 
 
 
Accounts payable
$
2,084,910

 
$
1,450,766

Accrued compensation
2,784,746

 
4,571,011

Other accrued liabilities
1,616,866

 
715,244

Current portion of long-term debt
833,333

 

Convertible promissory notes (including $4,755,882 principal amount with related parties as of June 30, 2019) (Note 7)
4,425,819

 

Total current liabilities
11,745,674

 
6,737,021

Long-term debt
23,858,781

 
24,499,752

Preferred stock warrant liability
1,279,840

 
1,193,726

Deferred rent liability
56,690

 
43,587

Total liabilities
36,940,985

 
32,474,086

Commitments and Contingencies (Note 10)


 


Convertible Preferred Stock
 
 
 
Convertible preferred stock Series C, $0.001 par value, 503,056 shares authorized as of June 30, 2019 and December 31, 2018; 503,056 shares issued and outstanding as of June 30, 2019 and December 31, 2018; $2,486,645 and $2,417,195 aggregate liquidation preference as of June 30, 2019 and December 31, 2018, respectively.
1,500,994

 
1,500,994

Redeemable convertible preferred stock Series A, B, D, E-1, E-2, E-2A, E-3 and F, $0.001 par value, 11,846,877 and 9,640,493 shares authorized as of June 30, 2019 and December 31, 2018, respectively; 9,456,775 shares issued and outstanding as of June 30, 2019 and December 31, 2018; $59,368,051 and $57,570,036 aggregate liquidation preference as of June 30, 2019 and December 31, 2018, respectively.
45,107,730

 
44,995,157

Stockholders’ Deficit
 
 
 
Common stock, $0.001 par value; 17,308,384 and 15,102,000 shares authorized as of June 30, 2019 and December 31, 2018, respectively; 2,192,461 and 1,916,224 shares issued and outstanding as of June 30, 2019 and December 31, 2018, respectively.
2,192

 
1,916

Additional paid-in capital
9,910,882

 
921,360

Accumulated deficit
(60,115,640
)
 
(57,488,578
)
Total stockholders’ deficit
(50,202,566
)
 
(56,565,302
)
Total liabilities, convertible preferred stock and stockholders’ deficit
$
33,347,143

 
$
22,404,935


The accompanying notes are an integral part of these unaudited condensed financial statements.

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CASTLE BIOSCIENCES, INC.
CONDENSED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
(UNAUDITED)
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2019
 
2018
 
2019
 
2018
NET REVENUES
$
10,738,569

 
$
3,979,381

 
$
19,455,556

 
$
7,637,946

COST OF SALES
1,992,784

 
1,326,839

 
3,590,742

 
2,579,822

Gross margin
8,745,785

 
2,652,542

 
15,864,814

 
5,058,124

OPERATING EXPENSES
 
 
 
 
 
 
 
Research and development
1,317,237

 
1,159,197

 
2,711,088

 
2,421,887

Selling, general and administrative
6,820,927

 
4,159,755

 
12,867,549

 
8,387,546

Total operating expenses
8,138,164

 
5,318,952

 
15,578,637

 
10,809,433

Operating income (loss)
607,621

 
(2,666,410
)
 
286,177

 
(5,751,309
)
Interest income
5,529

 
2,240

 
26,318

 
7,623

Interest expense
(1,692,582
)
 
(524,843
)
 
(2,716,982
)
 
(1,055,068
)
Other income (expense), net
(189,647
)
 
34,038

 
(222,575
)
 
13,340

Loss before income taxes
(1,269,079
)
 
(3,154,975
)
 
(2,627,062
)
 
(6,785,414
)
Income tax expense

 

 

 

Net loss and comprehensive loss
(1,269,079
)
 
(3,154,975
)
 
(2,627,062
)
 
(6,785,414
)
Convertible preferred stock cumulative dividends
938,892

 
869,008

 
1,867,467

 
1,678,330

Accretion of redeemable convertible preferred stock to redemption value
56,775

 
55,795

 
112,573

 
105,020

Net loss and comprehensive loss attributable to common stockholders
$
(2,264,746
)
 
$
(4,079,778
)
 
$
(4,607,102
)
 
$
(8,568,764
)
 
 
 
 
 
 
 
 
Loss per share attributable to common stockholders, basic and diluted
$
(1.05
)
 
$
(2.15
)
 
$
(2.26
)
 
$
(4.52
)
 
 
 
 
 
 
 
 
Weighted-average shares outstanding, basic and diluted
2,152,965

 
1,897,084

 
2,035,393

 
1,897,070


The accompanying notes are an integral part of these unaudited condensed financial statements.


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CASTLE BIOSCIENCES, INC.
CONDENSED STATEMENTS OF CONVERTIBLE PREFERRED STOCK AND STOCKHOLDERS’ DEFICIT
(UNAUDITED)
 
Convertible
Preferred
Stock Series C
 
Redeemable
 Convertible
Preferred Stock
Series A, B, D, E-1,
 E-2, E-2A, E-3 and F
 
 
Common Stock
 
Additional
Paid-in
Capital
 
Accumulated
Deficit
 
Total
Stockholders’
Deficit
 
Shares
 
Amount
 
Shares
 
Amount
 
 
Shares
 
Amount
 
BALANCE, APRIL 1, 2018
503,056

 
$
1,500,994

 
8,559,894

 
$
39,613,737

 
 
1,897,084

 
$
1,897

 
$
822,729

 
$
(54,752,023
)
 
$
(53,927,397
)
Stock compensation expense

 

 

 

 
 

 

 
84,633

 

 
84,633

Exercise of common stock options

 

 

 

 
 

 

 

 

 

Issuance of Series F redeemable convertible preferred stock

 

 
868,959

 
5,022,592

 
 

 

 

 

 

Accretion of redeemable convertible preferred stock to redemption value:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Series E-1

 

 

 
1,042

 
 

 

 
(1,042
)
 

 
(1,042
)
Series E-2A

 

 

 
96

 
 

 

 
(96
)
 

 
(96
)
Series E-3

 

 

 
2,889

 
 

 

 
(2,889
)
 

 
(2,889
)
Series F

 

 

 
51,768

 
 

 

 
(51,768
)
 

 
(51,768
)
Exercise of redeemable convertible preferred stock warrants:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Series E-1

 

 
3,250

 
14,983

 
 

 

 

 

 

Series F

 

 
24,106

 
169,948

 
 

 

 

 

 

Net loss

 

 

 

 
 

 

 

 
(3,154,975
)
 
(3,154,975
)
BALANCE, JUNE 30, 2018
503,056

 
$
1,500,994

 
9,456,209

 
$
44,877,055

 
 
1,897,084

 
$
1,897

 
$
851,567

 
$
(57,906,998
)
 
$
(57,053,534
)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
BALANCE, APRIL 1, 2019
503,056

 
$
1,500,994

 
9,456,775

 
$
45,050,955

 
 
1,916,701

 
$
1,917

 
$
9,412,490

 
$
(58,846,561
)
 
$
(49,432,154
)
Stock compensation expense

 

 

 

 
 

 

 
138,808

 

 
138,808

Exercise of common stock options

 

 

 

 
 
275,760

 
275

 
416,359

 

 
416,634

Accretion of redeemable convertible preferred stock to redemption value:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Series E-1

 

 

 
1,043

 
 

 

 
(1,043
)
 

 
(1,043
)
Series E-2A

 

 

 
96

 
 

 

 
(96
)
 

 
(96
)
Series E-3

 

 

 
2,897

 
 

 

 
(2,897
)
 

 
(2,897
)
Series F

 

 

 
52,739

 
 

 

 
(52,739
)
 

 
(52,739
)
Net loss

 

 

 

 
 

 

 

 
(1,269,079
)
 
(1,269,079
)
BALANCE, JUNE 30, 2019
503,056

 
$
1,500,994

 
9,456,775

 
$
45,107,730

 
 
2,192,461

 
$
2,192

 
$
9,910,882

 
$
(60,115,640
)
 
$
(50,202,566
)

The accompanying notes are an integral part of these unaudited condensed financial statements.

