Incannex Healthcare Inc.: Form 10-Q for the period ended Mar 31, 2024

The following discussion should be read in conjunction with the unaudited consolidated financial statements and notes thereto included elsewhere in this Quarterly Report. This Quarterly Report contains forward-looking statements. These statements are subject to risks and uncertainties that could cause actual results and events to differ materially from those expressed or implied by such forward-looking statements. For a detailed discussion of these risks and uncertainties, see Item 3D “Risk Factors” in our 2023 Annual Report and this Quarterly Report. See also “Special Note Regarding Forward-Looking Statements.” We caution the reader not to place undue reliance on these forward-looking statements, which reflect management’s analysis only as of the date of this Quarterly Report. We undertake no obligation to update forward-looking statements, which reflect events or circumstances occurring after the date of this Quarterly Report.

Our accounting policies under U.S. GAAP are referred to in Note 1 of the Consolidated Financial Statements in this Quarterly Report. All amounts are in United States dollars, unless otherwise indicated.

Overview

We are a development stage enterprise at an early stage in the development of our drug candidate. We have incurred net losses since inception and expect to incur substantial and increasing losses for the next several years as we expand our research and development activities (“R&D”) and move our drug candidate into later stages of development. The process of carrying out the development of our drug candidates to later stages of development may require significant additional research and development expenditures, including pre-clinical testing and clinical trials, as well as for obtaining regulatory approval. To date, we have funded our operations primarily through the sale of equity securities, proceeds from the exercise of options, tax grants from R&D activities and interest income.

We receive tax incentives from the Australian government for R&D activities. Subject to certain exclusions, the Australian Government tax incentives provide benefits for eligible R&D activities. Entities are entitled to either (i) a 48.5% refundable tax offset for eligible companies with an aggregated turnover of less than A$20 million per annum or (ii) a non-refundable 38.5% tax offset for all other eligible companies. Our aggregated turnover is less than $3 million and not be controlled by one or more income tax exempt entities, we anticipate being entitled to a claim of 48.5% refundable tax offset for costs relating to eligible R&D activities during the year.

Results of Operations

Comparison of the Three and Nine Months Ended March 31, 2024 and 2023

The following tables summarize our results of operations for the periods presented (in thousands):

19

Operating Expenses

Research and development

Research and development expenses increased by $1.6 million for the three months ended March 31, 2024 compared to the three months ended March 31, 2023. The increase was primarily due to increases in expenses related to clinical research and product development for our clinical trials.

Research and development expenses increased by $3.9 million for the nine months ended March 31, 2024 compared to the nine months ended March 31, 2023. The increase was primarily due to due to the commencement of a Bioequivalence/Bioavailability clinical trial investigating IHL-42X in healthy volunteers, a Phase 2 clinical trial investigating IHL-675A in patients with Rheumatoid arthritis, and a Phase 2/3 clinical trial investigating IHL-42X in patients with obstructive sleep apnea.

Acquisition of in-process research and development

Acquisition of in-process research and development expense was recorded exclusively in the nine months ended March 31, 2023, because such expenses related to the acquisition of APIRx Pharmaceutical USA, LLC, which was recorded as an asset acquisition during such period. The acquisition of APIRx was completed in August 2022. We concluded that the acquisition of APIRx did not meet the definition of business under ASC 805, Business Combinations as APIRx did not have outputs present and a substantive process was not acquired.

General and Administrative

General and administrative expenses increased by $2.1 million for the three months ended March 31, 2024, compared to the three months ended March 31, 2023. The increase was due to increases of $1.9 million in salaries, and other employee benefits (from $1.0 million to $2.9 million) as a result of the issuance of restricted stock to our directors in March 2024, $304,000 in compliance, legal and regulatory as a result of increased legal and accounting expenses due to the increase cost of our reporting obligations following our re-domiciliation, $20,000 in occupancy expenses, $30,000 in depreciation expense, and $0.1 million in other administration expenses (from $0.1 million to $0.2 million), partially offset by a decrease of $0.3 million in advertising and investor relations (from $0.4 million to $0.1 million).