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CASTLE BIOSCIENCES, INC.
CONDENSED STATEMENTS OF CONVERTIBLE PREFERED STOCK AND STOCKHOLDERS’ DEFICIT (CONTINUED)
(UNAUDITED)
 
Convertible
 Preferred
Stock Series C
 
Redeemable
 Convertible
Preferred Stock
Series A, B, D, E-1,
 E-2, E-2A, E-3 and F
 
 
Common Stock
 
Additional
Paid-in
Capital
 
Accumulated
Deficit
 
Total
Stockholders’
Deficit
 
Shares
 
Amount
 
Shares
 
Amount
 
 
Shares
 
Amount
 
BALANCE, JANUARY 1, 2018
503,056

 
$
1,500,994

 
7,611,010

 
$
34,538,255

 
 
1,896,469

 
$
1,896

 
$
809,183

 
$
(51,121,584
)
 
$
(50,310,505
)
Stock compensation expense

 

 

 

 
 

 

 
146,340

 

 
146,340

Exercise of common stock options

 

 

 

 
 
615

 
1

 
1,064

 

 
1,065

Issuance of Series F redeemable convertible preferred stock

 

 
1,809,564

 
9,990,482

 
 

 

 

 

 

Accretion of redeemable convertible preferred stock to redemption value:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Series E-1

 

 

 
2,072

 
 

 

 
(2,072
)
 

 
(2,072
)
Series E-2A

 

 

 
191

 
 

 

 
(191
)
 

 
(191
)
Series E-3

 

 

 
5,744

 
 

 

 
(5,744
)
 

 
(5,744
)
Series F

 

 

 
97,013

 
 

 

 
(97,013
)
 

 
(97,013
)
Exercise of redeemable convertible preferred stock warrants:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Series E-1

 

 
3,250

 
14,983

 
 

 

 

 

 

Series F

 

 
32,385

 
228,315

 
 

 

 

 

 

Net loss

 

 

 

 
 

 

 

 
(6,785,414
)
 
(6,785,414
)
BALANCE, JUNE 30, 2018
503,056

 
$
1,500,994

 
9,456,209

 
$
44,877,055

 
 
1,897,084

 
$
1,897

 
$
851,567

 
$
(57,906,998
)
 
$
(57,053,534
)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
BALANCE, JANUARY 1, 2019
503,056

 
$
1,500,994

 
9,456,775

 
$
44,995,157

 
 
1,916,224

 
$
1,916

 
$
921,360

 
$
(57,488,578
)
 
$
(56,565,302
)
Stock compensation expense

 

 

 

 
 

 

 
307,229

 

 
307,229

Exercise of common stock options

 

 

 

 
 
276,237

 
276

 
417,274

 

 
417,550

Accretion of redeemable convertible preferred stock to redemption value:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Series E-1

 

 

 
2,074

 
 

 

 
(2,074
)
 

 
(2,074
)
Series E-2A

 

 

 
191

 
 

 

 
(191
)
 

 
(191
)
Series E-3

 

 

 
5,760

 
 

 

 
(5,760
)
 

 
(5,760
)
Series F

 

 

 
104,548

 
 

 

 
(104,548
)
 

 
(104,548
)
Recognition of beneficial conversion feature on convertible promissory notes

 

 

 

 
 

 

 
8,377,592

 

 
8,377,592

Net loss

 

 

 

 
 

 

 

 
(2,627,062
)
 
(2,627,062
)
BALANCE, JUNE 30, 2019
503,056

 
$
1,500,994

 
9,456,775

 
$
45,107,730

 
 
2,192,461

 
$
2,192

 
$
9,910,882

 
$
(60,115,640
)
 
$
(50,202,566
)

The accompanying notes are an integral part of these unaudited condensed financial statements.

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CASTLE BIOSCIENCES, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED)
 
Six Months Ended June 30,
 
2019
 
2018
OPERATING ACTIVITIES
 

 
 
Net loss
$
(2,627,062
)
 
$
(6,785,414
)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
 
 
 
Depreciation
163,285

 
141,495

Stock compensation expense
307,229

 
146,340

Amortization of intangibles
4,167

 
18,673

Amortization of debt discounts and issuance costs
1,249,964

 
286,798

Change in fair value of preferred stock warrant liability
86,114

 
(13,341
)
Change in fair value of embedded derivative
136,461

 

Other
337

 

Change in operating assets and liabilities:
 
 
 
Accounts receivable
3,625,313

 
(621,175
)
Prepaid expenses and other current assets
(99,323
)
 
38,209

Inventory
331,339

 
(101,676
)
Other assets
(12,057
)
 
(100,968
)
Accounts payable
(524,029
)
 
(607,683
)
Accrued compensation
(1,786,265
)
 
331,465

Other accrued liabilities
901,622

 
33,305

Deferred rent liability
13,103

 
28,249

Net cash provided by (used in) operating activities
1,770,198

 
(7,205,723
)
 
 
 
 
INVESTING ACTIVITES
 
 
 
Purchases of property and equipment
(424,473
)
 
(184,610
)
Net cash used in investing activities
(424,473
)
 
(184,610
)
 
 
 
 
FINANCING ACTIVITIES
 
 
 
Proceeds from issuance of preferred stock and preferred stock warrants (including exercised warrants)

 
10,382,507

Proceeds from issuance of convertible promissory notes (including $4,755,882 from related parties), net of issuance costs
11,695,495

 

Proceeds from issuance of term debt, net of issuance costs
1,776,145

 

Proceeds from line of credit

 
1,000,000

Repayments on line of credit
(1,791,145
)
 

Payment of deferred offering costs
(453,816
)
 

Proceeds from exercise of common stock options
417,550

 
1,065

Net cash provided by financing activities
11,644,229

 
11,383,572

 
 
 
 
NET CHANGE IN CASH AND CASH EQUIVALENTS
12,989,954

 
3,993,239

Beginning of period
4,478,512

 
1,212,063

End of period
$
17,468,466

 
$
5,205,302

 
 
 
 
SUPPLEMENTAL DISCLOSURE OF CASH PAID (REFUNDED) FOR:
 
 
 
Interest
$
1,137,965

 
$
791,523

Income taxes
$
(150,000
)
 
$

 
 
 
 
DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
 
 
 
Accrued capital expenditures
$
11,721

 
$
7,168

Deferred offering costs and debt issuance costs incurred but not paid
$
1,204,850

 
$


The accompanying notes are an integral part of these unaudited condensed financial statements.

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CASTLE BIOSCIENCES, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)



1. Organization and Description of Business
Castle Biosciences, Inc. (the ‘‘Company’’) was incorporated in the state of Delaware on September 12, 2007. The Company is a commercial-stage dermatological cancer company focused on providing physicians and their patients with personalized, clinically actionable genomic information to make more accurate treatment decisions. The Company is based in Friendswood, Texas (a suburb of Houston, Texas) and its laboratory operations are conducted at the Company’s facility located in Phoenix, Arizona.
On July 11, 2019, the Company effected a 1-for-1.219 reverse stock split of its common stock. The par value and the authorized number of shares of common stock were not affected by the reverse stock split. The reverse stock split resulted in an adjustment to the Series A, B, C, D, E-1, E-2, E-2A, E-3, and F preferred stock conversion prices to reflect a proportional decrease in the number of shares of common stock to be issued upon conversion. The accompanying financial statements and notes to the financial statements give retroactive effect to the reverse stock split for all periods presented.
On July 29, 2019, the Company completed the initial public offering of its common stock (the “IPO”). In the IPO, the Company issued and sold 4,600,000 shares of its common stock, including 600,000 shares sold pursuant to the full exercise of the underwriters’ option to purchase additional shares, at a price to the public of $16.00 per share. The Company received approximately $66.0 million in net proceeds, after deducting underwriting discounts and commissions and other offering expenses payable by the Company. In connection with the IPO, on July 29, 2019 all convertible preferred stock and all convertible promissory notes converted into shares of common stock and all outstanding warrants to purchase shares of convertible preferred stock converted into warrants to purchase shares of common stock. The condensed financial statements, including share and per share amounts, do not give effect to the IPO or the related conversion of securities into shares of common stock.
Going Concern, Liquidity and Capital Resources
The Company has incurred significant operating losses since its inception. As of June 30, 2019, the Company had an accumulated deficit of $60.1 million and cash and cash equivalents totaling $17.5 million. The Company also has substantial indebtedness, the terms of which require it to meet a monthly six-month trailing revenue covenant. At the time of issuance of the Company’s financial statements as of December 31, 2018 and 2017 and for each of the years then ended, the Company disclosed that substantial doubt was raised about the Company’s ability to continue as a going concern, because its projections indicated potential non-compliance with this covenant during the next 12 months. As discussed in Note 8, “Long-Term Debt,” on June 13, 2019, the Company entered into an amendment to its debt agreement, which among other changes, modified the revenue covenant from a trailing six-month calculation to a trailing three-month calculation with revised revenue targets tested monthly. As a result, management now expects to be in compliance with the amended covenant during the next 12 months. The Company intends to fund planned operations for the next 12 months using its cash on hand, including net cash proceeds from the IPO, and collections from test report sales.
2. Summary of Significant Accounting Policies
Basis of Presentation
The Company’s financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (‘‘U.S. GAAP’’). The Company has no subsidiaries and all operations are conducted by the Company.
Unaudited Interim Financial Information
The accompanying balance sheet as of June 30, 2019; the statements of operations and comprehensive loss, the statements of convertible preferred stock and stockholders’ deficit for the three and six months ended June 30, 2019 and 2018; and the statements of cash flows for the six months ended June 30, 2018 and 2019 are unaudited. The unaudited interim financial statements have been prepared on the same basis as the audited annual financial statements and, in the opinion of management, reflect all adjustments, which include only normal recurring adjustments, necessary for the fair statement of the Company’s financial position as of June 30, 2019 and the results of its operations and its cash flows for the three and six months ended June 30, 2018 and 2019. The financial data and other information disclosed in these notes related to the three and six months ended June 30, 2018 and 2019 are also unaudited. The results for the three and six months ended June 30, 2019 are not necessarily indicative of results to be expected for the year ending December 31, 2019, any other interim periods, or any future year or period. The balance sheet as of December 31, 2018 included herein was derived from the audited financial statements as of that date. Certain disclosures have been condensed or omitted from the interim financial statements. These financial

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CASTLE BIOSCIENCES, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)


statements should be read in conjunction with the Company’s audited financial statements included in the Company’s final prospectus filed with Securities and Exchange Commission on July 26, 2019.
Use of Estimates
The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Significant items subject to such estimates include revenue recognition, the determination of fair value of the Company’s preferred stock warrants and convertible debt embedded derivatives, the valuation of stock options, assessing future tax exposure and the realization of deferred tax assets, the useful lives and recoverability of property and equipment, and contingent liabilities. The Company bases these estimates on historical and anticipated results, trends, and various other assumptions that the Company believes are reasonable under the circumstances, including assumptions as to future events. These estimates form the basis for making judgments about the carrying values of assets and liabilities and recorded revenues and expenses that are not readily apparent from other sources. Actual results could differ from those estimates and assumptions.
Operating Segments
Operating segments are identified as components of an enterprise about which separate discrete financial information is available for evaluation by the chief operating decision maker, or decision-making group, in making decisions on how to allocate resources and assess performance. The Company views its operations and manages its business as one operating segment. All revenues are attributable to U.S.-based operations and all assets are held in the United States.
Cash and Cash Equivalents including Concentrations of Credit Risk
Cash equivalents consist of short-term, highly liquid investments with original maturities of three months or less. Cash equivalents consist primarily of amounts invested in money market accounts. A majority of the Company’s cash and cash equivalents are deposited with a single financial institution. Deposits in this institution may exceed the amount of insurance provided on such deposits by the Federal Deposit Insurance Corporation for U.S. institutions. The Company has not experienced any losses on its deposits of cash and cash equivalents.
Management believes that the Company is not exposed to significant credit risk due to the financial position of the depository institutions in which those deposits are held.
Revenue Recognition
Revenue is recognized in accordance with Financial Accounting Standards Board (‘‘FASB’’) Accounting Standards Codification (‘‘ASC’’) Topic 606, Revenue from Contracts with Customers (‘‘ASC 606’’). In accordance with ASC 606, the Company follows a five-step process to recognize revenues: 1) identify the contract with the customer, 2) identify the performance obligations, 3) determine the transaction price, 4) allocate the transaction price to the performance obligations and 5) recognize revenues when the performance obligations are satisfied.
All of the Company’s revenues from contracts with customers are associated with the provision of diagnostic and prognostic cancer testing services. Most of the Company’s revenues are attributable to DecisionDx-Melanoma for cutaneous melanoma. The Company also provides a test for uveal melanoma, DecisionDx-UM. Information on the disaggregation of revenues by the Company’s significant third-party payors is included under Payor Concentration below. The Company has determined that it has a contract with the patient when the treating clinician orders the test. The Company’s contracts generally contain a single performance obligation, which is the delivery of the test report, and the Company satisfies its performance obligation at a point in time upon the delivery of the test report to the treating physician, at which point the Company can bill for the report. The amount of revenue recognized reflects the amount of consideration to which the Company expects to be entitled (the ‘‘transaction price’’) and considers the effects of variable consideration, which is discussed further below.
Once the Company satisfies its performance obligations and bills for the service, the timing of the collection of payments may vary based on the payment practices of the third-party payor and the existence of contractually established reimbursement rates. Most of the payments for the Company’s services are made by third-party payors, including Medicare and commercial health insurance carriers. Certain contracts contain a contractual commitment of a reimbursement rate that differs from the Company’s list prices. However, absent a contractually committed reimbursement rate with a commercial carrier or governmental program, the Company’s diagnostic tests may or may not be covered by these entities’ existing reimbursement policies. In addition, patients do not enter into direct agreements with the Company that commit them to pay any portion of the cost of the tests in the event that their insurance provider declines to reimburse the Company. The Company may pursue, on a case-by-case basis, reimbursement from such patients in the form of co-payments and co-insurance, in accordance with the contractual obligations