General and administrative expenses increased by $6.2 million for the nine months ended March 31, 2024, compared to the nine months ended March 31, 2023. The increase was due to increases of $4.6 million in salaries, and other employee benefits (from $3.1 million to $7.7 million), $1.2 million in compliance, legal and regulatory as a result of increased legal and accounting costs due to the increase expenses of our reporting obligations following our re-domiciliation (from $1.2 million to $2.4 million), $0.1 million in occupancy expenses, $0.04 million in advertising and investor relations, $0.3 million in other administration expenses, and $0.02 million in depreciation expense.

Other Income (Expense)

Benefit from R&D tax credit

Benefit from R&D tax credit decreased by $1.4 million for the three months ended March 31, 2024 compared to the three months ended March 31, 2023. The decrease was due to a decrease in the research and development tax credit received from the Australian Taxation Office for our research and clinical trials activities in Australia following finalization of the fiscal 2023 Australian tax return.

Benefit from R&D tax credit decreased by $7.5 million for the nine months ended March 31, 2024 compared to the nine months ended March 31, 2023. The decrease was due to a decrease in the research and development tax credit received from the Australian Taxation Office for our research and clinical trials activities in Australia following finalization of the fiscal 2023 Australian tax return.

Foreign exchange losses and Interest Income

Interest income decreased by $88,000 for the three months ended March 31, 2024 compared to the three months ended March 31, 2023, due to a decrease in income received from cash deposited in our bank accounts, and foreign exchange losses increased by $11,000 due to unfavorable currency exchange rates during the same period.

Foreign exchange losses increased by $17,000 for the nine months ended March 31, 2024 compared to the nine months ended March 31, 2023, due to unfavorable currency exchange rates, partially offset by an increase in interest income received from cash deposited in our bank accounts by $13,000 during the same period.

Currency translation adjustment, net of tax

Currency translation adjustment, net of tax increased $0.6 million for the three months ended March 31, 2024 compared to the three months ended March 31, 2023. The increase was due to currency translation of the financial statements from the Australian dollar to the U.S. dollar. We maintain our consolidated financial statements in the Australian dollar, which is our functional currency. However, our financial statements are translated into US dollars for reporting purposes. See our note 2 “Foreign Currency Translation” to our financial statements included in this Quarterly Report for further information.

Currency translation adjustment, net of tax decreased $1.8 million for the nine months ended March 31, 2024 compared to the nine months ended March 31, 2023. The decrease was due to currency translation of the financial statements from the Australian dollar to the U.S. dollar. We maintain our consolidated financial statements in Australian dollar, which is our functional currency. However, our financial statements are translated into U.S. dollars for reporting purposes. See our note 2 “Foreign Currency Translation” to our financial statements included in this Quarterly Report for further information.

Liquidity and Capital Resources

Sources of Liquidity

Since our inception, our operations have mainly been financed through the issuance of equity securities. Additional funding has come through interest earned from cash on term deposit.

As of March 31, 2024, we had cash of $9.3 million. We anticipate that our current cash will be sufficient for the current fiscal year and to fund our operations at least until December 2024. However, our forecast of the period of time through which our financial resources will be adequate to support our operations is a forward-looking statement that involves risks and uncertainties, and actual results could vary materially.

Due to our focus on research and development activities, we do not have ready access to credit facilities and, therefore, are not subject to externally imposed capital requirements. Our objective in relation to capital risk management is to balance our current working capital position against the requirements to meet research and development programs and corporate overheads.

We anticipate that we will require substantial additional funds in order to achieve our long-term goals and complete the research and development of our current drug candidates. We do not expect to generate significant revenue until we obtain regulatory approval to market and sell our drug candidate and sales of our drug candidate have commenced. We therefore expect to continue to incur substantial losses in the near future.

Our future capital requirements are difficult to forecast and will depend on many factors, including:

• the cost of filing, prosecuting, defending and enforcing any patent claims and other intellectual property rights;
• the scope, results and timing of preclinical studies and clinical trials;
• the costs and timing of regulatory approvals; and
• the costs of establishing sales, marketing and distribution capabilities.

Cash Flows

21

Cash flows from operating activities

Cash used in operating activities increased by $4.0 million for the nine months ended March 31, 2024, compared to the nine months ended March 31, 2023. The increase was due to an increase in prepaid expenses and other current assets (from $264,000 to $5.5 million), partially offset by positive cash flow regarding trade and other payables by $0.8 million.