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CASTLE BIOSCIENCES, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)


that the Company has with the insurance carrier or health plan. These situations may result in a delay in the collection of payments.
The Medicare claims that are covered by policy under a Local Coverage Determination (‘‘LCD’’) are generally paid at the established rate by the Company’s Medicare contractor within 30 days from receipt. Medicare claims that were either submitted to Medicare prior to the LCD coverage commencement date or are not covered by the terms of the LCD but meet the definition of being medically reasonable and necessary pursuant to the controlling Section 1862(a)(1)(A) of the Social Security Act are generally appealed and may ultimately be paid at the first (termed ‘‘redetermination’’), second (termed ‘‘reconsideration’’) or third level of appeal (de novo hearing with an Administrative Law Judge (“ALJ”)). A successful appeal at any of these levels results in payment.
In the absence of LCD coverage or contractually established reimbursements rates, the Company has concluded that its contracts include variable consideration because the amounts paid by Medicare or commercial health insurance carriers may be paid at less than the Company’s standard rates or not paid at all, with such differences considered implicit price concessions. Variable consideration attributable to these price concessions is measured at the expected value using the ‘‘most likely amount’’ method under ASC 606. The amounts are determined by historical average collection rates by test type and payor category taking into consideration the range of possible outcomes, the predictive value of the Company’s past experiences, the time period of when uncertainties expect to be resolved and the amount of consideration that is susceptible to factors outside of the Company’s influence, such as the judgment and actions of third parties. Such variable consideration is included in the transaction price only to the extent it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainties with respect to the amount are resolved. Variable consideration may be constrained and excluded from the transaction price in situations where there is no contractually agreed upon reimbursement coverage or in the absence of a predictable pattern and history of collectability with a payor. Variable consideration for Medicare claims is deemed to be fully constrained when the payment of such claims is subject to approval by an ALJ at an appeal hearing, due to factors outside the Company’s influence (i.e., judgment or actions of third parties) and the uncertainty of the amount to be received is not expected to be resolved for a long period of time. Variable consideration is evaluated each reporting period and adjustments are recorded as increases or decreases in revenues. Included in revenues for the three months ended June 30, 2019 and 2018 were $3,257,045 and $(834,707), respectively, of revenue increases (decreases) associated with changes in estimated variable consideration related to performance obligations satisfied in previous periods. Such amounts of variable consideration for the six months ended June 30, 2019 and 2018 were revenue increases of $2,794,250 and $856,881, respectively. These amounts include (i) adjustments for actual collections versus estimated amounts and (ii) cash collections and the related recognition of revenue in current period for tests delivered in prior periods due to the release of the constraint on variable consideration.
Because the Company’s contracts with customers have an expected duration of one year or less, the Company has elected the practical expedient in ASC 606 to not disclose information about its remaining performance obligations. Any incremental costs to obtain contracts are recorded as selling, general and administrative expense as incurred due to the short duration of the Company’s contracts. Contract balances consisted solely of accounts receivable (both current and noncurrent) as of June 30, 2019 and December 31, 2018.
DecisionDx-Melanoma Claims Consolidation
In June 2017, the Company submitted to the Office of Medicare Hearings and Appeals (‘‘OMHA’’) a formal request to participate in a program that OMHA developed with the intent of providing appellants a means to have large volumes of claim disputes adjudicated at an accelerated rate. The program consolidates outstanding claims at the ALJ level and uses a statistical-sampling approach where five ALJ’s will determine reimbursement results for a sample of claims which are then extrapolated to the universe of claims. The consolidation includes 2,698 DecisionDx-Melanoma claims dating from 2013 through spring 2017. The judges who will review the sample sets have been identified and the hearings were held in April 2019 with a supplemental hearing in May 2019. No formal ruling has been issued to date. In accordance with ASC 606, the Company has not recognized (fully constrained the variable consideration) any revenues attributable to these claims in its financial statements pending the outcome of this matter. The Company expects to recognize any revenue adjudicated by the ALJ in the periodic reporting period in which the Company is notified of the ALJ hearing outcome.
Payor Concentration
The Company relies upon reimbursements from third-party government payors (primarily Medicare) and private-payor insurance companies to collect accounts receivable related to sales of its diagnostic tests.

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CASTLE BIOSCIENCES, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)


The Company’s significant third-party payors and their related revenues as a percentage of total revenues and accounts receivable balances are as follows:
 
Percentage of Revenues
 
Percentage of
 Accounts Receivable
 (current)
 
Percentage of
 Accounts Receivable
 (non-current)
 
Six Months Ended June 30,
 
 
 
2019
 
2018
 
June 30,
2019
 
Dec 31,
2018
 
June 30,
2019
 
Dec 31,
2018
Medicare
45
%
 
7
%
 
9
%
 
54
%
 
%
 
%
Medicare Advantage plans
22
%
 
25
%
 
25
%
 
9
%
 
10
%
 
18
%
United Healthcare
9
%
 
18
%
 
12
%
 
7
%
 
%
 
15
%
BlueCross BlueShield plans
7
%
 
27
%
 
32
%
 
18
%
 
52
%
 
41
%
Accounts Receivable and Allowance for Doubtful Accounts
The Company classifies accounts receivable balances that are expected to be paid more than one year from the balance sheet date as non-current assets. The estimated timing of payment utilized as a basis for classification as non-current is determined by analyses of historical payor-specific payment experience, adjusted for known factors that are expected to change the timing of future payments.
The Company accrues an allowance for doubtful accounts against its accounts receivable when it is probable that an account is not collectible, based on write off history, credit risk of specific accounts, aging analysis and other information available on specific accounts. The Company generally does not perform evaluations of customers’ financial condition and generally does not require collateral. Accounts receivable are written off when all efforts to collect the balance have been exhausted. Historically, the Company’s bad debt expense has not been significant. The allowance for doubtful accounts was zero as of June 30, 2019 and December 31, 2018. Adjustments for implicit price concessions attributable to variable consideration, as discussed above, are incorporated into the measurement of the accounts receivable balances and are not part of the allowance for doubtful accounts.
Fair Value of Financial Instruments
The carrying amount of the Company’s long-term debt approximates fair value due to its variable market interest rate and management’s opinion that current rates and terms that would be available to the Company with the same maturity and security structure would be essentially equivalent to that of the Company’s long-term debt. The estimated fair value of the Company’s convertible promissory notes at June 30, 2019 was $15,820,026. These estimated fair values are ‘‘Level 3’’ fair value measurements, as defined in Note 9.
Accrued Compensation
The Company accrues for liabilities under discretionary employee and executive bonus plans. These estimated compensation liabilities are based on progress against corporate objectives approved by the Board of Directors, compensation levels of eligible individuals, and target bonus percentage levels. The Board of Directors reviews and evaluates the performance against these objectives and ultimately determines what discretionary payments are made. The Company also accrues for liabilities under employee sales incentive bonus plans with accruals based on performance achieved to date compared to established targets. As of June 30, 2019 and December 31, 2018, the Company accrued approximately $1,941,502 and $3,197,234, respectively, for liabilities associated with these bonus plans. These amounts are classified as current or noncurrent accrued liabilities in the balance sheets based on the expected timing of payment.
Deferred Offering Costs
Deferred offering costs consist primarily of legal and accounting fees, which are direct and incremental fees related to the IPO. The deferred offering costs will be offset against the IPO proceeds, which will be recorded in the third quarter of 2019. As of June 30, 2019 and December 31, 2018, the Company had incurred $1,670,747 and $91,307, respectively, in deferred offering costs, which are reported as other assets - long-term on the balance sheets. Additionally, as of June 30, 2019, the Company had incurred debt issuance costs of $79,226 associated with a new convertible promissory note that was issued in July 2019.
Comprehensive Loss
Comprehensive loss is defined as a change in equity during a period from transactions and other events and circumstances from non-owner sources. The Company’s comprehensive loss was the same as its reported net loss for all periods presented.
Accounting Pronouncements Yet to be Adopted

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CASTLE BIOSCIENCES, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)


In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842), which supersedes FASB ASC Topic 840, Leases (Topic 840), and provides principles for the recognition, measurement, presentation and disclosure of leases for both lessees and lessors. The new standard requires lessees to apply a dual approach, classifying leases as either finance or operating leases based on the principle of whether or not the lease is effectively a financed purchase by the lessee. This classification will determine whether lease expense is recognized based on an effective interest method for finance leases or on a straight-line basis over the term of the lease for operating leases. A lessee is also required to record a right-of-use asset and a lease liability for all leases with a term of greater than 12 months regardless of classification. Leases with a term of 12 months or less will be accounted for similar to existing guidance for operating leases. For companies that are not emerging growth companies (‘‘EGCs’’), the ASU is effective for fiscal years beginning after December 15, 2018. For EGCs, the ASU is effective for fiscal years beginning after December 15, 2019. The Company will adopt the new standard using the modified retrospective method, under which the Company will apply Topic 842 to existing and new leases as of January 1, 2020, but prior periods will not be restated and will continue to be reported under Topic 840 guidance in effect during those periods. The Company anticipates that the adoption will not have a material impact on its statements of operations and comprehensive loss or its statements of cash flows but expects to recognize right-of-use assets and liabilities for lease obligations associated with its operating leases.
In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments—Credit Losses, which requires the measurement of expected credit losses for financial instruments carried at amortized cost, such as accounts receivable, held at the reporting date based on historical experience, current conditions and reasonable forecasts. The main objective of this ASU is to provide financial statement users with more decision-useful information about the expected credit losses on financial instruments and other commitments to extend credit held by a reporting entity at each reporting date. In November 2018, the FASB issued ASU No. 2018-19, Codification Improvements to Topic 326, Financing Instruments—Credit Losses, which included an amendment of the effective date for nonpublic entities. For non-EGCs, the ASU is effective for fiscal years beginning after December 15, 2019. For EGCs, the standard is effective for fiscal years beginning after December 15, 2021. The Company does not believe the adoption of this standard will have a significant impact on its financial statements, given its history of minimal bad debt expense relating to trade accounts receivable.
3. Loss Per Share
Loss per share is computed by dividing net loss attributable to common stockholders for the period by the weighted-average number of common shares outstanding during the period. Diluted loss per share reflects the additional dilution from potential issuances of common stock, such as stock issuable pursuant to the exercise of stock options, as well as from the possible conversion of the Company’s convertible preferred stock, convertible promissory notes and exercise of outstanding warrants. The treasury stock and if-converted methods are used to calculate the potential dilutive effect of these common stock equivalents. However, potentially dilutive shares are excluded from the computation of diluted loss per share when their effect is antidilutive. Due to the Company reporting a net loss attributable to common stockholders for all periods presented, all potentially dilutive securities were antidilutive and have been excluded from the computation of diluted loss per share.

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The table below provides potentially dilutive securities not included in the Company’s calculation of diluted loss per share because to do so would be antidilutive:
 
June 30, 2019
 
June 30, 2018
Shares issuable upon conversion of Series A convertible preferred stock
437,822

 
437,822

Shares issuable upon conversion of Series B convertible preferred stock
669,933

 
669,933

Shares issuable upon conversion of Series C convertible preferred stock
412,678

 
412,678

Shares issuable upon conversion of Series D convertible preferred stock
620,522

 
620,522

Shares issuable upon conversion of Series E-1 convertible preferred stock
680,592

 
680,592

Shares issuable upon conversion of Series E-2 convertible preferred stock
766,553

 
766,553

Shares issuable upon conversion of Series E-2A convertible preferred stock
22,400

 
22,400

Shares issuable upon conversion of Series E-3 convertible preferred stock
675,964

 
675,964

Shares issuable upon conversion of Series F convertible preferred stock
3,883,998

 
3,883,522

Shares issuable upon exercise of stock options
1,883,016

 
1,551,999

Shares issuable upon exercise of preferred stock warrants
141,259

 
146,541

Shares issuable upon conversion of convertible promissory notes(1)
948,227

 

Total
11,142,964

 
9,868,526

 
(1)
Based on conversion of the aggregate principal amount, plus accrued interest thereon, of the convertible promissory notes into shares of common stock based on the IPO price of $16.00 per share and assuming occurrence of the conversion on June 30, 2019. See Note 7 for additional information on the convertible promissory notes.
4. Property and Equipment, Net
Property and equipment, net consisted of the following:
 
June 30,
2019
 
December 31,
2018
Lab equipment
$
1,297,463

 
$
1,153,210

Computer equipment
715,067

 
629,437

Leasehold improvements
584,164

 
553,921

Furniture and fixtures
158,447

 
101,813

Total
2,755,141

 
2,438,381

Less accumulated depreciation
(1,011,971
)
 
(909,385
)
Property and equipment, net
$
1,743,170

 
$
1,528,996

Depreciation expense was recorded in the statements of operations and comprehensive loss as follows:
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2019
 
2018
 
2019
 
2018
Cost of sales
$
47,288

 
$
38,883

 
$
90,778

 
$
77,500

Research and development
1,803

 
879

 
3,407

 
1,850

Selling, general and administrative
36,774

 
31,320

 
69,100

 
62,145

Total
$
85,865

 
$
71,082

 
$
163,285

 
$
141,495


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5. Intangible Assets, Net
Intangible assets consist of capitalized license costs as follows:
 
June 30, 2019
 
December 31, 2018
 
Value
 
Weighted-Average Remaining Life (Years)
 
Value
 
Weighted-Average Remaining Life (Years)
Licenses
$
274,534

 
0
 
$
274,534

 
0
Accumulated amortization
(274,534
)
 
 
 
(270,367
)
 
 
Intangible assets, net
$

 
 
 
$
4,167

 
 
Amortization expense was $1,667 and $9,336, for the three months ended June 30, 2019 and 2018, respectively, and $4,167 and $18,673, for the six months ended June 30, 2019 and 2018, respectively.
6. Other Accrued Liabilities
Other accrued liabilities consisted of the following:
 
June 30, 2019
 
December 31, 2018
Accrued state income taxes
$
8,606

 
$
8,606

Accrued interest
514,633

 
185,580

Accrued royalties
183,046

 
239,751

Accrued service fees
907,089

 
281,307

Other
3,492

 

Total
$
1,616,866

 
$
715,244

7. Convertible Promissory Notes
In January and February 2019, the Company issued $11,770,375 principal amount of unsecured convertible promissory notes (the “Q1 2019 Notes”), of which $4,755,882 was with related parties (executive officers, members of the Company’s Board of Directors or entities affiliated with them). The Q1 2019 Notes bore simple interest at a rate of 8% per annum. Originally, the Q1 2019 Notes had a maturity date of January 31, 2020, but on July 3, 2019, the Company entered into an amendment with the holders of the Q1 2019 Notes to extend the maturity to June 30, 2020.
Prior to the actual conversion of the Q1 2019 Notes on July 29, 2019 (discussed below), on or before the maturity date, the entire outstanding principal amount of and accrued interest on the Q1 2019 Notes (the “Conversion Amount”), was automatically convertible into shares of the Company’s equity securities issued and sold in a single or series of related transactions, with the principal purpose of raising capital, in which the Company sold shares of such equity securities for aggregate gross proceeds of at least $10.0 million (the “Next Equity Financing”). The number of shares of such equity securities issuable in the Next Equity Financing was equal to the quotient of the Conversion Amount as of the closing date of the Next Equity Financing divided by a per share price that is equal to 80% of the lowest per share purchase price of the equity securities sold in the Next Equity Financing. If the Q1 2019 Notes had not been repaid or converted prior to the maturity date, then, at the request of the holders of a majority of the then-outstanding principal amount of and accrued interest on the Q1 2019 Notes, the Conversion Amount as of the maturity date would have converted into shares of the Company’s Series F redeemable convertible preferred stock, or any senior equity security issued by the Company after the first issuance of the Q1 2019 Notes, in each case at a conversion price equal to the price at which such security was last sold (which was $5.8208 for shares of the Company’s Series F redeemable convertible preferred stock). If a change of control of the Company would have occurred while the Q1 2019 Notes were outstanding, the Company would have been required to repurchase each Note from each holder at a repurchase price equal to two times the principal amount of such Note, plus any accrued and unpaid interest on such Note as of the date of such repurchase.
The closing of the IPO on July 29, 2019 was considered to be the Next Equity Financing under the terms of the Q1 2019 Notes. Accordingly, on July 29, 2019, the Conversion Amount of the Q1 2019 Notes as of such date converted into 954,074 shares of common stock based on a price of $12.80 per share, or 80% of the IPO price of $16.00 per share.
The Company determined that the Q1 2019 Notes contained embedded derivatives that required bifurcation and separate accounting under ASC 815-15, Embedded Derivatives. The Company determined that two such features in the Q1 2019 Notes