Cash flows from investing activities

Cash used in financing activities increased by $129,000 for the nine months ended March 31, 2024 compared to the nine months ended March 31, 2023. The increase was due to an increase in cash used to purchase equipment to conduct our clinical trials.

Cash flows from financing activities

Cash provided by financing activities decreased to nil for the nine months ended March 31, 2024 compared to the nine months ended March 31, 2023. The decrease was due to a decrease in the proceeds from issuances of shares of common stock.

Critical Accounting Policies and Estimates

Our management’s discussion and analysis of our financial condition and results of operations is based on our unaudited interim consolidated financial statements as of March 31, 2024, which have been prepared in accordance with U.S. generally accepted accounting principles, or U.S. GAAP. The preparation of these unaudited interim consolidated financial statements requires our management to make judgments and estimates that affect the reported amounts of assets and liabilities at the date of the financial statements, as well as the reported revenue generated and expenses incurred during the reporting periods. Our estimates are based on our historical experience and on various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these judgments and estimates under different assumptions or conditions and any such differences may be material.

Stock Based Compensation

The Company records compensation expense for stock options based on the fair market value of the awards on the date of grant. The fair value of stock-based compensation awards is amortized over the vesting period of the award. Compensation expense for performance-based awards is measured based on the number of shares ultimately expected to vest, estimated at each reporting date based on management’s expectations regarding the relevant performance criteria. For certain awards, the Company estimates the fair value of share options and other equity-based compensation using a binomial option pricing model on the date of grant.

Income Taxes

Income taxes are accounted for using the liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Deferred tax assets are reduced by a valuation allowance if it is more likely than not that a portion of the deferred tax asset will not be realized. The Company reviews its uncertain tax positions regularly. An uncertain tax position represents the Company’s expected treatment of a tax position taken in a filed return, or planned to be taken in a future tax return or claim that has not been reflected in measuring income tax expense for financial reporting purposes. The Company recognizes the tax benefit from an uncertain tax position when it is more-likely-than-not that the position will be sustained upon examination on the basis of the technical merits or the statute of limitations for the relevant taxing authority to examine and challenge the tax position has expired.

See Note 2 “Basis of Presentation and Summary of Significant Accounting Policies” in our consolidated financial statements included in this Quarterly Report for further information.

Emerging Growth Company Status

We are an “emerging growth company,” as defined in the JOBS Act. Under the JOBS Act, emerging growth companies can delay adopting new or revised accounting standards issued subsequent to the enactment of the JOBS Act until such time as those standards apply to private companies.

We have elected to use this extended transition period to enable us to comply with new or revised accounting standards that have different effective dates for public and private companies until the earlier of the date we (i) are no longer an emerging growth company or (ii) affirmatively and irrevocably opt out of the extended transition period provided in the JOBS Act. As a result, our financial statements may not be comparable to companies that comply with new or revised accounting pronouncements as of public company effective dates.

Fully Diluted Share Capital

The number of issued and outstanding shares of common stock on a fully converted basis as at March 31, 2024 was as follows:

As a “smaller reporting company” (as defined by Item 10 of Regulation S-K), we are permitted to omit information required by this item.

Evaluation of Disclosure Controls and Procedures

Management evaluated, with the participation of our Chief Executive Officer and our Chief Financial Officer, the effectiveness of our disclosure controls and procedures as of the end of the period covered by this Quarterly Report on Form 10-Q. Based upon that evaluation, our Chief Executive Officer and our Chief Financial Officer concluded that our disclosure controls and procedures, as defined in Securities Exchange Act Rule 13a-15(e) and 15d-15(e), were effective as of March 31, 2024.

Changes in Internal Control over Financial Reporting

There was no change in our internal control over financial reporting identified in connection with the evaluation required by Rule 13a-15(d) and 15d-15(d) of the Securities Exchange Act of 1934 that occurred during the quarter ended March 31, 2024 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

We operate in a rapidly changing environment that involves a number of risks which could materially affect our business, financial condition or future results, some of which are beyond our control. In addition to the other information set forth in this Quarterly Report, the risks and uncertainties that we believe are most important for you to consider are discussed in Item 3D under the heading “Risk Factors” in our 2023 Annual Report.