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CASTLE BIOSCIENCES, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)


were not considered clearly and closely related to the host debt instrument and therefore required separate accounting: a) the automatic conversion feature in connection with the Next Equity Financing and b) the acceleration upon a change of control feature. Under ASC 815-15, these features are bundled together and accounted for as a single, compound embedded derivative. The Company determined the fair value of the embedded derivative liability at the issuance date, creating a discount to the carrying value of the Q1 2019 Notes, which was being amortized over the life of the debt using the effective interest method. The embedded derivative was recorded at fair value each reporting period, with changes in fair value recorded as “other income (expense), net” in the statements of operations and comprehensive loss. The embedded derivative liability is included in the same line as the convertible promissory notes on the balance sheet, as detailed in the table below. No hedge accounting treatment was applied. For details regarding the fair value measurement of the embedded derivative, see Note 9.
The Company also assessed the optional conversion feature into Series F redeemable convertible preferred stock at maturity and determined that this feature did not meet the definition of a derivative instrument because the settlement terms involved the gross delivery of the underlying shares, which were not readily convertible to cash. The Company then assessed whether this feature caused the Q1 2019 Notes to be subject to ASC 470-20, Debt with Conversion and Other Options (“ASC 470-20”), and determined that the beneficial conversion feature guidance was applicable to the Q1 2019 Notes. At issuance, the Company concluded that the Q1 2019 Notes had a beneficial conversion feature because the fair value of the Series F preferred stock exceeded the conversion price of $5.8208 per share that would have been applicable under the optional conversion at maturity, assuming no other equity securities senior to Series F preferred stock were sold. Under ASC 470-20, this beneficial conversion feature was measured at intrinsic value as of the issuance date of the Q1 2019 Notes and was recognized as additional paid-in capital, creating a discount to the carrying value of the Q1 2019 Notes that was being amortized over the life of the debt using the effective interest method.
The following table summarizes the aggregate values recorded for the Q1 2019 Notes as of June 30, 2019 and at issuance:
 
June 30, 2019
 
At Issuance (1)
Liability component:
 
 
 
Principal (including $4,755,882 with related parties)
$
11,770,375

 
$
11,770,375

Unamortized issuance costs
(68,425
)
 
(74,880
)
Unamortized discount from beneficial conversion feature
(7,655,336
)
 
(8,377,592
)
Unamortized discount from embedded derivative
(2,573,202
)
 
(2,815,946
)
Net carrying amount of the liability component
1,473,412

 
501,957

Embedded derivative liability
2,952,407

 
2,815,946

Total
$
4,425,819

 
$
3,317,903

 
 
 
 
Equity Component:
 
 
 
Carrying value of beneficial conversion feature recorded in additional paid-in capital
$
8,377,592

 
$
8,377,592

 
(1)
The Q1 2019 Notes were issued on January 31, 2019, February 12, 2019 and February 27, 2019.
The Q1 2019 Notes were classified as current liabilities on the balance sheet due to their contractual maturity date. Amortization of discounts and issuance costs on the Q1 2019 Notes totaled $767,308 for the three months ended June 30, 2019, and $971,456 for the six months ended June 30, 2019, and were included in interest expense.
The amounts recognized in net loss for the three and six months ended June 30, 2019 for the embedded derivative liability are as follows:

 
 
 
Gain (Loss) Recognized in Net Loss
 
Statement of Operations and Comprehensive Loss Location
 
Three Months Ended June 30, 2019
 
Six Months Ended June 30, 2019
Derivatives Not Classified as Hedging Instruments
 
 
 
 
 
Embedded derivative in convertible promissory notes
Other income (expense), net
 
$
(90,376
)
 
$
(136,461
)

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CASTLE BIOSCIENCES, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)


The following table presents the fair value and balance sheet classification for the embedded derivative liability:
 
June 30, 2019
 
Classification
 
Balance Sheet Location
 
Fair Value
Derivatives Not Classified as Hedging Instruments
 
 
 
 
 
Embedded derivative in convertible promissory notes
Liability
 
Convertible promissory notes
 
$
2,952,407

8. Long-Term Debt
The Company’s long-term debt consists of term debt and a revolving line of credit and are presented in the table below:
 
June 30, 2019
 
December 31, 2018
Term debt
$
26,687,500

 
$
21,350,000

Revolving line of credit

 
5,000,000

Total principal amount
26,687,500

 
26,350,000

Unamortized discount and issuance costs
(1,995,386
)
 
(1,850,248
)
Total long-term debt
24,692,114

 
24,499,752

Less: Current portion of long-term debt
(833,333
)
 

Total long-term debt, less current portion
$
23,858,781

 
$
24,499,752

Term Debt
On November 30, 2018 (the ‘‘Closing Date’’), the Company entered into a new Loan and Security Agreement (the ‘‘2018 LSA’’) with Oxford Finance LLC (‘‘Oxford’’), as collateral agent, and Oxford and Silicon Valley Bank (‘‘SVB’’) as equal syndicated lenders (collectively, the ‘‘Lenders’’). The 2018 LSA replaced the Company’s previous lending arrangement and provided for a $20.0 million secured term loan credit facility (the ‘‘2018 Term Loan’’) and a credit line of up to $5.0 million (discussed in the ‘‘Revolving Line of Credit’’ section below), prior to amendment of the 2018 LSA on June 13, 2019, as discussed below. The Company’s obligations under the 2018 LSA are secured by substantially all of its assets, excluding intellectual property and subject to certain other exceptions and limitations. The Company has the right to prepay the 2018 Term Loan in whole or in part at any time, subject to a prepayment fee of 2.50% if prepaid on or prior to November 30, 2019, 1.50% if prepaid after November 30, 2019 and on or prior to November 30, 2020, and 0.75% thereafter. Upon prepayment, the Company is also obligated to pay a non-refundable early termination fee of $496,785. Amounts prepaid or repaid under the 2018 Term Loan may not be reborrowed. Initially, the 2018 LSA contained a financial covenant that required the Company to achieve a monthly trailing six-month revenue target each month throughout the term of the agreement, but the covenant was amended on June 13, 2019 and changed to a monthly trailing three-month target, as discussed further below. As of June 30, 2019 and December 31, 2018, the Company was in compliance with this covenant.
On June 13, 2019, the Company entered into an amendment to the 2018 LSA (the “Amendment”), which, among other things, (i) eliminated the $5.0 million revolving line and increased the 2018 Term Loan by $5.0 million and (ii) amended the financial covenant to require the Company to achieve a monthly trailing three-month revenue target each month throughout the term of the agreement. The financial covenant was amended primarily to align with a more current reflection of the Company’s revenue projections after taking into account the impact on the Company’s revenue recognition following the Company’s early adoption of ASC 606. The Amendment was accounted for as a modification of the 2018 LSA, and therefore no extinguishment gain or loss was recognized.
For each month through December 31, 2019, the trailing three-month revenue requirements are calculated as a percentage of the Company’s previously approved applicable monthly revenue projections. For monthly periods ending after December 31, 2019, the trailing three-months revenue requirements will be determined by the Lenders upon receipt and review of the Company’s monthly financial projections for the year, subject to certain specified criteria regarding minimum requirements. Revenues, if any, that the Company recognizes as a result of an ALJ appeal process from consolidated claims initiatives for DecisionDx-Melanoma do not count toward the minimum revenue requirements.
In addition, the 2018 LSA contains customary conditions of borrowing, events of default and covenants, including covenants that restrict the Company’s ability to dispose of assets, merge with or acquire other entities, incur indebtedness and make distributions to holders of the Company’s capital stock. Should an event of default occur, including the occurrence of a material adverse change, the Company could be liable for immediate repayment of all obligations under the 2018 LSA. Should the Company seek to further amend the terms of the 2018 LSA, the consent of Oxford and SVB would be required.

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CASTLE BIOSCIENCES, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)


The 2018 Term Loan bears interest at a floating rate equal to the greater of 1) 8.55% and 2) the 30-day U.S. LIBOR rate as reported in the Wall Street Journal on the last business day of the month that precedes the month in which the interest will accrue, plus 6.48%. The applicable interest rate on the 2018 Term Loan was 8.88% and 8.98% at June 30, 2019 and December 31, 2018, respectively. Interest on the 2018 Term Loan is payable monthly in arrears. The Company is permitted to make interest-only payments on the 2018 Term Loan for the 18 months following the Closing Date. The principal is required to be repaid in 30 equal monthly installments beginning on June 1, 2020. All unpaid principal and accrued and unpaid interest is due on November 1, 2022 (the “2018 Term Loan Maturity Date”). The Company is also obligated to make an additional final payment of 6.75% of the aggregate original principal amount, or $1,687,500 as of June 30, 2019, upon any prepayment or on the 2018 Term Loan Maturity Date. The final payment amount is being amortized as additional interest expense using the effective interest method over the term of the debt.
The 2018 Term Loan was fully funded on the Closing Date and the 2018 Revolving Line (defined and discussed below) was fully drawn upon on the Closing Date. Proceeds from the 2018 LSA were used to repay all outstanding obligations under the Company’s previous lending arrangement and to provide working capital. As a condition of the loan, the Company issued Series F preferred stock warrants to the Lenders with an aggregate initial fair value of $158,000. In accordance with ASC 480-10, the warrants are liability-classified as the underlying to the warrant is a puttable security. The initial recognition of the warrant liability created a discount to the debt, which is being amortized over the debt term using the effective interest method. The 2018 LSA was accounted for as a modification of the previous lending arrangement with SVB and Oxford, and therefore no extinguishment gain or loss was recognized.
Revolving Line of Credit
Under the 2018 LSA, the Company had a $5.0 million revolving line of credit (the ‘‘2018 Revolving Line’’), contingent on the Company’s satisfaction of borrowing base eligibility requirements. The 2018 Revolving Line bore interest at a floating per annum rate equal to the greater of 1) 6.25% and 2) 5.48% above the U.S. LIBOR rate. The applicable interest rate on the 2018 Revolving Line December 31, 2018 was 7.98%. The 2018 Revolving Line was to be due in full no later than November 30, 2020, but was eliminated in connection with the Amendment, as discussed above.
9. Fair Value Measurements
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market in an orderly transaction between market participants at the measurement date. The fair value hierarchy prioritizes the inputs to valuation techniques used in measuring fair value. There are three levels to the fair value hierarchy based on the reliability of inputs, as follows:
Level 1 – Observable inputs that reflect quoted prices (unadjusted) for identical assets or liabilities in active markets.
Level 2 – Inputs other than quoted prices included in Level 1 that are observable for the asset or liability, either directly or indirectly.
Level 3 – Unobservable inputs in which little or no market data exists, therefore requiring the Company to develop its own assumptions.
Financial instruments measured at fair value are classified in their entirety based on the lowest level of input that is significant to the fair value measurement. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires management to make judgments and consider factors specific to the asset or liability. The use of different assumptions and/or estimation methodologies may have a material effect on estimated fair values. Accordingly, the fair value estimates disclosed, or amounts recorded may not be indicative of the amount that the Company or holders of the instruments could realize in a current market exchange.

15

Table of Contents
CASTLE BIOSCIENCES, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)


The table below provides information, by level within the fair value hierarchy, of the Company’s financial assets and liabilities that are accounted for at fair value on a recurring basis as of June 30, 2019 and December 31, 2018:
 
As of June 30, 2019
 
Quoted Prices in Active Markets for Identical Items (Level 1)
 
Significant Other Observable Inputs (Level 2)
 
Significant Unobservable Inputs (Level 3)
 
Total
Liabilities:
 

 
 

 
 

 
 

Preferred stock warrants
$

 
$

 
$
1,279,840

 
$
1,279,840

Embedded derivative in convertible promissory notes(1)
$

 
$

 
$
2,952,407

 
$
2,952,407

 
(1)
Included in the convertible promissory notes line on the balance sheet.
 
As of December 31, 2018
 
Quoted Prices in Active Markets for Identical Items (Level 1)
 
Significant Other Observable Inputs (Level 2)
 
Significant Unobservable Inputs (Level 3)
 
Total
Liabilities:
 

 
 

 
 

 
 

Preferred stock warrants
$

 
$

 
$
1,193,726

 
$
1,193,726

The following table discloses the summary of changes in the fair value of the Level 3 fair value measurements:
 
 
Six Months Ended June 30, 2019
 
 
Preferred stock warrants
 
Embedded derivative in convertible promissory notes
Balance, December 31, 2018
 
$
1,193,726

 
$

Issuance of convertible promissory notes
 

 
2,815,946

Change in fair value included in net loss
 
86,114

 
136,461

Balance, June 30, 2019
 
$
1,279,840

 
$
2,952,407

The changes in fair value of the preferred stock warrant liability and the embedded derivative liability are recorded as ‘‘other income (expense), net’’ in the statements of operations and comprehensive loss.
The fair value of the warrants to purchase shares of Series A, Series B, Series E-1, Series E-2, Series E-2A, Series E-3, and Series F redeemable convertible preferred stock was estimated by management using the Black-Scholes option pricing model with the following assumptions:
 
June 30, 2019
 
December 31, 2018
Average expected life (years)
7
 
9
Expected stock price volatility
68%
 
64%
Risk-free interest rate
1.72% - 1.97%
 
2.51% - 2.69%
Dividend yield
—%
 
—%
Certain features of the Q1 2019 Notes were determined to be an embedded derivative requiring bifurcation and separate accounting, as discussed in Note 7. The fair value of the embedded derivative was determined based on a probability-weighted income approach discounted at an interest rate that is consistent with the appropriate market interest rate (8.93% as of June 30, 2019) considering management’s estimates of the probability of the possible settlement outcomes. As of June 30, 2019, management assessed the probability of the occurrence of the Next Equity Financing at 90%.

16

Table of Contents

10. Commitments and Contingencies
From time to time, the Company may be involved in legal proceedings arising in the ordinary course of business. The Company believes there is no threatened litigation or litigation pending that could have, individually or in the aggregate, a material adverse effect on the Company’s financial position, results of operations or cash flows.
11. Convertible Preferred Stock and Preferred Stock Warrants
Convertible Preferred Stock
Convertible preferred stock consists of the following:
Convertible Preferred Stock
 
As of June 30, 2019
 
Shares Authorized
 
Shares Issued and Outstanding
 
Original Issue Price per Share
 
Original Issue Value
 
Accumulated and Undeclared Dividends
 
Aggregate Liquidation Preference
 
Carrying Value
Series C
503,056

 
503,056

 
$
3.4800

 
$
1,750,635

 
$
736,010

 
$
2,486,645

 
$
1,500,994

Redeemable convertible preferred stock
 
As of June 30, 2019
 
Shares Authorized
 
Shares Issued and Outstanding
 
Original Issue Price per Share
 
Original Issue Value
 
Accumulated and Undeclared Dividends
 
Aggregate Liquidation Preference
 
Carrying Value
Series A
533,711
 
533,711
 

$2.1400

 
$
1,142,142

 
$
758,808

 
$
1,900,950

 
$
1,142,142

Series B
816,654
 
816,654
 

$2.2500

 
1,837,472
 
1,055,734
 
2,893,206
 
1,931,635
Series D
756,416
 
756,416
 

$3.7700

 
2,851,688
 
1,452,919
 
4,304,607
 
2,851,688
Series E-1
842,641
 
829,642
 

$3.7700

 
3,127,750
 
1,219,362
 
4,347,112
 
3,100,652
Series E-2
949,725
 
934,433
 

$4.5776

 
4,277,461
 
1,672,509
 
5,949,970
 
4,277,461
Series E-2A
27,306
 
27,306
 

$4.5776

 
124,996
 
43,696
 
168,692
 
124,953
Series E-3
830,554
 
824,000
 

$5.3405

 
4,400,572
 
1,538,248
 
5,938,820
 
4,399,269
Series F
7,089,870
 
4,734,613
 

$5.8208

 
27,559,235
 
6,305,459
 
33,864,694
 
27,279,930
Total
11,846,877
 
9,456,775
 
 
 

$45,321,316

 

$14,046,735

 

$59,368,051

 

$45,107,730

Convertible preferred stock
 
As of December 31, 2018
 
Shares Authorized
 
Shares Issued and Outstanding
 
Original Issue Price per Share
 
Original Issue Value
 
Accumulated and Undeclared Dividends
 
Aggregate Liquidation Preference
 
Carrying Value
Series C
503,056
 
503,056
 
$3.4800
 
$1,750,635
 
$
666,560

 
$
2,417,195

 
$
1,500,994


17

Table of Contents
CASTLE BIOSCIENCES, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)


Redeemable convertible preferred stock
 
As of December 31, 2018
 
Shares Authorized
 
Shares Issued and Outstanding
 
Original Issue Price per Share
 
Original Issue Value
 
Accumulated and Undeclared Dividends
 
Aggregate Liquidation Preference
 
Carrying Value
Series A
533,711
 
533,711
 

$2.1400

 
$
1,142,142

 
$
713,498

 
$
1,855,640

 
$
1,142,142

Series B
816,654
 
816,654
 

$2.2500

 
1,837,472
 
982,840
 
2,820,312
 
1,931,634
Series D
756,416
 
756,416
 

$3.7700

 
2,851,688
 
1,339,789
 
4,191,477
 
2,851,688
Series E-1
842,641
 
829,642
 

$3.7700

 
3,127,750
 
1,095,281
 
4,223,031
 
3,098,578
Series E-2
949,725
 
934,433
 

$4.5776

 
4,277,461
 
1,502,821
 
5,780,282
 
4,277,461
Series E-2A
27,306
 
27,306
 

$4.5776

 
124,996
 
38,738
 
163,734
 
124,762
Series E-3
830,554
 
824,000
 

$5.3405

 
4,400,572
 
1,363,688
 
5,764,260
 
4,393,509
Series F
4,883,486
 
4,734,613
 

$5.8208

 
27,559,235
 
5,212,065
 
32,771,300
 
27,175,383
Total
9,640,493
 
9,456,775
 
 
 
$
45,321,316

 

$12,248,720

 

$57,570,036

 

$44,995,157

As a result of a 1-for-1.219 reverse stock split effected on July 11, 2019, the conversion price for each series of preferred stock was adjusted to be the original issue price multiplied by 1.219. In connection with the IPO, effective July 29, 2019, all shares of preferred stock automatically converted into shares of common stock at rate of one common share for each 1.219 shares of preferred stock.
Preferred Stock Warrant Liabilities
Warrants to purchase redeemable convertible preferred shares consist of the following:
As of June 30, 2019

Warrants
 
Year of First Issuance
 
Shares
 
Exercise Price
 
Year of Expiration
 
Exercised
 
Expired
 
Outstanding
Series A Preferred Stock
 
2008
 
108,057
 

$2.1400

 
2015
 
(96,375)
 
(11,682)
 

Series B Preferred Stock
 
2010
 
86,667
 

$2.2500

 
2017
 
(86,667)
 

 

Series E-1 Preferred Stock
 
2014
 
16,249
 

$3.7700

 
2024
 
(3,250)
 

 
12,999
Series E-2 Preferred Stock
 
2014
 
15,292
 

$4.5776

 
2024
 

 

 
15,292
Series E-3 Preferred Stock
 
2015
 
6,554
 

$5.3405

 
2024
 

 

 
6,554
Series F Preferred Stock
 
2016
 
103,090
 

$5.8208

 
2026-2028
 

 

 
103,090
Series F Preferred Stock
 
2018
 
67,233
 

$0.0100

 
2023
 
(32,951
)
 

 
34,282
Total
 
 
 
403,142
 
 
 
 
 
(219,243
)
 
(11,682
)
 
172,217
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
As of December 31, 2018

Warrants
 
Year of First Issuance
 
Shares
 
Exercise Price
 
Year of Expiration
 
Exercised
 
Expired
 
Outstanding
Series A Preferred Stock
 
2008
 
108,057
 

$2.1400

 
2015
 
(96,375)
 
(11,682)
 

Series B Preferred Stock
 
2010
 
86,667
 

$2.2500

 
2017
 
(86,667)
 

 

Series E-1 Preferred Stock
 
2014
 
16,249
 

$3.7700

 
2024
 
(3,250)
 

 
12,999
Series E-2 Preferred Stock
 
2014
 
15,292
 

$4.5776

 
2024
 

 

 
15,292
Series E-3 Preferred Stock
 
2015
 
6,554
 

$5.3405

 
2024
 

 

 
6,554
Series F Preferred Stock
 
2016
 
103,090
 

$5.8208

 
2026-2028
 

 

 
103,090
Series F Preferred Stock
 
2018
 
67,233
 

$0.0100

 
2023
 
(32,951
)
 

 
34,282
Total
 
 
 
403,142
 
 
 
 
 
(219,243
)
 
(11,682
)
 
172,217
In connection with the IPO, effective July 29, 2019, all warrants to purchase shares of convertible preferred stock that were outstanding as of that date were converted into warrants to purchase shares of common stock at a rate of one common stock warrant for every 1.219 warrants to purchase shares of preferred stock. Exercise prices of the warrants were also adjusted upon conversion by multiplying each of the exercise prices by 1.219.

18

Table of Contents
CASTLE BIOSCIENCES, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)


12. Stock Incentive Plan and Stock Based Compensation
Stock Incentive Plan
Activity under the Company’s 2008 Stock Plan and the 2018 Stock Plan for the six months ended June 30, 2019 is set forth below:
 
 
 
 
 
Weighted-Average
 
 
 
Shares
Available for
Grant
 
Stock Options
Outstanding
 
Exercise
Price
 
Remaining
Contractual
Term (Years)
 
Aggregate
Intrinsic
Value
Balance as of December 31, 2018
458,682

 
1,659,596

 
$
1.99

 
 
 
 
Granted
(510,355
)
 
510,355

 
$
3.46

 
 
 
 
Exercised

 
(276,237
)
 
$
1.52

 
 
 
 
Forfeited/Cancelled
10,698

 
(10,698
)
 
$
2.94

 
 
 
 
Balance as of June 30, 2019
(40,975
)
 
1,883,016

 
$
2.46

 
7.62
 
$